Sara Masarat Ibrahim

W1185626
International Marketing
2MKT659

Assignment One:

“Summarise the distinguishing features of the three internationalisation

theories below. Using relevant academic literature, assess the usefulness of
each theory for today’s international marketers. You should judge the
theories against criteria of your choice.”

“Global trade and internationalisation is growing rapidly” (H Che and R Harris 1998)
When a firms domestic market becomes saturated, the increased investment and
expansion opportunities that foreign markets offer becomes the next strategic move.
Though internationalisation is both desirable and, if successful, profitable, it is a
process that can be difficult to achieve as there is no single or set procedure to
accomplish it. Over the years scholars/ researchers have come up with various
theories and models on how internationalisation should be approached. Amongst the
most recognised of these theories are:

Ÿ The Uppsala Theory

Ÿ The Transaction Cost Analysis
Ÿ The Network Approach

In the following assignment I will be discussing the above theories. In addition to

summarising their key features, I will also explain their usefulness for today’s
marketers based on my personal judgement. In order to adequately do so I will
employ various academic literature/ sources in order to gain a deeper knowledge and
an understanding of each theory to use a foundation for my judgement.

The Uppsala theory formed in the 1970’s suggests that a firm must take incremental
steps when considering entering a foreign market. It takes into consideration the
firms motives for internationalisation, their choice of entry modes, “as well as the
strategies adopted to chart the path of their onward process of internationalisation to
improve their performance.” (Bilkey and Tesar 1977) There are four main stages
toward internationalism in the Uppsala theory known as the Establishment Chain
(Johanson and Wiedersheim- Paul, 1975) whereby the consecutive step represents
higher degrees of international involvement and market commitment. (Svend
Hollensen, 2007)
 Sara Masarat Ibrahim
W1185626
International Marketing
2MKT659

At stage one the firm only operates in its domestic market and does not participate in
any regular export.

At stage two the firm begins to export and sell in a foreign market (located close to
domestic the market) via agents/ distributors.

At the third stage the firm establishes a foreign sales subsidiary.

At the final stage of internationalisation the firm no longer exports from its domestic
location and starts manufacturing/ production in its foreign location.

The distinguishable aspect of the Uppsala theory that makes it different from others
is that is describes internationalisation as a course of action. The key feature is that
there is a learning process that occurs at each stage. The theory explains that
between each stage there are factors that can prevent or disturb the flow between
the firm and the market including language barriers, differences in culture such as
values or political/ legal systems etc. This is known as the Psychic Distance (Vahlne
and Wiedersheim-Paul 1973) To overcome these difficulties it is essential for the firm
or its individuals to have sufficient knowledge and experience of the foreign market
so as to eliminate uncertainty and the consequences of rushing into
internationalisation. This knowledge and experience can be developed as it moves
through the chain. The theory also suggests that a firm initially enters a country that
is located psychically close to the domestic market to gain experimental knowledge
before internationalising further out (Svend Hollensen, 2007). In simpler terms,
companies enter foreign markets where it is possible to identify opportunities with
low market uncertainty. The knowledge and experience obtained can then be used to
enter markets at successively larger psychic distances. “This process evolves in an
interplay between the development of knowledge about the foreign markets and
operations, and an increasing commitment of resources to those markets” (Johanson
& Vahlne, 1990).

Although the “stages theory” is arguably one of the most recognised and well used
theory‘s, its usefulness for the marketers of today can be disputed. The theory was
formulated in the early 1970’s when over-seas business world was underdeveloped,
 Sara Masarat Ibrahim
W1185626
International Marketing
2MKT659

or different to the present day at the least. The features of the theory were suited to
the positions of the firms and conditions of the markets of that time thus some of its
features are now out dated and less relevant for today’s marketers. This will be
discussed later in further detail.

The transaction cost theory as one of the traditional internationalisation theories has
been extensively used by marketer’s of large firm to provide rational reasoning for its
method of in entry mode when expanding abroad. It suggests that companies
employ a certain organisational structure: internalisation or externalisation. So
companies expanding abroad base their decision on how efficient or costly one
structure is compared with the alternative structure.

In summary the transactional cost theory evaluates whether or not it is beneficial for
a firm to use foreign agents to sell or manufacture products known as externalisation
or establish its own production or a subsidiary in a foreign market ( internalisation/
vertical integration) based on a cost perspective(J Whitelock, 2002).

Transactional cost is distinctive as it takes into consideration the element of

competition when entering a market using agents/ distributors. Transaction costs
emerge depending on the availability of agents/ distributors in the market the firm
wants to enter. If there are many suppliers (agents) to chose from then they tend to
perform more efficiently as there is a threat of replacement. This is known as perfect
competition conditions where transactional costs are low. When the supplier range is
restricted I.e. competition is low, the transactional cost increases as the need for
negotiations and supervision is added and “friction“ between buyer and seller is
high(Dwyer and Oh, 1988). Example of how transactional cost can be calculated is:

TC = ex ante cost (search cost + contracting cost) + ex post cost

(monitoring costs + enforcement costs). (Hollenson, S, 2007)

If the transactional cost of externalisation is higher than that of internalisation costs

then the may decide to integrate vertically, so as to reduce the transaction cost.

In contrast to the Uppsala theory , transactional cost focus’ solely on the cost and
income gained from the choice of method of entry in a foreign market as the basis for
decisions. There is little emphasis on market knowledge or whether the move is in
 Sara Masarat Ibrahim
W1185626
International Marketing
2MKT659

line with the firms objectives. Another major limitation of this theory is that it
assumes the friction is not present within its internal firms. Thus the comparison of
costs is not absolutely accurate. One aspect that both theories do share is the fact
that they concentrate on the autonomy of the firm in the internationalisation process.
Johanson and Mattson, 1986 criticise these theory’s for the reason of being too one
sided and so lean towards the Network Approach Theory.

According to the network approach (Coase, 1937) internationalisation is seen as a

process wherein relationships are constantly created, developed and sustained over
time. Internationalisation is described as an interaction process ( Turnbull, 1986) in
which the “actors” build mutual trust and knowledge. These relationships create
networks that consist of several players including competitors, suppliers, distributors,
agents, and customers as well as regulatory institutions (Johanson and Vahlne, 1990).

The interaction between the actors network strongly influences the firms
establishment in a foreign market as it assumes the firm is dependant on the
resources they control. Networking can also speed up the amount of time it takes to
internationalise. Also it is easier for firms with good relations in foreign markets can
rapidly set their own subsidiaries as well as move into distant markets. It is assumed
that without a good network in international markets a company will have problems
with regards to future growth. The greater the number of contacts, the more
advantageous it is for the firm as this means access to more networks and providing
their managers increased opportunities (J Johanson, L.G Mattsson, 1987)

The network approach holds relevance and importance for today’s international
marketers in the fact that it offers a different perspective from that of the traditional
stages process of Uppsala - it recognises that some firms may want to enter distant
markets or skip certain stages such as the use of agents. It is also useful for
marketers as explains the importance of relationships as opposed to just market
knowledge or cost. However, its value to marketers is limited as it fails to show how
relationships can be created or how networks can help overcome the problems
experienced in internationalisation.

The Uppsala and transaction cost theory also share limitations along with the network
approach that restrict their usefulness to toady’s international marketers. Firstly,
they concentrate on firms that sell/ manufacture tangible goods. The theories are not
 Sara Masarat Ibrahim
W1185626
International Marketing
2MKT659

valid for service industries. Also, they seem to focus on large firms especially in the
case of the transactional cost theory. Nowadays it is common for smaller or medium
sized firms to internationalise and thus these theories may not be applicable to these
firms.

Secondly the theories were formulated at a time when internationalisation was a

fairly new venture thus there was less information available on firms that had already
successfully globalised therefore there were fewer “benchmarks” for firms. They had
to gain experimental knowledge or “learning by doing” (Lindblom, 1959; and Johnson,
1988).Where as nowadays knowledge and experience can be gained from analysing
ventures of other firms that operate in similar markets. Also research on foreign
markets, such as economic statistics, information on environment, people etc. is so
much more easier and quicker to obtain thanks to the access to information
technology. Thus, firms can collect relevant information/ research to help choose the
right location and entry mode.

The Uppsala theory, also raises the issue of psychic distance. In today’s
internationalisation process this is not such a concern as the world has become more
homogeneous I.e. language differences and cultural diversity has narrowed. As the
psychic distance has decreased firms nowadays are willing to enter into distant
markets. The theory is also too deterministic, it proposes that during their
internationalisation, companies move through certain stages without skipping them.
However, there now firms (that may not want to take these steps) that have not been
taken into consideration with any of the mentioned theories known as the Born
Global’s- “these firms view the world as their marketplace from the outset and see
the domestic market as a support for their international business”.(McKinsey & Co.,
1993) It has been demonstrated that many firms now do not develop in incremental
stages with respect to their international activities as the process may be too slow.
These firms are known to start international activities right from their start for
example companies producing innovative products can spread to distant / multiple
markets rapidly.

Overall, I believe each theory hold value and relevance for today’s international
marketers. Individually they offer crucial elements I.e. knowledge, cost and
relationships. However, it is not feasible to say that a firm can solely rely on one
theory to base its decision of entry. The theories focus too much on one aspect and
 Sara Masarat Ibrahim
W1185626
International Marketing
2MKT659

exclude the other. Ie Uppsala disregards the importance of cost and relationships
whereas transactional cost does not include the value of market knowledge or
interaction. All of these factors are extremely important when making market entry
decisions. Thus, I believe that all theories are useful but should be used in
conjunction by marketers rather than use one as its sole basis.
 Sara Masarat Ibrahim
W1185626
International Marketing
2MKT659

References

Blomstermo, A and Sharma, D (2003). Learning in the internationalisation process of

firms. Cheltenham: Edward Elgar. 6- 10.

Thompson, G (1991). Markets, hierarchies and networks: the coordination of social

life. London: Sage Publications. 256-258.

Hollensen, S (2007). Global Marketing: a decision orientated approach. Europe:

Prentice Hall. 67-70.

Johanson, J and Vahlne, J.E (1977). Internationalization process of the firm: a model of
knowledge development and increasing foreign market commitment. Journal of
International Business Studies.8. 23- 3.

Kuada. J. (2006). Internationalisation of Firms. Available:

http://www.business.aau.dk/ivo/publications/working/wp43.pdf. Last accessed
14/02/2010.

Madhock, A (1998). The nature of multinational firm boundaries: transaction cost,

firm capabilities and foreign market entry mode. International Business Review. 7.
260- 265.

McKinsey & Co (1993). Emerging Exporters. Melbourne. McKinsey.9.

Whitelock, J. (2002). Theories of Internationalisation and their impact on market

entry. International Marketing Review. 19, 4. 342-346.

-. (2002). Internationalisation Theories. Available:

http://wse103331.web15.talkactive.net/activebuilderfiles/ibaforeningen.se/filer/Intern
ational_Marketing.pdf. Last accessed 13/02/2010.