Page 242 - DMGT549_INTERNATIONAL_FINANCIAL_MANAGEMENT

Unit 14: Real Options and Cross-border Investments

(b) Labour problems can arise because of favouritism, unequal union contracts, seniority Notes
and a host of other potential grievances.
(c) The price paid by the acquirer may be too high and the method of financing too
costly.
Strategic alliances are currently very popular all over the world as a way of conducting
international business. Such alliances are specially popular in areas where the cost of
research and development is high and timely introduction of improvements is important.
For example, consider the strategic alliance between Crisil and Standard and Poor. Both
firms are in the credit rating industry. Both firms have retained their separate individual
identity and the strategic alliance between the two mainly refers to sharing of knowledge,
helping each other develop professionally in their areas of specialisation. Still another
level of cooperation might involve joint marketing and servicing agreements where each
partner represents the other in certain markets. This, in specific cases, helps to reduce
competition.
3. Licensing: Licensing is a popular method used by MNCs to profit from foreign markets
without the need to commit sizeable funds. Since the foreign producer is 100% locally
owned, the political risk tends to get minimised.
In licensing, a local firm in the host country produces the goods to the licensing
corporations’ specifications. When the goods are sold, a portion of the revenues, as specified
by the agreement, are sent to the licensor.
The main advantages of licensing are:

(a) Transportation costs are avoided as exporting is not required.
(b) Direct foreign investment is not required as a local firm handles production in the
host country.

The disadvantages of licensing are:
(a) License fees are generally lower than direct investment profits although the return
on the marginal investment might be higher.

(b) It is difficult to ensure quality control of the local firm’s production process.
(c) The possibility of technology secrets provided to the local firm may leak out to
competitive firms in that country. This may result in the establishment of a potential
competitor in third country markets.
(d) Possibility of improvement of the technology by the local licensee which then
enters the original firm’s home market. This may result in a possible loss of
opportunity to enter the licensee’s market with a direct investment later on.
MNCs have not typically used licensing of independent firms. Most licensing arrangements
have been with their own foreign affiliates or joint ventures. Licensing fees have been a
way to spread the organisation’s research and development costs among all operating
units and a way of repatriating profits in a form which is generally more acceptable to
some host countries than dividends.

4. Franchising: Another method of increasing cross border investment is through franchising.
In franchising, the firm allows an individual to sell its product in a specific territory. The
firm usually receives an initial fee plus periodic royalty payments in return. McDonald
and Pizza Hut have franchises all over the world.

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