An evaluation of joint venture as a mode of entry. The example of "Volkswagen"

TABLE OF CONTENT

List of tables

List of figures

List of abbreviations

1 Introduction

2 Basics of international market entry strategies
2.1 Market entry strategies in general
2.2 Motives for companies to go international

3 Strategies to enter the Chinese market
3.1 Significance of the Chinese market for car manufactures
3.2 Timing of market entry: When to enter?
3.3 Location of market entry: Which market to enter?
3.4 How to enter: Chinese Joint Venture

4 Volkswagen Case
4.1 Volkswagen in detail
4.2 Volkswagen´s Chinese market entry

5 Conclusion

Bibliography

Internet sources

LIST OF TABLES

Table 1: Advantages and disadvantages of JV´s in China Source: The Canadian Trade Commissioner Service (2014). URL: http://www.tradecommissioner.gc.ca/eng/document.jsp?did=132234 Date 11.12.2014

LIST OF FIGURES

Figure 1: Sprinkler Strategy and Waterfall Strategy, Source: Business Fundas (2011) URL: http://business-fundas.com/2011/market-entry-strategy-for-international-business/ Date 10.12.2014

LIST OF ABBREVIATIONS

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1 INTRODUCTION

In the last years the globalisation has increased the competition amongst the companies and forced them to enter foreign markets. The development of a market entry strategy is very complex and has long-term concerns for a company. Therefore choosing an adequate market entry strategy is of great significance. This term paper is concerned with the evaluation of joint venture as a mode of entry for the German car manufacturer Volkswagen entering the Chinese market. Therefore I will give a theoretical introduction into international market entry strategies and clarify advantages and disadvantages in chapter two. In the next chapter the emergence of possible market entry strategy for the Chinese market is checked. Therefore, the importance of the Chinese market will be shown at the beginning. Then the when and where will be explained. The fourth chapter shows Volkswagen´s way for entering the Chinese market.

2 BASICS OF INTERNATIONAL MARKET ENTRY STRATEGIES

2.1 MARKET ENTRY STRATEGIES IN GENERAL

The term of international market entry strategy is often equated in the literature with the terms of internationalization strategy, international activities, and foreign engagement.¹ Hence, the term of international market entry strategy can be well-defined as an “institu- tional form of international business activity which allows a company to implement its business strategy in a foreign market”.² The international market entry strategy tells a company how and when to open up a certain market and it determines the circumstances of the foreign engagement over a particular period of time. Because of its significance for long-term planning and sustainable effects, the choice of the international market entry strategy is the task of the top-management. Some companies even have special departments that take care of the planning and development of the international market entry strategy. Departments like this are doing researches to help managers finding a potential location for a new factory, a suitable market for a product launch, or a good partner with a good network.³ At this point it is important to adapt changing conditions inside the company and control the entry process.⁴

2.2 MOTIVES FOR COMPANIES TO GO INTERNATIONAL

There are many different motives for companies to enter global markets. Four of the most important are:

- Economies of Scale
- Economies of Scope
- Market opportunities
- Location advantages

These four motives will be explained in the following chapter. Economies of Scale:

Economies of Scale describe the cost advantage that arises with increased output of a product.⁵ That means by increasing the production and with that share the fixed costs over a higher amount of output a company can achieve Economies of Scale. By enlarging their business to foreign markets, companies can take advantage of an improved utilization of their capacities. The higher standardization is possible the better the utilization and achieving these Economies of Scale.⁶

Economies of Scope:

The concept of Economies of Scope tells the fact that “average costs decline as a firm makes a range of different products rather than specialize in just one product”⁷. It is realized when products can be produced together with less costs than producing them separate.⁸ Companies that operate internationally can reach Economies of Scope be- cause of the areal distribution of business activities. Such Economies of Scope can help to minimize the risk due to possible positive effects as results of working in a diversified surrounding.⁹

Market opportunities:

By expanding their business activities to new foreign markets, companies get the chance of internal growth and prospective profits.¹⁰ Often companies experiencing slower growth in their domestic markets are attracted go international and particularly choose rapidly growing emerging markets.¹¹ Companies seek for market opportunities with a low level of competition or in the best case uncontested market space.¹² This strategy is called “Blue Ocean Strategy”, when a new market space makes competition irrelevant.¹³

Location advantages:

Companies choose locations that allow them to experience advantages. These ad- vantages can be natural resources, labour force, and level of education, tax advantages or the size of the local population. Because of that, companies are able to operate more cost efficient and produce their products on a lower price or a higher quality.¹⁴

3 STRATEGIES TO ENTER THE CHINESE MARKET

3.1 SIGNIFICANCE OF THE CHINESE MARKET FOR CAR MANUFACTURES

“In the not-too-distant future, China will be the automaker's No 1 market.” (Phil Popham, group sales operation director for Jaguar-Land Rover)¹⁵ After the beginning of economic reforms in 1978, also known as the country´s “reform and opening”¹⁶ policy, the Chinese market became one of the most important and attracting international markets for foreign companies.¹⁷

China has experienced a high rate of economic growth and has a relative political stable surrounding. That distinguishes itself from other emerging markets like Indian, Brazil, South Africa, Russia or Eastern Europe by its high market potential, low labour costs, and ample business opportunities.¹⁸ Although its economy still grows, the dynamic got lost in the recent period of time. That is the consequence of the current restructuring of the economy by China's governance.¹⁹ Considering the size of the Chinese market with its 1.3 billion inhabitants and the tremendous rise of the purchasing power it is obvious why so many automotive businesses put their focus on China.²⁰ With increasing income more Chinese than ever can afford a car and especially German car manufactures bene- fit. They have a market share of 21, 8 percent which is a new record.²¹ Furthermore do- mestic car brands are not very popular which leads to a market opportunity for foreign companies. Hence, business in China offers companies increasing profits and expanding global market share. Not only China as a consumer market is attracting companies to enter, low labour cost and a high population makes manufacturing less cost intensive and improves their competitiveness.²²

3.2 TIMING OF MARKET ENTRY: WHEN TO ENTER?

When considering entering a new market the timing of market entry plays an important role. There are two timing strategies can be distinguished: first the sprinkler and second the waterfall strategy (see figure 1).

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Figure 1: Sprinkler Strategy and Waterfall Strategy Source: Business Fundas (2011)

In the waterfall strategy the business is spread in markets of individual countries succes- sively. To prevent as much risks as possible companies often select a market first that is culturally similar and does not create a too large geographic distance to the home mar- ket. Market research is typically done in advance and the company tries to establish an identity in the new market.²³ After this process has been accomplished in the first mar- ket, the next market will be targeted entered.²⁴ In the sprinkler strategy the market re- search part has to be more in detail, because a company approaches several markets simultaneously within a short period of time. Both of these two strategies have ad- vantages and disadvantages.

The biggest advantage of the waterfall strategy is the reduced business risk. An early termination of the market entry efforts is easier in case of failure.²⁵ It also gives the company enough time to make adjustments if possible before entering new markets. In addition the situation of having limited available resources prevents companies entering a large number of markets simultaneously. But the waterfall strategy allows them to expand internationally using their available resources sequentially.²⁶ A disadvantage of the waterfall strategy could be that the company refuses to enter new markets if the first try fails. Thus, the company would be stuck in their home market and miss potential chances in other markets because of its failure in the first entered market.²⁷ In addition using the waterfall strategy provides the risk that competitors entered the markets that are planned to enter before.²⁸ The sprinkler strategy works well for companies that want to move first to new markets. The short period of time in which the target markets are entered could be an advantage. Another advantage is the relatively rapid amortization of the fixed costs and the possibility to benefit from the economies of scale in case of suc- cess.²⁹

The huge demand of resources to enter several markets simultaneously is a clear disadvantage of the sprinkler strategy. The risk experiencing an expensive failure is higher than in the waterfall strategy.

3.3 LOCATION OF MARKET ENTRY: WHICH MARKET TO ENTER?

The choice of location is a key aspect of the market entry because it has long term con- sequences on the company.³⁰ Thus one of the first steps is to identify those markets which show great promise in order to increase profits and market share. Companies have to create certain criteria that are relevant to their success and find an appropriate evaluation method to make a selection. That involves a general opportunities and risks management of the markets´ potential. In order to illustrate certain markets external environment and the factors a company faces when entering, a PESTEL analysis can be conducted. PESTEL is a useful tool for strategic planning and stands for political, eco- nomic, social, technological, environmental, and legal factors.³¹ The political factors refer to legislation, tax legislation and political stability. For example, unstable political circumstances can influence company´s market entry strategy. The economic factors consider key industries, unemployment and other macroeconomic aspects. Social influ- ences are for example level of education or culture. The technological factors for in- stance are current technological level, innovations or the life cycle phases of products. Environmental factors include environmental aspects like garbage and pollution. The legal factors influence restrictions and for example working conditions based on law.³²

3.4 HOW TO ENTER: CHINESE JOINT VENTURE

Joint Ventures (JV) in China are a popular market entry form for foreign companies. A JV can be defined as “the sharing of assets, risks and profits, and participation in the ownership […] of a particular enterprise or investment project by more than one firm or economic group. The latter may include private corporations, public corporations or even states.”³³ To put it in other words, a JV is a business agreement for a corporation between at least two parties which is based on equity participation. They develop for a finite time a new, legally independent company.³⁴ To minimize as much risks as possi- ble by entering the Chinese market through a JV, foreign companies corporate with do- mestic established companies because the Chinese partner has a well-founded knowledge about the market environment and a distribution network on-site. JV as a market entry is a common strategy in China especially of the complex regulations and restriction the market offers.

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¹ Lentzsch, A. (2006), p. 27.

² Junglen, I. (2005), p. 5. 2

³ Lymbersky, C. (2008), p. 23.

⁴ Lentzsch, A. (2006), p. 28.

⁵ Investopedia URL: http://www.investopedia.com/ Date 10.12.2014

⁶ Andexer, T. (2006), pp. 26f

⁷ McEachern, W. A. (2012), p. 318.

⁸ McEachern, W. A. (2012), p. 318.

⁹ Yu, M. (2009), p. 54.

¹⁰ Tielmann, V. (2010), p. 2.

¹¹ DePamphilis, D. M. (2012), p. 659.

¹² Yu, M. (2009), p. 54.

¹³ Cp. Blue Ocean Strategy (2014), URL: http://www.blueoceanstrategy.com/ Date 11.12.2014

¹⁴ Yu, M. (2009), p. 54.

¹⁵ British Chamber (2011), URL: http://www.britishchamber.cn/ Date 12.12.2014

¹⁶ The Economist (2008), URL: http://www.economist.com/ Date 12.12.2014

¹⁷ Niedner, K. (2009), p. 20.

¹⁸ Zhao, M. A. X. (2005), p. 111.

¹⁹ Cp. Spiegel Online (2014), URL: http://www.spiegel.de/ Date 12.12.2014

²⁰ Niedner, K. (2009), p. 20

²¹ Cp. Automobil-Produktion (2014), URL: http://www.automobil-produktion.de/ 12.12.2014

²² Reuvid, J.; Yong, L. (2006), p. 39

²³ Cp. Business Fundas (2011), URL: http://business-fundas.com/ Date 10.12.2014

²⁴ Wolf, T. (2011), p. 2f.

²⁵ Wolter, D. (2010), p. 28

²⁶ Glowik, M.; Smyczek, S. (2011), p. 118

²⁷ Glowik, M.; Smyczek, S. (2011), p. 119

²⁸ Wolter, D. (2010), p. 28

²⁹ Wolter, D. (2010), p. 28.

³⁰ Schäfer, R. (2008), p. 134

³¹ Cp. The Management (2006), URL: http://www.themanagement.de/ Date 12.12.2014

³² Johnson, G.; Scholes, K.; Whittington, R. (2011), p. 80

³³ Höhner, B. (2007), p. 39

³⁴ Schorsch, M. (2009), p. 63