This article was written by Jeffrey P. Graham and R.

Barry Spaulding and

originally appeared on the now defunct Citibank international business portal.
Copyright © Citibank. All Rights Reserved.

Understanding Foreign Direct

Investment (FDI)
Definition
Foreign direct investment (FDI) plays an extraordinary and growing role in
global business. It can provide a firm with new markets and marketing
channels, cheaper production facilities, access to new technology,
products, skills and financing. For a host country or the foreign firm which
receives the investment, it can provide a source of new technologies,
capital, processes, products, organizational technologies and
management skills, and as such can provide a strong impetus to
economic development. Foreign direct investment, in its classic
definition, is defined as a company from one country making a physical
investment into building a factory in another country. The direct
investment in buildings, machinery and equipment is in contrast with
making a portfolio investment, which is considered an indirect investment.
In recent years, given rapid growth and change in global investment
patterns, the definition has been broadened to include the acquisition of a
lasting management interest in a company or enterprise outside the
investing firm’s home country. As such, it may take many forms, such as a
direct acquisition of a foreign firm, construction of a facility, or
investment in a joint venture or strategic alliance with a local firm with
attendant input of technology, licensing of intellectual property, In the
past decade, FDI has come to play a major role in the internationalization
of business. Reacting to changes in technology, growing liberalization of
the national regulatory framework governing investment in enterprises,
and changes in capital markets profound changes have occurred in the
size, scope and methods of FDI. New information technology systems,
decline in global communication costs have made management of foreign
investments far easier than in the past. The sea change in trade and
investment policies and the regulatory environment globally in the past
decade, including trade policy and tariff liberalization, easing of
restrictions on foreign investment and acquisition in many nations, and
the deregulation and privitazation of many industries, has probably been
been the most significant catalyst for FDI’s expanded role.
The most profound effect has been seen in developing countries, where
yearly foreign direct investment flows have increased from an average of
less than $10 billion in the 1970’s to a yearly average of less than $20
billion in the 1980’s, to explode in the 1990s from $26.7billion in 1990 to
$179 billion in 1998 and $208 billion in 1999 and now comprise a large
portion of global FDI.. Driven by mergers and acquisitions and
internationalization of production in a range of industries, FDI into
developed countries last year rose to $636 billion, from $481 billion in
1998 (Source: UNCTAD)

Proponents of foreign investment point out that the exchange of

investment flows benefits both the home country (the country from which
the investment originates) and the host country (the destination of the
investment). Opponents of FDI note that multinational conglomerates are
able to wield great power over smaller and weaker economies and can
drive out much local competition. The truth lies somewhere in the middle.

For small and medium sized companies, FDI represents an opportunity to

become more actively involved in international business activities. In the
past 15 years, the classic definition of FDI as noted above has changed
considerably. This notion of a change in the classic definition, however,
must be kept in the proper context. Very clearly, over 2/3 of direct foreign
investment is still made in the form of fixtures, machinery, equipment and
buildings. Moreover, larger multinational corporations and conglomerates
still make the overwhelming percentage of FDI. But, with the advent of the
Internet, the increasing role of technology, loosening of direct investment
restrictions in many markets and decreasing communication costs means
that newer, non-traditional forms of investment will play an important role
in the future. Many governments, especially in industrialized and
developed nations, pay very close attention to foreign direct investment
because the investment flows into and out of their economies can and
does have a significant impact. In the United States, the Bureau of
Economic Analysis, a section of the U.S. Department of Commerce, is
responsible for collecting economic data about the economy including
information about foreign direct investment flows. Monitoring this data is
very helpful in trying to determine the impact of such investments on the
overall economy, but is especially helpful in evaluating industry segments.
State and local governments watch closely because they want to track
their foreign investment attraction programs for successful outcomes.

How Has FDI Changed in the Past Decade?

As mentioned above, the overwhelming majority of foreign direct

investment is made in the form of fixtures, machinery, equipment and
buildings. This investment is achieved or accomplished mostly via
mergers & acquisitions. In the case of traditional manufacturing, this has
been the primary mechanism for investment and it has been heretofore
very efficient. Within the past decade, however, there has been a
dramatic increase in the number of technology startups and this, together
with the rise in prominence of Internet usage, has fostered increasing
changes in foreign investment patterns. Many of these high tech startups
are very small companies that have grown out of research & development
projects often affiliated with major universities and with some government
sponsorship. Unlike traditional manufacturers, many of these companies
do not require huge manufacturing plants and immense warehouses to
store inventory. Another factor to consider is the number of companies
whose primary product is an intellectual property right such as a software
program or a software-based technology or process. Companies such as
these can be housed almost anywhere and therefore making a capital
investment in them does not require huge outlays for fixtures, machinery
and plants.

In many cases, large companies still play a dominant role in investment

activities in small, high tech oriented companies. However, unlike in the
past, these larger companies are not necessarily acquiring smaller
companies outright. There are several reasons for this, but the most
important one is most likely the risk associated with such high tech
ventures. In the case of mature industries, the products are well defined.
The manufacturer usually wants to get closer to its foreign market or
wants to circumvent some trade barrier by making a direct foreign
investment. The major risk here is that you do not sell enough of the
product that you manufactured. However, you have added additional
capacity and in the case of multinational corporations this capacity can be
used in a variety of ways.

High tech ventures tend to have longer incubation periods. That is, the
product tends to require significant development time. In the case of
software and other intellectual property type products, the product is
constantly changing even before it hits the marketplace. This makes the
investment decision more complicated. When you invest in fixtures and
machinery, you know what the real and book value of your investment will
be. When you invest in a high tech venture, there is always an element of
uncertainty. Unfortunately, the recent spate of dot.com failures is quite
illustrative of this point.

Therefore, the expanded role of technology and intellectual property has

changed the foreign direct investment playing field. Companies are still
motivated to make foreign investments, but because of the vagaries of
technology investments, they are now finding new vehicles to accomplish
their goals. Consider the following:
 Licensing and technology transfer. Licensing and tech transfer have
been essential in promoting collaboration between the academic and
business communities. Ever since legal hurdles were removed that
allowed universities to hold title to research and development done in
their labs, licensing agreements have helped turned raw technology into
finished products that are viable in competitive marketplaces. With some
help from a variety of government agencies in the form of grants for R&D
as well as other financial assistance for such things as incubator
programs, once timid college researchers are now stepping out and
becoming cutting edge entrepreneurs. These strategic alliances have had
a serious impact in several high tech industries, including but not limited
to: medical and agricultural biotechnology, computer software
engineering, telecommunications, advanced materials processing,
ceramics, thin materials processing, photonics, digital multimedia
production and publishing, optics and imaging and robotics and
automation. Industry clusters are now growing up around the university
labs where their derivative technologies were first discovered and
nurtured. Licensing agreements allow companies to take full advantage
of new and exciting technologies while limiting their overall risk to royalty
payments until a particular technology is fully developed and thus ready to
put new products into the manufacturing pipeline.

Reciprocal distribution agreements. Actually, this type of strategic

alliance is more trade-based, but in a very real sense it does in fact
represent a type of direct investment. Basically, two companies, usually
within the same or affiliated industries, agree to act as a national
distributor for each other’s products. The classical example is to be found
in the furniture industry. A U.S.-based manufacturer of tables signs a
reciprocal distribution agreement with a Spanish-based manufacturer of
chairs. Both companies gain direct access to the other’s distribution
network without having to pay distributor support payments and other
related expenses found within the distribution channel and neither
company can hurt the other’s market for its products. Without such an
agreement in place, the Spanish manufacturer might very well have to
invest in a national sales office to coordinate its distributor network,
manage warehousing, inventory and shipping as well as to handle
administrative tasks such as accounting, public relations and advertising.
Joint venture and other hybrid strategic alliances. The more traditional
joint venture is bi-lateral, that is it involves two parties who are within the
same industry who are partnering for some strategic advantage. Typical
reasons might include a need for access to proprietary technology that
might tip the competitive edge in another competitor’s favor, desire to
gain access to intellectual capital in the form of ultra-expensive human
resources, access to heretofore closed channels of distribution in key
regions of the world. One very good reason why many joint ventures only
involve two parties is the difficulty in integrating different corporate
cultures. With two domestic companies from the same country, it would
still be very difficult. However, with two companies from different
cultures, it is almost impossible at times. This is probably why pure joint
ventures have a fairly high failure rate only five years after inception. Joint
ventures involving three or more parties are usually called syndicates and
are most often formed for specific projects such as large construction or
public works projects that might involve a wide variety of expertise and
resources for successful completion. In some cases, syndicates are
actually easier to manage because the project itself sets certain limits on
each party and close cooperation is not always a prerequisite for ultimate
success of the endeavor. Portfolio investment. Yes, we know that you’re
paying attention and no we’re not trying to trip you up here. Remember
our definition of foreign direct investment as it pertains to controlling
interest. For most of the latter part of the 20th century when FDI became
an issue, a company’s portfolio investments were not considered a direct
investment if the amount of stock and/or capital was not enough to garner
a significant voting interest amongst shareholders or owners. However,
two or three companies with "soft" investments in another company could
find some mutual interests and use their shareholder power effectively for
management control. This is another form of strategic alliance, sometimes
called "shadow alliances". So, while most company portfolio investments
do not strictly qualify as a direct foreign investment, there are instances
within a certain context that they are in fact a real direct investment.

Why is FDI important for any consideration of

going global?
The simple answer is that making a direct foreign investment allows
companies to accomplish several tasks:

Avoiding foreign government pressure for local production.

Circumventing trade barriers, hidden and otherwise.
Making the move from domestic export sales to a locally-based national
sales office.
Capability to increase total production capacity.
Opportunities for co-production, joint ventures with local partners, joint
marketing arrangements, licensing, etc;
A more complete response might address the issue of global business
partnering in very general terms. While it is nice that many business
writers like the expression, “think globally, act locally”, this often used
cliché does not really mean very much to the average business executive
in a small and medium sized company. The phrase does have significant
connotations for multinational corporations. But for executives in SME’s,
it is still just another buzzword. The simple explanation for this is the
difference in perspective between executives of multinational
corporations and small and medium sized companies. Multinational
corporations are almost always concerned with worldwide manufacturing
capacity and proximity to major markets. Small and medium sized
companies tend to be more concerned with selling their products in
overseas markets. The advent of the Internet has ushered in a new and
very different mindset that tends to focus more on access issues. SME’s
in particular are now focusing on access to markets, access to expertise
and most of all access to technology.

What would be some of the basic requirements for companies

considering a foreign investment?

Depending on the industry sector and type of business, a foreign direct

investment may be an attractive and viable option. With rapid globalization
of many industries and vertical integration rapidly taking place on a global
level, at a minimum a firm needs to keep abreast of global trends in their
industry. From a competitive standpoint, it is important to be aware of
whether a company’s competitors are expanding into a foreign market
and how they are doing that. At the same time, it also becomes important
to monitor how globalization is affecting domestic clients. Often, it
becomes imperative to follow the expansion of key clients overseas if an
active business relationship is to be maintained.

New market access is also another major reason to invest in a foreign

country. At some stage, export of product or service reaches a critical
mass of amount and cost where foreign production or location begins to
be more cost effective. Any decision on investing is thus a combination of
a number of key factors including:

assessment of internal resources

competitiveness,

market analysis
market expectations

From an internal resources standpoint, does the firm have senior

management support for the investment and the internal management and
system capabilities to support the set up time as well as ongoing
management of a foreign subsidiary? Has the company conducted
extensive market research involving both the industry, product and local
regulations governing foreign investment which will set the broad market
parameters for any investment decision? Is there a realistic assessment in
place of what resource utilization the investment will entail? Has
information on local industry and foreign investment regulations,
incentives, profit retention, financing, distribution, and other factors been
completely analyzed to determine the most viable vehicle for entering the
market (greenfield, acquisition, merger, joint venture, etc.)? Has a plan
been drawn up with reasonable expectations for expansion into the
market through that local vehicle? If the foreign economy, industry or
foreign investment climate is characterized by government regulation,
have the relevant government agencies been contacted and concurred?
Have political risk and foreign exchange risk been factored into the
business plan?

Outside of the analysis of internal resources, a vast amount of information

is needed to assess the viability and ultimate method of foreign investment
as outlined above. Much of this information is available online through a
range of websites and portals

Trade leads are a very important aspect of the import-export segment of

international business. Until very recently, gaining access to reliable
sources of trade leads was a very expensive and time consuming
proposition for many small and medium sized companies (SME's). In the
United States, the Department of Commerce was the sole purveyor of
trade leads. Oh there were several so called "sources" for trade leads, but
most originated with the Department of Commerce. As the individual
States became more dependant upon international trade and investment
for their own economic development, their international divisions began
soliciting trade leads independently of the US Department of Commerce.
In either case, companies paid a monthly subscription fee in order to gain
access to what was available, whether it was appropriate or not. With the
proliferation of trade lead sources available on the World Wide Web
(WWW), access to trade leads is no longer a problem. What has not
changed, however, is the time involved in handling trade leads.

Enthusiastic proponents of the Internet will always tell anybody

willing to suspend common sense that more is better. What is
wrong with this concept, as is wrong with all Internet hype, is the
assumption that the additional information provided by the Internet
can be easily assimilated into a business enterprise and made
useful without any cost whatsoever. Therefore, the proliferation of
trade leads now available on the World Wide Web and in Usenet
Groups should translate into more and better opportunities for
everybody. Nothing could be further from the truth because the real
problem with trade leads, is that most of them are of questionable
value.

First of all, for purposes of this discussion, let me define what I

mean by a trade lead. A trade lead is a specific offer to buy or sell a
particular product or service or a request for participation in a
business venture which is then posted for worldwide dissemination,
either to a government agency or a private group. A trade lead
usually implies a specific intent to conclude a transaction within a
reasonable amount of time. The time factor and intent to conclude a
transaction is what supposedly differentiates a trade lead from a
company announcement or advertisement. Trade leads can be
categorized into two groups: 1)foreign government tenders and 2)
general procurement.

1) When a foreign government is going to purchase some

equipment for a project or possibly some services such as
engineering or planning, it issues a tender offer for the products or
services involved. Foreign firms wishing to bid on such offers
usually have to pay a fee to get a copy of the offer and the
company requirements. While this fee may be reasonable, it starts
to become expensive if you bid on several tenders. Often a
performance bond must be posted as well. For those of you who
thought that English was the international business language, tell
that to the foreign government agencies who require that their
tender offer bids be completed in the language of their country.

What most SME's do not know is that usually foreign tenders

require the participation of a local company. What happens to many
SME's is that they spend good money only to find out that they are
actually not eligible to bid on the tender even though they might be
really capable of providing the good or service. Often, the tender
offer is not really well circulated outside of the country until the last
possible moment. What usually happens then is that a number of
companies in that country will solicit their overseas contacts with a
letter stating that their company is participating in this tender and
has an excellent chance of winning the bid with your company's
assistance. You are asked to provide an itemized quote including
the manufacturer's name and brochures and then you are required
to add a 10-15% commission for the company.

One experience in particular demonstrated for me why pursuing

foreign tenders is not very easy. Several years ago, while working
as an export manager for a global trading company, I was
mandated to pursue a foreign tender whose value I thought to be
questionable. However, the new owner of the company knew
nothing about international trade and was certain that I was wrong.
He felt it was important to pursue every lead. In this instance, there
were only three companies in the entire world which could provide
the equipment as specified in the tender offer. Two of those refused
to give me a price quotation because they recognized the tender
offer and did not wish to pursue it. In both cases, the export
managers told me that they would be happy to work with a trading
company, especially in markets where they had no representation,
but that they generally did not bid on foreign government tender
offers because they were not comfortable with the commission
structure. The third company cheerfully gave me a price quotation
which they sent by fax. One page was missing and I had to call to
request it. The clerk who responded apologized profusely and then
told me that she was glad that I had caught her mistake because
the previous ten companies who made the exact same request for
quotation had not. The foreign government finally chose two local
companies to compete as the project's agent. They both called the
third company asking for a large commission which was refused.
The project was finally dropped.

Foreign tender offers often tend to generate very large

commissions for local companies who are in good standing with the
government agency making the purchase. One reason for making
the tender is to lower the prices or obtain more favorable terms for
the foreign government agency which is actually the real buyer. It
makes sense to participate in a foreign tender offer as a
subcontractor to the publicly acknowledged bid winner. Estimate
what it will cost you to answer an RFQ (request for quotation) and
any associated expense in inventory maintenance or initial work up,
whatever the case may be, and then have the bid winner post a
cash performance bond, if it is a domestic company or open a letter
of credit in your favor if the company is foreign. This eliminates the
possibility of your company wasting its time with pretenders. If a
company is serious enough to post a performance bond or open a
letter of credit, then and only then are you on safe ground. If you
already have an existing relationship with a distributor in a country
and that distributor wants to bid on part of a tender and makes a
special request for quotation, you should , of course respond.

Most foreign tender offers involve huge projects of one kind or

another and by default they eliminate most SME's because they are
only capable of providing small parts of the whole project. We do
not think it is wise for export trading companies or the export
departments of small or medium sized companies to pursue foreign
government tenders unless they are dealing directly with an
established distributor in that market who already handles their
products or as a sub-contractor to the publicly announced contract
winner with a performance bond/purchase order from a domestic
company or a letter of credit from a foreign company. We recognize
that these offers often seem very appealing but they can present
complex business issues which need to be resolved by competent
international business professionals. Unless a company has this
talent in house, it can be a very expensive proposition to just
evaluate a deal without any chance of closing a transaction.

Note to our foreign readers: We would give you the very same
advice about pursuing state and federal contracts in the United
States.

2) General procurement trade leads are usually posted for three

reasons: a) to advertise a company, b)to put price pressure on a
local distributor or c) to begin negotiating for a later purchase or
participation in a business venture. Prior to the proliferation of
WWW sites and Usenet groups dedicated to this activity,
companies in the US paid the Dept. of Commerce to access its
BBS for trade leads. Many companies which entered the export
business in the 80's were very surprised to find out just how
inaccurate and unusable were many of these trade leads.
According to my own business contacts, the situation was very
similar in many foreign countries as well.

Many trade leads contain more information about the company's

business activity than they do about the particular transaction being
identified. Others ask for manufacturers brochures and contact
information and quite a bit of other information.

Who places trade leads? Foreign distributors know exactly where to

go when they want to buy something for resale. They do not have
to place a trade lead to procure anything except in very rare cases.
If a foreign distributor is placing a trade lead, it might be looking for
a new relationship or thinking about adding a new product to its
line. Most distributors will be straightforward and say that they are
looking for new relationships. End users tend to be more unwilling
to divulge their interest as they are often competing with distributors
in their home market.

If you talk to people who actually sell in foreign markets, they will
privately tell you that their best leads are the ones which they
generate themselves usually by direct mail.

So that my foreign readers are not offended and my American

readers clearly understand the message which I am trying to
convey, trade leads can be valuable information but they must be
interpreted properly. I am not implying that foreigners or Americans
are being deceptive when they post trade leads. I am saying that
newbies to foreign trade who read a couple of magazine articles
and think that they are ready to immediately jump into import-export
trade are fooling themselves. And it is these people who often
make the most serious mistakes about responding to trade leads. A
trade lead means something quite different to any experienced
international trader who understands how business transactions are
concluded in foreign markets.

The Internet presents troubling issues even for the most

experienced international business people because of the
enormous amount of misleading information which is pumped into
the system; a system which is not yet ready to process this amount
of information. One is really evaluating the company which posts
the trade lead and this is now a very tedious process. Twenty years
ago, one could check a telex address and some bank references
and know rather quickly how credible a particular company might
be in a particular market because there were far fewer companies
and individuals doing business. If a company did not own its own
telex machine but used a telex service, this was one clearly
distinguishing characteristic which was quite helpful in the
evaluation process. Since 1987, the year generally accepted as the
turning point for the domination of facsimile machines worldwide, it
has become much easier for small companies to enter global
business as traders and offer specialized international business
services. Since 1993, when the browser technology really began to
take off and the Internet began to seriously emerge as a
marketplace, the changes have been staggering. In the United
States, anybody with $18.95 per month can have unlimited access
to the Internet, 7 days a week-24 hours per day. With fax machines
costing less than $200 and computers as little as $1000 per
system, anybody can get two simple telephone lines and one room
in a house, apartment or commercial space and set up their
business very easily for a reasonable amount of money.

It is not unusual for people who are just wishfully thinking to write
and post trade leads which are designed primarily to elicit
responses. These "companies" have limited capability to engage in
a business transaction, but their access to the Internet allows them
to proliferate what many call "trade leads" but which almost always
turn out to be worthless junk. The problem is that these so called
trade leads present very appealing business opportunities and are
often skillfully written. Such postings can send companies on time
consuming and very expensive fishing expeditions which yield no
sales and have little potential for future business as well.

A trade lead in 1997 means something quite different than it did in

1977; both here in the United States and around the world as well.
Newbies to international business are going to have to face this
dilemma head on because it is now an integral part of the
international business learning curve. Some trade leads, especially
sell offers, are only valid for a very short time. Trade leads for used
equipment are somewhat tricky and really require proven expertise.
And does anybody really know how to evaluate close-outs?

Following are some guidelines for evaluating trade leads:

1) Look for key words which might indicate a company who is

gathering information and not actually going to buy. Always be
suspicious of companies who ask for detailed information about
manufacturers' prices and do not identify themselves as distributors
looking for new lines.

2) Be very wary of companies who post trade leads for large orders
and are not easily located in any company or industry directories.
These are often small companies who will issue an RFQ (request
for quotation) for large quantities in order to get a lower price and
then will try to order a very small quantity at that price.

3) Do not be unduly influenced by flowery language. Many small

manufacturers get trapped by this when they are looking for a
distributor.

4) Be careful of locked market activities. This trade lead will specify

a particular product. Your company contacts the manufacturer,
hoping to make a commission on the sale, only to find out that the
manufacturer already has representation in that country and will not
sell the product to you for resale to that market because they want
to protect their distributor relationship.

Locked market activities probably represent a significant amount of

the trade leads available. What you have are smaller distributors
who are selling just enough to make it profitable for them to try and
circumvent the major distributor in their market.

5) Ignore any trade lead which has "letter of intent" or "letter of

interest".

6) Ignore companies who claim to deal in any commodity traded on

world markets and who are placing trade leads. Traded
commodities such as coffee, sugar, urea, oil and gold are handled
by well established companies in well established markets. These
companies do not place trade leads in order to do business.

7) Be very wary of international business scams designed to

separate you from your money. Be suspicious of anybody who
prefers phone conversations to written documents. Do not get
sucked into fantastic business opportunities which promise to yield
you, an inexperienced international trader, huge profits with no risk.
Learn which countries and areas have a reputation for spawning
international business fraud and avoid them like the plague. Never
ever respond to business opportunities which require you to make
wire transfers in advance of receiving goods or services.

Following are some guidelines for responding to trade leads:

1) Design your collateral materials to answer the most basic

questions and provide enough information for a buying decision to
be made.

2) Invest some money in a digital catalog of your products which

can be easily transmitted via e-mail or sent by postal mail on a
floppy disk. For simplicity's sake, keep the price list and the actual
graphics separate, so you can easily edit either one.

3) Do not fall into the sample trap. Unless your samples are
extremely inexpensive, charge a minimal fee for them. Do not make
a habit of sending samples to anybody who asks for them. Identify
the person who is making the request and make sure that this
person is the one making the buying decision.

4) Understand that most foreign distributors do not make fast

buying decisions. It is not at all unusual for an initial order to require
9-18 months from the time of the initial solicitation depending upon
the cost of the item.

5) Understand the difference between selling to an end user on a

one time basis and selling to a foreign distributor for future
distribution. Obviously, you would want to give the distributor more
consideration.

6) Identify your buyer!!!

Manufacturers need to be very careful of companies who place an
order immediately after your initial response. In some countries,
selling to one distributor can by law obligate your company to
designate that company as your distributor in that country. Be very
careful about designating any company as a distributor without
verifying whether or not this will grant exclusivity by law.

It is a good idea to try to identify your buyer. Some companies are

so eager to sell in foreign markets that they are unwilling to do this.
We do not advise this. If you respond to a trade lead and provide
the requested information and samples, you have a right to be in
contact with the person making the buying decision. There are
several reasons to do this, but wasting your time is the most
important.

7) Do not respond to requests for letters inviting a potential buyer to

your country for a meeting unless you are already doing business
with the company. This is sometimes used as a scam to get a visa
for entry on the pretense of doing business. This type of letter is
risky unless there is a significant business deal involved. In such a
case, you should contact your country's foreign commercial attaché
in that country and see if they can make a personal visit on your
behalf.

8) Use some common sense. Yes you have to be polite, but that
does not mean that you should spend $10,000 and a week to travel
overseas to get a $600 order. Everybody would like to meet the
people with whom they are doing business overseas, but that is not
always practical. Do not hop onto an airplane every time some
distributor sends you a very pleasant letter about how much
potential business there is in his/her country.

For companies who are new to international trade, huge mailings of

collateral materials in response to trade leads represent a
significant investment in time and staffing. Try to evaluate the lead
as best you can in order to make a judgment about its priority. Yes,
you do want to respond to any possible sales lead. However, there
is a difference between a bona fide sales lead and a company
which is announcing itself and gathering information for future
reference. That company which is gathering information may very
well make a purchase but in all likelihood it will be later as opposed
to sooner. Only time and experience will allow you to tell the
difference.

Your company has spent time, money and other resources to

identify potential foreign distributors for your products. Now you
have to decide which distributors are correct for you. What do you
do? We strongly encourage you to contact an international
business consultant or other qualified international business
professional. However, before you do contact an international
business consultant/professional, there are some basic things that
you can do yourself to further evaluate your distributor candidates,
thus saving your company some money in making the final
decision.

Role of the Foreign Distributor

Your company wants to sell its products in foreign markets.
Increased sales mean increased revenues, which should translate
into increased profits. In order to accomplish this goal, you must
first establish distribution channels in foreign markets. Whether or
not you decide to set up your own export department or you work
with an established trade intermediary, such as an export
management company or global trading company, you will interact
in some way with the foreign distributor. Many people believe that
the Internet will eventually eliminate the foreign distributor. We are
not yet convinced that this is true. For the present time, very few
products can be directly sold in foreign markets without a foreign
distributor.

For all intents and purposes, the foreign distributor which

represents your company in a foreign market (in some countries
you will be compelled by law to work with only one primary
distributor who will in turn work with smaller wholesale distributors
in that market) is YOUR COMPANY. Distribuidoras S.A. in Chile is
equal to Widgets Manufacturing Inc. in Philadelphia, Pennsylvania.
The Chileans who buy your widgets from Distribuidoras S.A. are in
fact dealing with your company, Widgets Manufacturing Inc.
Therefore, the decision about which distributor to select is a very
important one.

What Does a Foreign Distributor Do?

Some cynics will suggest that foreign distributors are quickly
becoming obsolete in international trade as the Internet becomes
more important in global commerce. In some instances, this is very
true. Small items such as books, jewelry and clothing can be easily
shipped to a foreign destination via postal mail or by way of several
different express shipping companies such as DHL, Airborne, UPS,
Emory and Federal Express. Upon arrival, such small packages
can be easily cleared through Customs' and if there is any
Customs' duty payable, it can be collected upon delivery. However,
most of the products sold in international commerce are neither
small nor easily shipped. This is where the role of the foreign
distributor working in conjunction with the Customs' House
broker/foreign freight forwarder becomes extremely important.

Foreign distributors may be classified in two important ways:

1.stocking

2.non-stocking

A stocking distributor will purchase inventory from the manufacturer

or export intermediary. In this way, he/she assumes some risk for
selling the product to smaller distributors and/or end users in the
foreign market. Generally speaking, a stocking distributor must be a
well-established company with a competent sales force that is large
enough to cover the country or region in which it is located.
Stocking distributors expect manufacturers or export intermediaries
to pay some of the costs for local advertising and in some cases,
warehousing for the product. Foreign distributors call this
"distributor support". Paying support costs is legal and is in the best
interests of the distributor and the manufacturer. Occasionally,
unscrupulous distributors will abuse this long established
international commercial practice to solicit bribes so that the
products might be distributed in the foreign country and
unscrupulous manufacturers will try to offer bribes to important
foreign distributors in order to prevent their competitors from
gaining entry to the marketplace.

Non-stocking distributors generally maintain only catalogs and/or

samples of a product and take orders from customers in their
market. There are many reasons for this practice; among them
would be the following: ·

Custom manufactured goods

Seasonal sales

Perishable food products

Limited no. of potential buyers

Both types of distributor are appropriate depending upon the

product being sold. You will very rarely have to choose between a
stocking and a non-stocking distributor. Foreign distributors are
very competitive. Their business is selling your products in their
marketplace. If they can not convince your company to choose
them as its representative in their country, they might be losing a
significant business opportunity. Therefore, foreign distributors
have a vested interest in convincing you to do business with them
especially if there is a high demand for your product in their
country.

Foreign distributors work together with the foreign freight forwarder

and Customs' House broker to move your products from the factory
to their warehouse or showroom. A foreign freight forwarder is a
company that arranges for the transportation of your products from
the factory floor to a foreign destination. Foreign freight forwarders
work very closely with trucking companies, railroads, airlines and
steamship companies. They earn their fees by obtaining the best
service at the lowest prices for your company and by properly
completing the appropriate forms and executing the correct
procedures so that your shipment is secure and will not be held up
in Customs' upon its arrival in the foreign country. The foreign
freight forwarder is often located nearby your company's factory.
Your export intermediary or in-house international trade specialist is
probably very familiar with many local foreign freight forwarders and
can assist you in choosing the best one for your company. If your
shipment is less than a 20' or 40' truck container and will travel
overland by rail or truck and then go overseas via air or steamship,
you will then need the services of a specialized foreign freight
forwarder called a freight consolidator. The freight consolidator
buys a large amount of cargo space, typically in 20' or 40'
containers for steamships and in some cases in special air cargo
containers, and then sells the cargo space to several smaller
shippers like yourself, thus consolidating many small shipments into
one or two containers and saving your company money on shipping
costs. The foreign freight forwarder and freight consolidator will
have Customs' House broker contacts at the foreign destination.
The Customs' House broker's job is to clear the shipment through
Customs as quickly as possible. It is very possible that the foreign
distributor has not participated in choosing any of the other trade
intermediaries, which help move your goods overseas. However,
the foreign distributor knows his/her market very well and will often
collaborate with the export trading company or export department
and the other trade intermediaries mentioned above to assure the
quick and efficient movement of your goods from the factory floor to
their distant foreign destination.

After clearing Customs', your products are shipped to the foreign

distributor's place of business. Certain products, such as home
appliances, sporting goods equipment, furniture and toys, may
require the foreign distributor to maintain a large warehouse. Larger
foreign distributors who sell to smaller wholesale distributors might
possibly have a showroom or product display area that is located
nearby their warehouse but not necessarily in the same facility.
Stocking distributors will typically order merchandise based upon
their existing inventory and their predicted sales. Experienced
stocking distributors know their customers very well and are usually
able to anticipate their needs. A non-stocking distributor will notify
his/her client of the arrival of their goods and then make
arrangements with a local freight forwarder to move the
merchandise from the port to its final destination. In some cases,
especially in the case of custom-made products, it might be
necessary to settle the account that is to complete the financial
aspect of the transaction before the goods are moved. Depending
upon how the transaction is arranged, the merchandise might be
stored in what is called a bonded Customs' warehouse until the
buyer makes arrangements to pay the remainder of the cost of the
product.

How Do I Get Started?

Before you begin the process of evaluating foreign distributors, you
must decide upon your company's international marketing
infrastructure. As a manufacturer, you do have several choices of
international business professionals who can add value to your
business activities. However, you really only have two choices for
how your company will set up its international operations in the
beginning:
 An export marketing intermediary

Or

Setting up an international department

1) Working with an export intermediary, usually an export

management company or a global trading company, is probably the
fastest and easiest way to get involved in selling to foreign markets.
Export management companies will function as your export
department. Their name indicates their special orientation but they
are merely another form of a global trading company. Global
trading companies act as manufacturers' representatives in
overseas markets. Often these companies have established
networks of distributors in several countries. Their primary role is to
assist you in setting up a distributor network in overseas markets.
They rely upon their years of experience in global trade and their
extensive knowledge of foreign markets to quickly get your
products in front of foreign distributors who have the capability of
distributing them in their particular market.

Export intermediaries come in several different sizes and have

varying levels of expertise. In some cases, especially when the
product involves technology, an intermediary's specialized
knowledge of the product could be most important. In fact, some
global trading companies will specialize in certain product areas. In
other instances, product expertise is not very important, but getting
into several markets is important. Your choice of an export
intermediary will depend upon the following issues:

a) Does my product require a sales force knowledgeable in high

tech products or some other kind of very complicated product
knowledge?

b) What types of companies has this intermediary represented in

the past and what types of companies does it presently represent?

c) Does this company have enough qualified people to assist my

company in setting up our foreign distributor network as quickly as
possible?

d) How difficult will it be to get somebody on the telephone to deal

with any problems which might arise?
e) Does anybody speak any foreign languages?

f) Does the advice that they offer to you seem reasonable and how
do your other business advisers perceive this company?

g) Does the company offer you both foreign and domestic

references?

h) Is the company willing to allow you to meet the people who will
be actually handling your account or are you meeting with only top-
level executives?

i) Do people working in their office seem genuinely happy? Do

clerks and assistants smile and speak to you? Are they willing and
able to answer your questions?

Export intermediaries really do facilitate the transition into selling in

foreign markets, but they also have a downside. Global trading
companies sometimes seem to be more interested in promoting
their own business interests than promoting their clients' products.
However, there is a very good explanation for this. From my own
experiences I can tell you that many companies say that they want
to become involved in exporting to overseas markets. However,
very few realize how much work is involved in changing a company
so that it has the capability of becoming successful in international
trade. Therefore, there is an extremely high failure rate for
companies who get started with exporting but do not have the
wherewithal to follow through and continue onward with a sound
business strategy until they are successful. For very good reasons,
global trading companies are reluctant to damage the goodwill that
they have built up with foreign distributors and other international
business experts who help them to work with their clients. One
reason for this can be attributed to manufacturers who do not
understand the function of an international business intermediary.
Poor communication between manufacturer and export
intermediary has killed many successful business opportunities.
You have to be completely honest with your export intermediary
because failing to do so will often result in bad feelings with a
foreign distributor. This is not a good thing.

2) Setting up an international department is your other option. While

doing this gives you complete control of your company's
international business activities, it is an option that must be very
carefully considered. Companies seem to make the same general
mistakes when setting up their international department:
a) Choosing the wrong personnel. This is the most common
mistake that smaller companies most often make. There is a
misconception that anybody can figure out how to do business
overseas. It's thought that it is merely a matter of reading a few
how-to magazine articles and you're ready to go. This is wrong. Too
often, successful small business owners want to adapt their style or
formula to international business and it just does not work. The
biggest mistake is in thinking that all you have to do is choose an
aggressive salesperson and you will be successful. In reality, many
business owners are afraid to hire a qualified international business
specialist because that means going outside of the company for
special expertise. If you plan to set up your own international
department/division, you need to have a competent and qualified
person to run it. It is just that simple.

b) Not paying a high enough salary. If you are going to set up your
own international department, you need to have enough revenues
to be able to allocate a special budget for this purpose alone.
Skilled international business specialists are paid a little more than
other employees are with comparable experience because of their
specialized skills. If you try to hire somebody at less than the
market price, you will be hiring a person who needs a job
immediately. I can guarantee you that this person will leave within a
year and will waste your time and resources either developing their
own projects or looking for a better job. Do not be cheap. Find a
qualified person, pay them a decent salary and allocate a sufficient
budget to allow that person to hire experienced and qualified
support staff.

c) Insufficient budget. Besides salaries for top rated personnel, you

will have to develop collateral marketing materials suitable for your
target markets. You will also have to pay travel expenses and
several other additional costs. Too many companies do not allocate
a sufficient budget for their international division and therefore set it
up for eventual failure.

d) No strategic plan. This is a deadly killer. You must have a

strategy that takes into account your company's capabilities and the
advantages of your product or service. You have to be prepared to
knock down some barriers to entry in certain foreign markets and to
deal with serious competition in others. The time to figure out what
you are going to do is before you actually begin marketing in
overseas markets.

e) Failing to do proper research. The Internet has changed the

global playing field in a remarkable way. There is now so much
information available about so many products and services
worldwide that potential buyers have more and better choices.
Because there is so much information available, it is very important
to do the appropriate research to identify your competitors and to
fully understand what is happening in your particular industry
worldwide. Too many businesspeople neglect doing the proper
business research, often due to cost considerations. Once again,
the cost for good international business research is higher than
what one might pay for comparable domestic business research. It
is better to pay the proper cost in the beginning because failing to
do so will almost always guarantee that you will pay considerably
higher costs later on.

f) Being too impatient. I once worked at a global trading company

that was acquired by an owner of a small manufacturing business.
This man used to pester me for a daily forecast of sales in my
division. Finally, I had to leave because he just got too impatient.
International business requires a longer transaction time. In my
experience, most industrial products require from 9 to 18 months
from the first sales letter until the first order. You are not going to
set up your international division and then start getting orders three
to six months later unless you have developed some exciting new
technology that companies want immediately because it will help
them make money. This is a fact about international business that
many companies just ignore when they make their plans.

Your final decision about how you wish to set up your company's
international marketing structure will depend upon your comfort
level and also your available budget. If you do not have a sufficient
budget to hire skilled and experienced international business
people, you should forget setting up your own international
department or division and look for an international intermediary to
help you set up your distributor network.

We are going to assume here that you have decided to work with
an international trade intermediary, which is the most common
choice of companies looking to get into global markets. Therefore, it
will not be necessary to discuss how to find a distributor because
that is exactly what global trading companies do. There are several
kinds of working arrangements between a global trading company
(Remember that an export management company is a special type
of global trading company.) and a manufacturer. The differences
will vary only in two ways: will the intermediary actually take title to
the goods and then resell them or will the intermediary function
more as your export department, not taking title to the goods and
receiving a commission? Some manufacturers prefer working with
an intermediary that is actually going to buy the goods outright and
then resell them for whatever price they can get. This method
involves much less hassle and to some extent, less paperwork to
get paid. It is also less risky. Its biggest disadvantage is that the
intermediary controls the price of your goods in international
markets. Another problem is that your company loses some degree
of contact with the foreign distributor. On the other side is the
situation where the global trading company acts as your export
department, using your letterhead and only changing telephone
numbers and addresses, etc. and assumes the same risk as your
company. This is more risky for your company, but it allows you to
maintain more direct control of your product in global markets. It
also allows you more direct contact with the foreign distributor. For
companies new to export, this is probably the better choice and the
one that we will cover here.

Evaluating a Foreign Distributor

A former colleague of mine, an older lady with many years'
experience as an export manager once told me the following:

"Anybody can find a foreign distributor. That's easy. Finding a good

foreign distributor, however, is very difficult, but well worth the effort
because a good foreign distributor is like a cash cow."

Before making a final decision about a foreign distributor, your

company should know more about the following:

a) What is the company's reputation? Ask for trade references,

(preferably outside of his/her country) and banking references. If
possible, you want to speak with other foreign companies that
his/her company represents. Check with your own country's foreign
commercial service officer or commercial attaché in that country.
Check the company's rating with Dun & Bradstreet. Hire a local
independent consultant to prepare a background report on the
company. Contact the local chamber of commerce as well as your
country or city's chamber of commerce in that market. Contact your
state or provincial government's overseas office in that country or
region and request a background report. Use the Internet to find out
as much as you can about the company via search engines and
company directories online as well as a company home page if
available.

b) What is the company's competitive profile? How many years in

business? How many sales people? What is their marketing
technique? How often do they visit customers? Who is their
competition? What is the company's market share as compared to
its competitors? What can they tell you about your competitors in
their market? You should ask the CEO/owner of the company these
questions. If he/she hesitates to answer for more than a second,
move on.

c) What does the company expect in terms of manufacturer

support? This is a very important question because it will determine
whether your potential distributor is trying to extort a bribe from you.
More importantly, however, it will tell you how much the company
really knows about their market.

d) Discuss your requirements for purchase of minimum inventory.

Foreign distributors talk a very good game. Your job is to see if they
can deliver on their flowery promises. In some of these areas
mentioned above, your global trading company will have some
answers. In other cases, commercial attaches and other
knowledgeable entities can provide you with good information. Your
mission is to ascertain whether or not working with this distributor is
going to be in the best interests of your company. If the global
trading company can not provide you with specific answers to these
questions and tells you not to worry, look very closely at the
intermediary. The questions that I have listed here are designed to
help you determine the viability and credibility of the distributor.
Instead of "we can do this and that, blah, blah, blah", your aim is to
make the distributor respond to specific areas of inquiry and to
provide you with a clearer picture of exactly how your products will
be sold in their market. An added benefit is the fact that these
questions will help to evaluate your trade intermediary as well. One
trap that you want to definitely avoid is the buddy-buddy
relationship between the intermediary and the distributor. We did
consulting for one client whose intermediary was being paid bribes
or kickbacks by the distributors for choosing them. The kickbacks
caused the price of the company's products to be too high in the
foreign market and the company started to lose business to a
competitor whose product was absolutely inferior.

If your intermediary seems reluctant to allow you access to the

foreign distributor, then you must evaluate the intermediary more
closely. Really good foreign distributors expect to have to answer
these types of questions and look forward to doing so with great
enthusiasm. You can avoid problems by asking the questions listed
to evaluate the intermediary. One thing that I have found to be true
in over 20 years of international business: if a foreign distributor is
unable or reluctant to answer questions that will indicate how they
sell foreign products in their marketplace and what distinct
 advantages they offer over their competitors, look elsewhere for
help in going global.

The Globalization of the Small

Enterprise by Jeffrey P. Graham
The globalization of the small enterprise will most likely be the most important development in
international business as we begin the new millennium. Clearly, the 20th century has witnessed
the transformation of global commerce by transnational conglomerates and/or multinational
corporations. This transformation is most evident when one considers the impact of the worldwide
disaggregation of production and the advent of transfer prices, which tend to distort the real
prices of manufactured components transferred across national boundaries but within a
multinational corporation. It is certainly the case that large global corporations have created a
significant portion of this century's wealth, however, it is the smaller enterprise that has been the
engine that has generated most of the world's economic growth over the past 20 years.

The challenge faced by many small enterprises will be how to globalize their operations in order
to be able to better source raw materials and components and to take advantage of proximity to
global markets in order to compete head to head with much larger companies. In order to do this,
smaller companies will be forced to make a choice between two options:

#1 to hire an international business specialist and

#2 to retain an international business consulting company.

These choices are not mutually exclusive because it is entirely possible that some companies
might choose to do both things. In any case, companies will be forced by rapid changes in the
global economy to realign themselves accordingly.

Globalization is a very recent phenomenon for most small and medium sized companies. That is,
buying and selling in global markets, up until very recently, was generally speaking an
undertaking specifically achieved by the use of an intermediary. In most cases, the intermediary
was a global trading company. Global trading companies worldwide shared certain characteristics
regardless of national origin. Most were fairly large business organizations with the significant
financial resources necessary for international transactions. Contrary to popular myth, much of
the business done between a global trading company and a foreign distributor, its overseas
counterpart, was conducted on open account. Open account means that the distributor was
creditworthy enough to be capable of receiving goods on credit by means of acceptance of a
documentary draft. Essentially, a documentary draft is a document that compels the foreign
distributor to accept responsibility to pay for a shipment as long as the documents, namely the bill
of lading and other shipping and Customs' documents are in order. Still today, the more familiar
trade document, the letter of credit, is very often backed up by a documentary draft or bill of
exchange. What is most important to note in this context, however, is the fact that until the late
1980's most global trading companies preferred to do business with foreign distributors who were
good credit risks and who had both banking and trade references.

In many instances, specialized global trading companies, also known as export management
companies, acted as the familiar "middleman". Unfortunately, increased foreign travel and
contacts with more foreigners gave very many people the impression that the so-called
middleman role was quite easy to perform. It is quite often difficult to dispel such myths.
Nonetheless, being an intermediary is a very complex task that requires significant understanding
of differences in business culture and the ways in which an international transaction is concluded.
For most manufacturers in the United States, and in other places as well, handing off the task of
exporting was a welcome relief. Global trading companies were a group unto themselves, very
often shrouded in a veil of secrecy. Most business executives did not want to know the details of
how their products got sold overseas just as long as they got sold. As export markets began to
grow in earnest in the mid to late 1970's into the early 1980's, global trading companies grew in
power. Those business executives who did understand what these intermediaries were doing
were quite often deterred from undertaking the role themselves because of its complexity. First
there was the issue of finding a good foreign distributor. People who have worked at a global
trading company will all tell you the same thing: anybody can find a foreign distributor. The trick is
to find a good foreign distributor. Then came the issue of negotiating a good deal for the
manufacturer while making sure that the intermediary was properly compensated. Sometimes, it
was important to have good banking facilities because both parties wanted to guard against any
currency fluctuation swings that might erase profit margins. This, of course, was just the
beginning.

For all practical purposes, two significant events changed the nature of global business for small
and medium sized companies, especially in North America. It is very important to make this clear
distinction from multinational corporations or global conglomerates. The first change was the
advent of the facsimile machine. Before the fax machine became prominently used for direct and
immediate written communications, most global trading companies relied upon the telex machine
for direct and reliable communication. Telex machines were relatively expensive and required
trained operators. Thus, any global trading company that was serious about providing services for
its clients needed to have trained teletype operators to run the telex machines. These trained
operators could wield significant power within a relatively small company that depended upon
them for daily communications. The second change was in the educational systems. During the
1980's, local community colleges and many major universities began offering international
business specialty courses. Many of the earlier curricula focused primarily on transportation and
logistics functions, the types of activities normally performed by a foreign freight forwarder.
However, as more people became interested in international business skills, the courses
available to the public increased in variety and scope.

These two changes had a swift and far-reaching effect on the business practices of global trade
intermediaries. Most notably, the fax machine eliminated the need for teletype operators and this
eliminated the jobs of many people who had become very secure in their positions. The easy
availability of training for jobs as freight forwarders, Customs' House Brokers, documents
examiners and letter of credit specialists meant that a large pool of skilled employees became
available for hire by manufacturers. Suddenly, global trading companies who had dominated
import-export trade for most of this century found themselves locked into competition with their
clients (manufacturers and service providers) for the most highly skilled employees available.
Many manufacturers discovered that they could hire in-house international business specialists
who could perform most of the actual marketing functions of the intermediary and for significantly
less money. As global competition heated up, thinner profit margins meant that any cost savings
could mean the difference between making a profit and facing extinction. This basic change in
international business practices really intensified in 1987 when the fax machine finally eliminated
the use of the telex. What should also be mentioned here is the fact that most of the training of
skilled international business specialists had been heretofore limited to the community of global
trading companies. Many have referred to this method as the "back room" training method
because of the insular nature of global trading companies. That is, one could only learn that
which the person offering the training was willing to give. The major flaw in this on-the-job type
training was the fact that those doing the training had a vested interest in doing a bad job in order
to protect their own position within the company.
The advent of the Internet, especially the use of electronic mail for communications and the
increasing popularity of the World Wide Web as a medium for communications, public relations
and sales promotion, has hastened the pace of changes now occurring in international
commercial practices. E-mail is threatening to eliminate the fax machine as quickly as the fax
machine eliminated the telex. The World Wide Web makes it possible for anybody with Internet
access to set up a website and offer goods and/or services to the entire world for about U.S. $50
per month.

Compare these costs for entry to those of a global trading company that employed specially
trained people such as a telex machine operator, freight forwarder/Customs' House Broker or
transportation/logistics coordinator, import-export clerk, documents examiner and import-export
marketing people. The elimination of this significant barrier to entry has fostered an environment
in which anybody can claim to be an import-export trading company and has given rise to a
proliferation of smaller global trading companies offering specialized services. This, in turn, has
created a climate of confusion about professional credentials and has also encouraged the
proliferation of volumes of useless trade leads (I covered this trade lead topic in some detail in an
article titled, "Evaluating Trade Leads", which I wrote in late 1997. This article was summarized in
the July 1998 issue of Gateway.) and/or other false or otherwise misleading information in the
marketplace.

To make matters worse, you also have the active participation of the international banking
community. In this context, one has to remember that the "old" way of doing business, in which
the global trading company and the foreign distributor were mutual business partners, effectively
limited a bank's ability to earn fees from transactions. The bank was limited to verifying and/or
vouching for the credit risk assessment of the foreign distributor and earning fees for discounting
commercial paper such as an accepted documentary draft. A bank might also occasionally
finance an initial stocking order so that the overseas distributor might have inventory on-hand of
the manufacturer's products in order to sell to its clients. Once the reliability of the distributor is
established, the bank's participation is very limited. This is a very important point because most
people just assume that the letter of credit is the principal way of arranging international
transactions. While the letter of credit has been in use in one form or another for several hundred
years, it was not the primary document used in international business transactions between a
trade intermediary in North America and a foreign distributor until very recently. The changes
within global trading companies in North America meant that some institution had to step forward
to assume the role previously played by trade intermediaries. Therefore, it was the banks in North
America who actually promoted the increased use of the letter of credit as the primary financial
instrument of international trade. There was no altruism involved here at all. The banks were
hardly interested in making life easier for small and medium sized companies, as some would
suggest. No, their motivation upon the disappearance of large trading companies and the
appearance of smaller and more specialized intermediaries was merely profit. Not only did banks
in North America earn nice profits, but their counterparts overseas made more money as well.

What does all of this mean? For most small and medium sized companies, the aforementioned
changes simply mean that their business environment has become more complex. In too many
companies, however, it is almost impossible to assess the impact of these changes because too
many business executives are still in denial about these changes and have not rethought their
business strategy accordingly. It would be very easy to say that this type of in-the-box thinking is
to be expected given the circumstances of most small and medium sized companies. In fact, it is
probably the case that this is equally true of small and medium sized companies everywhere in
the world. To those of us who work with SME's, there is an understanding that these companies
almost always focus on their distinctive competency. That is, they tend to really be very good at
producing their good or service or developing their new technology and they tend to not be so
good at actually selling this good, service or technology to the global marketplace. The most
compelling reason for this would be a tendency to think that their product, technology or service
will sell itself because it is so good. While this is quite understandable, it is nevertheless an
impediment to success in the global marketplace.

As we move forward into the next millennium, the real challenge for many smaller enterprises will
be navigating the complexities of an increasingly globalized marketplace. This will simply mean
that companies will have to globalize the operations in one way or another. Some will hire an
international business specialist to develop a global strategy. Others will rely upon an
international business consultant like myself. Some will hire an in-house specialist as well as
retaining an outside consulting company. Almost all companies will be required to develop many
different types of business relationships that offer their company a very well defined presence in
foreign markets. Companies will also have to find new and more effective ways of assimilating
huge amounts of information and analysing it as well. Employees will be required to adapt and
learn new skills such as foreign languages and international commercial practices. Top business
executives will be required to travel to foreign markets more frequently to visit foreign distributors
and to participate in trade missions and trade shows. Industry trade organizations are going to
become even more powerful because their membership will represent key business
constituencies that will wield significant power. In the very near future, global strategic planning
will become an essential factor for the success of the enterprise.

Looking ahead, it is very clear that business executives will have to rethink their global business
strategy and to find a more dynamic approach to keep pace with changes in the global
marketplace. What is not so clear, however, is how this approach will be developed. It is certain
that any new solutions will be technology-based. It is this factor alone that complicates the true
nature of the existing challenge for small and medium sized companies. An entirely new
profession, international business specialist, has been born within the past 20 years or so and
this new highly skilled profession is threatening to upset the delicate balance that exists within the
management structure of most small and medium sized companies. When added to the fact that
most small and medium sized companies now require a Chief Technology Officer, you now have
two powerful business specialists whose input is crucial to the success of the smaller enterprise.
Whether or not companies rely upon outside service providers or hire their own staff in-house, the
expertise provided by the Chief Technology Officer and the international business specialist will
become an essential part of the make-up of any successful company. Given the resistance to
change that is an outstanding characteristic of smaller enterprises worldwide, it will be very
interesting to see how these new business skills will be incorporated into companies' business
culture. When one considers the maverick nature of the people drawn to becoming international
business specialists or technology officers, it is quite clear that the early part of the 21st century
will be very interesting. In most small and medium sized companies there will be a clash of basic
business principles between those who favor a more traditional management approach and those
who are preparing for the next generation of global business. How this will play out is anybody's
guess, but it should be very interesting to watch it unfold in a global environment that changes
daily.

This article was written by Jeffrey P. Graham and it originally appeared on Citibank's
now defunct international business portal.

Now that the U.S. economy is faltering, many

business executives are going to give serious
consideration to taking their dog and pony shows
on the road, so to speak. Trade missions are
frequently mentioned in the how-to-export
literature as a sure fire way to quickly develop
sales in foreign markets. As with most things
written about in the general business press, the
reality is quite significantly different than the
perception. Unfortunately, this is problematic for
many small and medium sized companies.
First of all, there is a persistent notion that
merely bringing business people together will
result in business deals. Business development
specialists frequently make this argument and
are often very persuasive. However, anybody
who has ever actually sponsored a trade mission
or overseas business development conference
and then taken the time to do a follow up
evaluation will readily tell you that the results are
quite often mixed even in the most optimistic
scenarios. Why? Well, there exists in the minds
of too many people the notion that most business
deals are actually done in what are basically
social situations; grown men playing golf, women
executives getting together for lunch, after hours
cocktail parties, and so forth. For this, we have
Hollywood writers to blame. While all of these
occasions can be a part of the give and take of
developing a business relationship, they are not
necessarily the focal point upon which closing a
deal might rest. There are many complicated
factors that go into making a buying decision or
closing a business deal across national borders
and therefore it is not very realistic to assume
that merely bringing the parties together in the
same physical space with free or cheap alcoholic
drinks will supercede these other very important
issues.

The next problem is the actual nature of the trade mission

itself. Business development specialists will argue that the
trade mission is an integral part of the international
marketing mix. Historically, this has been true to some
extent. What has been likewise true is the fact that industry
organization sponsored trade missions are probably more
successful than those sponsored by government agencies.
But if one examines closely who sponsors the vast majority
of trade missions, you will often find the hand of a
government agency somewhere. Trade missions are
supposed to be about developing trade opportunities.
However, once government agencies become involved, the
mission of the trade mission has been fundamentally
changed. The reason for this is very simple. Trade
missions sponsored by private industry groups tend to pick
venues and choose local partners who have the necessary
expertise to produce successful events. Industry
organizations represent the industry and are not beholden to
other private political interests. When government
agencies become involved, the actual reason for doing the
trade mission may have nothing at all to do with the
particular industry selected or the actual companies
selected to participate. To suggest that this is troublesome
is to egregiously understate the case. Politics, especially
international politics, and business do not mix very well.

The people in government who have power over the budget

and appropriations are quite often dictating policy to career
civil servants. This dichotomy serves to actually undermine
the quality of the intellectual output of those within various
government agencies who have the authority to declare
which trade missions will be supported and which ones will
not. These political appointees who control the purse
strings seldom have the prerequisite international business
experience to understand the folly of their decisions. When
such people oversee the decisions of their more
knowledgeable junior colleagues, anything can and will
happen. Consider the following:

Trade shows are actually joint ventures between two

government agencies or two private entities
supported or sponsored in part with government
funds.
Choosing the target industry and the participants is a
crucial aspect in any successful trade mission.
When experienced business or economic
development professionals have an opportunity to
control these decisions, there is usually a consensus
about the goals of the mission and the actual
particulars of how it will be executed. When this
decision is moved “upstairs”, so to speak, back room
 political motives enter the fray and such motives do
not always play as expected in foreign markets.
The foreign counterparts play an enormous role in
the success of a trade mission. If the proper venues
are not chosen, there has been insufficient
marketing and promotion of the event or there is little
interest on the part of the intended target market,
attendance can fall off and failure will be a
consequence. Such mundane things as failing to set
up appointments with the proper officials of
government and business and economic
development agencies or industry related groups
could be disastrous.

Beyond the inherent problems with trade missions, there

are some very simple practical considerations. Whenever a
business executive is approached as part of a recruiting
effort to join a trade mission, there are several factors that
must be considered:

1. What is the cost-benefit analysis? Many

business executives approach foreign trade
missions from a cost recovery approach. That is,
they base their decision upon the likelihood of
recovering their cost outlay. While this is a
popular notion, we do not heartily endorse it
simply because of the lengthy sales cycle in
international business. Of course, executives do
 have to analyze the costs and the possible future
benefits to their companies. With rare
exceptions, your company is not likely to get
many orders as a result of participating in a trade
mission. Executives who do anticipate closing
sales and who are unsuccessful often sour on the
trade mission process and this is unfortunate.
Trade missions are not inexpensive, even when
they are partially subsidized by a government
agency or private industry trade development
group.
2. Seek referrals from other business executives. It
is always a good idea to speak with people who
have gone on similar trade missions to the same
country and/or region in order to get their
feedback.
3. Carefully evaluate the agenda. Trade missions
that are tightly scheduled and packed with
several meetings in different locations present
significant logistical difficulties at best. At worse,
such agendas do not provide sufficient time for
actual partnering to take place.
4. Consider the other trade mission participants
very carefully. If your company is a custom
machine shop ostensibly going on an industrial
trade mission, you should be alarmed if six
software companies decide to tag along unless
they produce software for industrial controls and
processing. If they manufacture computer games,
then they might know something that you do not.
 Surprises upon arrival at your foreign destination
are definitely a bad thing.
5. Do not trust trade mission organizers to tell you
the truth. This is very difficult for many business
executives because it requires them to approach
government officials with a heightened sense of
skepticism. However, once recruitment starts for
a trade mission, mission organizers become
focused on filling slots. If the departure date for a
trade mission is quickly looming, expect criteria
for admission to slide backwards until all slots are
filled.
6. Ask the tough questions. What is the intended
target audience? Why are members within the
target audience attracted to this mission? Are
there any specific incentives for them to attend?
Is there a screening process to eliminate
employment seekers, sample grabbers and other
such distractions? What has been the history of
prior missions? Have there been any follow up
evaluations done and what do the results
indicate? What arrangements have been made
for me to have a specific amount of allotted time
to privately meet with companies that show an
interest in my company’s products and/or
services? Are foreign language translators fees
included in the mission’s cost structure or are
these additional fees? What types of equipment
and facilities will be available for presentations
and more importantly, are there enough to go
around for those companies who might need
 them? How extensive is the pre-mission briefing
and what areas does it not cover appropriately?
What types of collateral marketing materials are
required and must they be localized?

Trade missions are designed to transport business

executives into a foreign business environment but within
the protective umbrella of the mission itself. The mission
itself is supposed to compensate for the inherent
weaknesses of many individual executives with little or no
foreign business experience. The purpose of most trade
missions is not the goal clearly stated to the companies
recruited to join the mission. In fact, this goal is almost
never the real purpose of the mission, even though trade
mission organizers will argue thusly to their graves. The
usual purpose of a trade mission is to either satisfy some
industry segment for partisan political purposes or to
demonstrate to the electorate that an administration is hard
at work promoting exports and therefore protecting existing
jobs while going forth to create new jobs. While all of this
is certainly true, it is likewise true that even with such
constraints, trade missions do present companies with an
opportunity to test the waters in selected overseas markets.
In order for your foray into a trade mission to be successful,
you are going to have to be open minded, skeptical, wary
and you’re going to have to be willing to ask lots of very
unpleasant questions. If you can do all of those things, then
you just might be able to actually participate in a trade
mission and accrue some tangible benefit.
This article was written by Jeffrey P. Graham and it originally appeared on
Citibank's now defunct international business portal. Copyright © Citibank. All
Rights Reserved.

This article was written by Jeffrey P. Graham and R. Barry Spaulding and
originally appeared on the now defunct Citibank international business portal.
Copyright © Citibank. All Rights Reserved.

Understanding Foreign Direct

Investment (FDI)
Definition
Foreign direct investment (FDI) plays an extraordinary and growing role in
global business. It can provide a firm with new markets and marketing
channels, cheaper production facilities, access to new technology,
products, skills and financing. For a host country or the foreign firm which
receives the investment, it can provide a source of new technologies,
capital, processes, products, organizational technologies and
management skills, and as such can provide a strong impetus to
economic development. Foreign direct investment, in its classic
definition, is defined as a company from one country making a physical
investment into building a factory in another country. The direct
investment in buildings, machinery and equipment is in contrast with
making a portfolio investment, which is considered an indirect investment.
In recent years, given rapid growth and change in global investment
patterns, the definition has been broadened to include the acquisition of a
lasting management interest in a company or enterprise outside the
investing firm’s home country. As such, it may take many forms, such as a
direct acquisition of a foreign firm, construction of a facility, or
investment in a joint venture or strategic alliance with a local firm with
attendant input of technology, licensing of intellectual property, In the
past decade, FDI has come to play a major role in the internationalization
of business. Reacting to changes in technology, growing liberalization of
the national regulatory framework governing investment in enterprises,
and changes in capital markets profound changes have occurred in the
size, scope and methods of FDI. New information technology systems,
decline in global communication costs have made management of foreign
investments far easier than in the past. The sea change in trade and
investment policies and the regulatory environment globally in the past
decade, including trade policy and tariff liberalization, easing of
restrictions on foreign investment and acquisition in many nations, and
the deregulation and privitazation of many industries, has probably been
been the most significant catalyst for FDI’s expanded role.

The most profound effect has been seen in developing countries, where
yearly foreign direct investment flows have increased from an average of
less than $10 billion in the 1970’s to a yearly average of less than $20
billion in the 1980’s, to explode in the 1990s from $26.7billion in 1990 to
$179 billion in 1998 and $208 billion in 1999 and now comprise a large
portion of global FDI.. Driven by mergers and acquisitions and
internationalization of production in a range of industries, FDI into
developed countries last year rose to $636 billion, from $481 billion in
1998 (Source: UNCTAD)

Proponents of foreign investment point out that the exchange of

investment flows benefits both the home country (the country from which
the investment originates) and the host country (the destination of the
investment). Opponents of FDI note that multinational conglomerates are
able to wield great power over smaller and weaker economies and can
drive out much local competition. The truth lies somewhere in the middle.

For small and medium sized companies, FDI represents an opportunity to

become more actively involved in international business activities. In the
past 15 years, the classic definition of FDI as noted above has changed
considerably. This notion of a change in the classic definition, however,
must be kept in the proper context. Very clearly, over 2/3 of direct foreign
investment is still made in the form of fixtures, machinery, equipment and
buildings. Moreover, larger multinational corporations and conglomerates
still make the overwhelming percentage of FDI. But, with the advent of the
Internet, the increasing role of technology, loosening of direct investment
restrictions in many markets and decreasing communication costs means
that newer, non-traditional forms of investment will play an important role
in the future. Many governments, especially in industrialized and
developed nations, pay very close attention to foreign direct investment
because the investment flows into and out of their economies can and
does have a significant impact. In the United States, the Bureau of
Economic Analysis, a section of the U.S. Department of Commerce, is
responsible for collecting economic data about the economy including
information about foreign direct investment flows. Monitoring this data is
very helpful in trying to determine the impact of such investments on the
overall economy, but is especially helpful in evaluating industry segments.
State and local governments watch closely because they want to track
their foreign investment attraction programs for successful outcomes.

How Has FDI Changed in the Past Decade?

As mentioned above, the overwhelming majority of foreign direct

investment is made in the form of fixtures, machinery, equipment and
buildings. This investment is achieved or accomplished mostly via
mergers & acquisitions. In the case of traditional manufacturing, this has
been the primary mechanism for investment and it has been heretofore
very efficient. Within the past decade, however, there has been a
dramatic increase in the number of technology startups and this, together
with the rise in prominence of Internet usage, has fostered increasing
changes in foreign investment patterns. Many of these high tech startups
are very small companies that have grown out of research & development
projects often affiliated with major universities and with some government
sponsorship. Unlike traditional manufacturers, many of these companies
do not require huge manufacturing plants and immense warehouses to
store inventory. Another factor to consider is the number of companies
whose primary product is an intellectual property right such as a software
program or a software-based technology or process. Companies such as
these can be housed almost anywhere and therefore making a capital
investment in them does not require huge outlays for fixtures, machinery
and plants.

In many cases, large companies still play a dominant role in investment

activities in small, high tech oriented companies. However, unlike in the
past, these larger companies are not necessarily acquiring smaller
companies outright. There are several reasons for this, but the most
important one is most likely the risk associated with such high tech
ventures. In the case of mature industries, the products are well defined.
The manufacturer usually wants to get closer to its foreign market or
wants to circumvent some trade barrier by making a direct foreign
investment. The major risk here is that you do not sell enough of the
product that you manufactured. However, you have added additional
capacity and in the case of multinational corporations this capacity can be
used in a variety of ways.

High tech ventures tend to have longer incubation periods. That is, the
product tends to require significant development time. In the case of
software and other intellectual property type products, the product is
constantly changing even before it hits the marketplace. This makes the
investment decision more complicated. When you invest in fixtures and
machinery, you know what the real and book value of your investment will
be. When you invest in a high tech venture, there is always an element of
uncertainty. Unfortunately, the recent spate of dot.com failures is quite
illustrative of this point.

Therefore, the expanded role of technology and intellectual property has

changed the foreign direct investment playing field. Companies are still
motivated to make foreign investments, but because of the vagaries of
technology investments, they are now finding new vehicles to accomplish
their goals. Consider the following:

Licensing and technology transfer. Licensing and tech transfer have

been essential in promoting collaboration between the academic and
business communities. Ever since legal hurdles were removed that
allowed universities to hold title to research and development done in
their labs, licensing agreements have helped turned raw technology into
finished products that are viable in competitive marketplaces. With some
help from a variety of government agencies in the form of grants for R&D
as well as other financial assistance for such things as incubator
programs, once timid college researchers are now stepping out and
becoming cutting edge entrepreneurs. These strategic alliances have had
a serious impact in several high tech industries, including but not limited
to: medical and agricultural biotechnology, computer software
engineering, telecommunications, advanced materials processing,
ceramics, thin materials processing, photonics, digital multimedia
production and publishing, optics and imaging and robotics and
automation. Industry clusters are now growing uparound the university
labs where their derivative technologies were first discovered and
nurtured. Licensing agreements allow companies to take full advantage
of new and exciting technologies while limiting their overall risk to royalty
payments until a particular technology is fully developed and thus ready to
put new products into the manufacturing pipelineReciprocal distribution
agreements. Actually, this type of strategic alliance is more trade-based,
but in a very real sense it does in fact represent a type of direct
investment. Basically, two companies, usually within the same or
affiliated industries, agree to act as a national distributor for each other’s
products. The classical example is to be found in the furniture industry. A
U.S.-based manufacturer of tables signs a reciprocal distribution
agreement with a Spanish-based manufacturer of chairs. Both companies
gain direct access to the other’s distribution network without having to
pay distributor support payments and other related expenses found within
the distribution channel and neither company can hurt the other’s market
for its products. Without such an agreement in place, the Spanish
manufacturer might very well have to invest in a national sales office to
coordinate its distributor network, manage warehousing, inventory and
shipping as well as to handle administrative tasks such as accounting
public relations and advertising

Joint venture and other hybrid strategic alliances. The more traditional
joint venture is bi-lateral, that is it involves two parties who are within the
same industry who are partnering for some strategic advantage. Typical
reasons might include a need for access to proprietary technology that
might tip the competitive edge in another competitor’s favor, desire to
gain access to intellectual capital in the form of ultra-expensive human
resources, access to heretofore closed channels of distribution in key
regions of the world. One very good reason why many joint ventures only
involve two parties is the difficulty in integrating different corporate
cultures. With two domestic companies from the same country, it would
still be very difficult. However, with two companies from different
cultures, it is almost impossible at times. This is probably why pure joint
ventures have a fairly high failure rate only

five years after inception. Joint ventures involving three or more parties
are usually called syndicates and are most often formed for specific
projects such as large construction or public works projects that might
involve a wide variety of expertise and resources for successful
completion. In some cases, syndicates are actually easier to manage
because the project itself sets certain limits on each party and close
cooperation is not always a prerequisite for ultimate success of the
endeavor.
Portfolio investment. Yes, we know that you’re paying attention and no
we’re not trying to trip you up here. Remember our definition of foreign
direct investment as it pertains to controlling interest. For most of the
latter part of the 20th century when FDI became an issue, a company’s
portfolio investments were not considered a direct investment if the
amount of stock and/or capital was not enough to garner a significant
voting interest amongst shareholders or owners. However, two or three
companies with "soft" investments in another company could find some
mutual interests and use their shareholder power effectively for
management control. This is another form of strategic alliance, sometimes
called "shadow alliances". So, while most company portfolio investments
do not strictly qualify as a direct foreign investment, there are instances
within a certain context that they are in fact a real direct investment.

Why is FDI important for any consideration of

going global?
 The simple answer is that making a direct foreign investment allows
companies to accomplish several tasks:

Avoiding foreign government pressure for local production

Circumventing trade barriers, hidden and otherwise

Making the move from domestic export sales to a locally-based national

sales office

Capability to increase total production capacity

Opportunities for co-production, joint ventures with local partners, joint

marketing arrangements, licensing, etc;

A more complete response might address the issue of global business

partnering in very general terms. While it is nice that many business
writers like the expression, “think globally, act locally”, this often used
cliché does not really mean very much to the average business executive
in a small and medium sized company. The phrase does have significant
connotations for multinational corporations. But for executives in SME’s,
it is still just another buzzword. The simple explanation for this is the
difference in perspective between executives of multinational
corporations and small and medium sized companies. Multinational
corporations are almost always concerned with worldwide manufacturing
capacity and proximity to major markets. Small and medium sized
companies tend to be more concerned with selling their products in
overseas markets. The advent of the Internet has ushered in a new and
very different mindset that tends to focus more on access issues. SME’s
in particular are now focusing on access to markets, access to expertise
and most of all access to technology.

What would be some of the basic requirements for companies

considering a foreign investment?

Depending on the industry sector and type of business, a foreign direct

investment may be an attractive and viable option. With rapid globalization
of many industries and vertical integration rapidly taking place on a global
level, at a minimum a firm needs to keep abreast of global trends in their
industry. From a competitive standpoint, it is important to be aware of
whether a company’s competitors are expanding into a foreign market
and how they are doing that. At the same time, it also becomes important
to monitor how globalization is affecting domestic clients. Often, it
becomes imperative to follow the expansion of key clients overseas if an
active business relationship is to be maintained.

New market access is also another major reason to invest in a foreign

country. At some stage, export of product or service reaches a critical
mass of amount and cost where foreign production or location begins to
be more cost effective. Any decision on investing is thus a combination of
a number of key factors including:

assessment of internal resources,

competitiveness,

market analysis

market expectations

From an internal resources standpoint, does the firm have senior

management support for the investment and the internal management and
system capabilities to support the set up time as well as ongoing
management of a foreign subsidiary? Has the company conducted
extensive market research involving both the industry, product and local
regulations governing foreign investment which will set the broad market
parameters for any investment decision? Is there a realistic assessment in
place of what resource utilization the investment will entail? Has
information on local industry and foreign investment regulations,
incentives, profit retention, financing, distribution, and other factors been
completely analyzed to determine the most viable vehicle for entering the
market (greenfield, acquisition, merger, joint venture, etc.)? Has a plan
been drawn up with reasonable expectations for expansion into the
market through that local vehicle? If the foreign economy, industry or
foreign investment climate is characterized by government regulation,
have the relevant government agencies been contacted and concurred?
Have political risk and foreign exchange risk been factored into the
business plan?
This article was written by Jeffrey P. Graham and originally appeared on
Citibank's now defunct international business portal. Copyright © Citibank. All
Rights Reserved.