Business briefing series

20 issues for businesses expanding internationally

At Ernst & Young, we understand the challenges and we know what it takes to drive sustainable growth because weve helped many of the worlds most dynamic and ambitious companies develop into market leaders. Our global network of Strategic Grow th Markets professionals are dedicated to serving the changing needs of fast-growth companies. Whether working with dynamic companies or early stage venturemid-cap backed businesses, our professionals around the world draw upon extensive experience, insight and global their resources growing businesses reach their full to help potential. As well as providing traditional assurance, advisory, tax transaction advisory ser vices, our professionals and work you to reduce the complexity of legislation, help with align tax strategy with your business goals, expand into your new markets and pursue mergers, acquisitions or other strategy transactions to take your business to the next level. We can provide guidance around how to manage and control your so that you can approach the future with risks, confidence. So whether your business thri ves on entrepreneurial or superior customer service spirit, innovation and regardless of your stage of grow th our Strategic Growth team can help you take the next step. Its Markets not luck that makes leaders. Ernst & Young is a global leader in assurance, tax, transaction ser vices. Worldwide, our 144,000 p eople and advisory are united by our shared values and an unwavering commitment make a difference by helping our people, to quality. We our clients and our wider communities achieve their potential. Ernst & Young refers to the glob al organization of member Ernst & Young Global Limited, each of which firms of is a separate legal entity. Ernst & Young Global Limited, a UK company limited by guarantee, does not provide services to clients. For more information about our organisation, please visi www.ey.co t m

The Institute of Chartered Accountants in Australia (the Institute) is the professional body representing Chartered Accountants in Australia. Our reach extends to more than 66,000 of todays and tomorrowsleaders, representing some 54,000 business Chartered Accountants and 12,000 of Australias best accountingwho are currently enrolled in our worldgraduates class postgraduate program. Our members work in di verse roles across commerce and industry, academia, government and public throughout Australia and in 109 practice countries world. We aim to lead the profession around the by delivering visionary thought leadership projects, setting the benchmark for the highest ethical, professional and educational standards, and enhancing and promoting the Chartered Accountants brand. We also represent the interests of members in government, industr y, academia and the general public by actively engaging our membership and local and international bodies on public policy, government and regulatory legisl ation issues. The Institute can leverag e advantages for its members as a founding member of the Global Accounting Alliance (GAA), an international accounting coalition the worlds premier accounting bodies. formed by The has a membership of over 800,000 and GAA promotes professional services to share quality information and collaborate on international accounting issues. The Institute is constituted by Royal Charter and was established in 1928. For fur ther information about the Institute visit charteredaccountants.com. au

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All information is current as at October 2010 First p ublished Octob er 2010 This communication provides general information which is current as at the time of production. Published by: The Institute of Chartered Accountants in Australia Address: 33 Erskine Street, Sydney, NSW 2000 Ernst & Young Address: Ernst & Young Centre, 680 George Street, Sydney Busin ess briefing series: 20 issues for businesses expan ding internationally First edition ISBN: 978-1-921245 -62-6

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Th e I n sti tu t e o f C h ar te re d A cc o u n ta n ts i n Au s tr al ia I n co r p o ra te d in A u st ra li a M e mb e rs L i ab i l it y L im it ed . 0 9 10 - 3 7

ABN 75 288 172 749 Ern st & Young.

Business briefing series

20 issues for businesses expanding internationally
Anyone who has made the bold step of starting their own business has at some stage dreamed about taking that business of fshore in a bid for increased expansion and to generate additional revenue. Although ambitious and potentially very lucrative, such a move could also prove costly if not done very correctly. To assist business leaders with the process of taking on globalisation, the Institute of Chartered Account ants in Australia (the Institute), in conjunction with Ernst & Young (EY) has produced this thought leadership paper Business briefing: entitled for businesses expanding internationally 2 0 issues . T he publication is the third part of the Institutes Business Briefing series designed businesses to successfully navigate challenging issues. The to help commentary is divided into three key phases of an international expansion in the report project: Planning for expansionyour location Choosing Conducting business overseas. Business briefing: 20 issues for business es expanding internationally has been written and presented in such a way as to maximise the readers understanding of the issues. Each of the three sections contains a series of pull-out boxes which guide the reader as to the types of questions that they should be asking with regard to the business. These questions are consolidated into a detachable checklist at back of the publication which can be used when consulting the the paper. I trust that you will find this thought leadership paper interesting and worthwhile reading.

Michael Spinks FCA President Institute of Chartered Australia

Accountants

in

B us in es s b r ie fi ng s er i 20 :i s s ue s f o r b u s in es s es exp an di ng i nt e rna t io nal ly es

B u s in es s b ri ef in g s er ies :0 i s s u es for b u s in es s e s e xp an di n g in te rna tio n al ly 2

Contents
Introductio .......................................................................................... ......... n Planning for .............................................................................. ........ expansion 1. Strategy ....................................................................................... 2. Global trends 3. research
......... .................................................................................. ......... Market ................................................................................ ........

6 8 8 8 9 10 10 11 12 12 13 13 14 15 15 16 17 18 18 18 19 19 20 20 21 Back cover

Choosing the .............................................................................. ........ location 4. Political and social ....................................................................... ....... climate 5. Local tax and regulatory ............................................................. ...... environment 6. Legal system ................................................................................. 7. Innovation and ....................................................................... ....... incentives 8. Location and ...................................................................... ....... infrastructure 9. Cultural .......................................................................... ........ compatibility 10. Local workforce ...............................................................................
........ .........

Doing business ........................................................................... ........ overseas 11. Global management ....................................................................... ....... team 12. Global human resources .......................................................... ....... considerations 13. .................................................................................... ......... Financing 14. Choosing the operating ................................................................ ....... structure 15. Implementing the operating ............................................................. ...... structure 16. Foreign exchange management and currency risk ........................................... .... /controls 17. Business and international .............................................................. ....... taxation 18. Supply chain, transfer pricing and intellectual .............................................. ..... property 19. Risk ............................................................................. ........ management 20. Exit or wind- down .............................................................................
........

Checklis ........................................................................................... .......... t Contact details ................................................................................

........

B us in es s b r ie fi ng s er i 20 :i s s ue s f o r b u s in es s es exp an di ng i nt e rna t io nal ly es

Introduction
In August 2010, China overtook Japan as the second largest economy in the world, and it is closing the gap on the United States. The world is changing at a fast pace, driven by globalisation. Throughout the global financial crisis, agile organisations continued their quest to participate in and prosper from the tremendous growth in the emerging markets. Very few Australian organisations can afford to ignore this growth momentum, nor the other benefits that can be achieved from investing in emerging and international markets.
The Globalization Index 1 supports many market that the trend towardsindicators ambitious international expansion will continue. This research depicts a global landscape organisations where execute their international expansion strategies at a rapid pace. This speed of expansion may indicate the strong desire by companies to be the first-to-market and/or the imperative to capitalise on new market developments. The survey was conducted in August 2009, with 520 senior executives worldwide. 38% of respondents they currently derive over half of indicated that their revenue from overseas operations. As indicated in the below, by 2012 more than half of the respondents chart expect this to be the case, with one in four respondents expecting to derive more than three quarters of their revenue from overseas. Only one in 50 executives surveyed believes containing their operations within their home country or earning 10% of their revenue from overseas markets less than by 2012, to be a viable option. Regardless of the size of their international footprint, the research identified the top five drivers for businesses expanding internationally as overall growth opportunities, profitability, access to materials, access to human resources, and the ability to innovate. Benefits for international companies from globalisation In which of the following ways has
globalisation impact on your business over had a positive the past three years?
86%

Overall growth
53% 68%

80%

Profitability
32% 35%

5 1%

Access to materials

27% 39% 42%

What proportion of your companys revenues is derived from its overseas operations (i.e. outside your companys home market) currently, and in three years time?

Access to human resources

27% 21%

27 % *

Ability to innovate

33% 31% 30% 27% 29%

Now Three years time

13 10

17 23

20 18

Investmen opportunities t
16%

Proportion of revenue from international clients: 25 75% 10 24% 0 9%

2 7

15 21

2 8 26

Access to finance

2 0% 15 %

0 % 1 00 %

Proportion of revenue: 0 9% 10 14% 15 24% 25 49% 50 75% Over 75%

Sou rc e: T he Glo bal iz ati on I nd ex S ur ve y 2 00 9

Sou rc e: T he Glo bali zat i on I nd ex S urv ey 20 09 * Fi gu res m ay no t ad d up t o e x act l y 10 0% , d ue t o ro un di ng .

1. The Globalization Index 20 09 released in January 2011.

is a report written by Ernst & Youn g with th e Economist Intelligence Unit. The 2010 edition of the report is expected to be

B u s in es s br ief in g s er ie s: is s u es f or b us i nes s e s e xpa nd in g in t ern at i on all y 20

This report, the 20 iss ues for businesses expanding internationally , focuses on the core issues that you should consider when formulating and executing your international expansion strategy. It does not provide specific analysis, however, common country themes identified that can be applied regardless of have been your target location. The commentary in this report is divided into the three phases of an international expansion key project: 1. Planning for expansion 2. Choosing your location 3. Conducting business overseas. The funnel planning
Planning expansion Choosing location Doing business oversea s for

the

and incentives, location and infrastructure, cultural compatibility and the local workforce. These issues are looked at from a strategic point of view rather than a country specific angle. Whilst for example legal systems examined in any detail, we raise the are not question your business is equipped to deal with a legal whether system based on civil or Muslim law. The last section deals with issues associated with doing business overseas. An existing global managementmake it easier to set up your footprint team would in a foreign location. Would your management team how to deal with a request by a high know ranking asking for a facilitation fee? Does your global official workforce need security protection in addition to other incentive payments? Will your business be funded intercompany loan or do you need to by an consider more innovative funding arrangements such as Islamic Will you acquire an existing local business finance? to reach a certain market share quickly? Foreign exchange management and currency risk/controls, business and international tax, supply chain and intellectual propert y risk management issues are also looked at and in more detail. Finally, we consider exit and wind down issues. Agile organisations will go through the process described above at regular intervals. Based on the findings they decide to wind down operations in one may location and commence operations in another. This may make commercial sense, however, broader brand and perfect reputation issues must be considered. For example, if you have become an important employer in a particular region your exit must be carefully planned country or to mitigate social backlash.

The diagram above depicts the import ance of funnelling your ef forts to ensure the bulk of your energy and resources are spent setting up successful The first two phases focus on identif ying operations. potential locations and selecting the most appropriate for your operations. In the planning for expansion section we examine the importance of a clearly defined strategy, global trends driven by changing demographics and market research. The planning phase is vital to avoid wasting resources in assessing investment locations that should never have considered in the first place. been The detailed assessment under the major heading your location involves looking at choosing the political and social climate, the local tax and regulatory environment, the legal system, innovation

B us in es s b r ie fi ng s er i 20 :i s s ue s f o r b u s in es s es exp an di ng i nt e rna t io nal ly es

Planning for expansion

1. Strategy
Clearly define and stress test your strategy What are the implications of international expansion existing business operations? for your Very few organisations can afford to ignore the increasing trend towards globalisation. Entrepreneurial are the first to move often have organisations that the most startling success stories. However, those organisations that do not stress test the financial and operational impact on their existing business, may lose than their dream of becoming a global player. more Before expanding internationally, you should have a clear picture of what you are trying to achieve. Are you searching for a new and cheaper source of capital, market leading talent, more cost ef fective production, new markets, or all of the above? Can you execute your strategy alone or do you need strong partners both from an advisory as well as a business perspective? You should consider the pressure global expansion may on your domestic operations in terms of have finance, management time and human resources. Will you enter identified market(s) through acquisition, joint the venture, a partnership or a green field development? Ensure you test your assumptions and have a clear understanding of how long it will take to turn a profit. changes that arise from this growth that will af fect business practices and profit ability in the future. In countries such as China and India, population growth is accompanied by increasing affluence and a growing class consumer base. Therefore, the middle traditional characterisation and perception of emerging markets as predominantly low cost manufacturing centres is quickly changing. Emerging markets are also becoming strong consumer driven societies where the demand for products and services is increasing faster than in more established and mature markets. The implications for your business are clear. You can become a participant in these markets and tap into ever increasing consumer base to help an secure your future profitability, or you can watch others fill space. Those business leaders that do not that act watching others reap the benefits and may risk be challenged when those first-movers turn their attention to Australia. Seen from this perspective, international also an opportunity to help strengthen expansion is your business at home in the medium to long term. The flow of foreign direct investment (FDI) into a country is an important indicator of the economic viability of location. Similarly, demographic trends such as that the and education profile of the population may also age indicate future economic vitality and the growth of a consumer base. An example of this is Vietnam, wherethan 70% of the population is 30 years or younger. more Vietnam is currently attracting significant FDI in certain industry sectors.

2. trends

Global

Is your organisation exposed to new and emerging markets? Has the composition of your major competitors changed? Is foreign direct investment in your industry clustered in locations where you sector do have a presence? not

It is important to monitor and to be aware of global trends, particularly in relation to demographic changes. Australias population is estim ated to grow to 36 million by 2050. To put this into perspective, that is equivalent to the bi-monthly combined population growth of China and India. World population growth is not a new phenomenon; however it is the demographic

World Investment Report 2010 United Nations Conference on Trade and Development

Global foreign direct investment witnessed a odest, but uneven recovery in the first half m of 2010. Developing and transition ec onomies now absorb more than half of global FDI.

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3. Market research
What research is available to provide you with information on market and industry conditions? Is this information up-to-date and what is the future outlook? Create a short list of new and emerging markets, tap into existing networks, talk to your advisors and visit your short listed locations. Market research is very important but can be costly; there are numerous resources available free of however charge to help you uncover useful information about the strengths and challenges of global markets. Much of research can be done from your home base and this will you in generating a short list of potential help locations for expansion. Reliable statistical data or reference material can supplement but should not replace a field trip. The world is moving and changing fast. What may have been a good investment location historically, may not present the same opportunities in the future. Tap into existing via chambers of industry and commerce networks or other organisations representing an investment location, fairs, talk to your advisors, visit your t arget visit trade locations and meet the local people. This will greatly you to make an educated and informed assist decision about whether that market is right for your business.

B us in es s b r ie fi ng s er i 20 :i s s ue s f o r b u s in es s es exp an di ng i nt e rna t io nal ly es

Choosing the location

4. Political climate and social
Is the political system stable? How do you assess sovereign risk? Does the country suffer under high levels of sovereign debt? Is there likely to be social unrest or are workers organised in powerful unions? The pace of change of the global political landscape is accelerating due to globalisation. Political decisions in one country may have far reaching implications for trading partners or the globalised business communit y large. The response to the global financial crisis at with stimulus programs around the globe illustrated this. governments appreciate that globalisation is Most the motor of economic expansion. However, as the graph below illustrates, concerns are now emerging about new protectionism, regulations and trade issues. More than 5 0% of Globalization Index respondents believe that major economies will adopt protectionist measures in certain key limited sectors. Furthermore, the burden of sovereign debt may force a country to abandon business friendly programs.
Which of the following asser tions about the impact of protectionism in coming years most closely reflects your view? (% who agree with each statement)
M a jor e c on omie s wi ll a do pt l imi t e d p r ot e c t io nis t me a s ur e s in c e r t a in k ey s ec to r s G l oba l ma r k e t s w i ll r e ma in or be c ome m or e o pe n a s g ov e r nme n t s t r y t o r e s t or e e c ono mic gr ow t h Do mes t ic p ol it ica l ex p edie ncy w il l ov e r r id e c l a ims b y w or ld le a d e r s t o r e si s t pr o te c t ion is m Ti t - fo r- t a t p r ot ec t i onis m w i ll t r igg e r a da ng e r ou s do wn wa r d s pi r a l in glo ba l t r a de Th e w or ld e c o nomy w ill r e p e a t t he pr ot e c t i oni st e r r or s o f t he 1930 s

An assessment of your target locations political environment, including the potential for social unrest or regional instability is relevant for determining the risk of potential investment. This has been an any important South East Asia, where various issue in countries affected by social unrest in recent have been years. To support this, the graph below illustrates the importance investors place on political stability in assessing emerging market locations. Almost 60% of respondents rated political stability as the most impor tant government-related factor to consider when deploying FDI. Before entering a new market, you should evaluate based on the future outlook for the country or the risk the region, not just the status quo or historic events. Ensure take note of any early signs of social that you unrest.
If you were to plan a foreign direct investment in developed or emerging markets over the next year, which of the following would you consider to be the most important government relatedfactors?
Po lit i c a l st a b il it y

Ma c r o ec ono mic st a b il it y

Cu r r enc y st a b il it y Ho s t go ve r nme nt su pp or t f or i nw a r d f o r e ign i nv e s t me nt H os t go v e r nme n t a t t it u de t ow a r ds dome st i c e nt e r p r is e s C or p or a t e a n d o t he r r e l e v a nt t a x e s C la r i t y a nd pr edic t a b il it y o f t he le g a l s y s t e m S t r e ngt h a nd f a ir n e s s of le g a l s y s t e m Ri s k of n a t ion a lis a t i on or ex prop riat io n

0% 20% 4 0% 6 0% Dev elo pe d Em er gi n g

So u rc e: T h e G lob ali zat i on I nde x S urv ey 20 09

D on t k no w

0% 10 % 2 0% 3 0% 40 % 50 % So u rce : T h e Gl ob aliz at io n In dex Su rv ey 20 09

10

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5. Local tax and regulatory environment

Is the tax regime business friendly and/or competitive ? Does the country have free trade agreements or double tax treaties? Does the regulatory regime set the scene for a sound corporate governance framework? A low headline corporate t ax rate is always appealing However, this can also be deceptive due to many including the existence of state based taxes, factors withholding taxes and consumption taxes such as a value added tax (VAT). Your market analysis should commercial discussions with a local include market tax expert taking into account your specific facts and circumstances where possible. Free trade agreements generally indicate an open and investment friendly economy. However, their existence
2

does not rule out the possibility of government support for certain industries to protect domestic markets against competition, through subsidies or other forms of foreign protection. An extensive double tax treaty network may likewise look impressive; however it is necessary to look beyond withholding tax rates and test how the treatieswith mutual agreement procedures and deal . arbitration around transfer pricing, permanent establishment issuesglobal work force. Not all double tax treaties are and a the same and some countries may try to assert taxing beyond what investors would ordinarily rights expect under OECD guidelines. A countrys regulatory framework will be considered open to FDI, if it can strike the right balance between a secure environment for effective creating corporate governance across all industry sectors, without stifling entrepreneurial freedom or discriminating investors. against foreign

Legal systems around the world

Ci vi l L aw Co mmo n L aw Mu sl im L aw Cu sto ma ry L a w Mi xe d Sy ste m

S o ur ce: Leg a l s y s te ms a r oun d t he w or l d, U ni v er s it y o f O t t a w a : ww w. ju ri g lo b e. ca /e ng / i nd ex. p h p

2. Ernst & Young Passport (in cludes the 2010 Worldwide Corp orate Tax Guide 2009 Transfer Pricing Glob al Reference Guide )

, the 2010 VAT Guide , the 2009 Executive

Global

and the

B us in es s b r ie fi ng s er i 20 :i s s ue s f o r b u s in es s es exp an di ng i nt e rna t io nal ly es

11

Choosing location
6. Legal system

the

(continu ed)
7. Innovation and incentives
Should you develop your emerging or fast growth markets? products in

Is it a common law system? If not, are you sure you understand the outcomes? Do the laws and the legal and judicial system provide support for and protection of commercial activities? An effective legal system that provides a balance between protecting the commercial interests of business, whilst also protecting the consumer, can provide you with a level of confidence that you can legally enforce your commercial agreements. A common law legal system can be a huge advantage be much more likely to understand as you will the framework and outcomes. The map on page 11 shows however that the number of countries with a pure common law system is limited. Civil law is the prevailing system in much of Europe many of the emerging markets, while Muslim and in law be encountered when doing business in the may Gulf the Middle East and parts of Africa and Asia. States, The legal system will af fect every aspect of your international expansion. For example: It will affect merger and acquisition activit y itself and will set boundaries through antitrust competition or law It will be instrumental for the protection of trademarks, commercial design or plant innovations (including copyright or distribution law, data protection and privacy) It will set the scene for litigation, arbitration or mediation It will provide guidance with respect toinformation Ltechnology abour law will regulate employment matters There is real estate, planning and construction law to consider.

Should you have a presence at global innovation clusters? Are generous grants and incentives available for innovative organisations? Maintaining an environment that supports innovation for future business growth. Innovation is critical can centralised, or decentralised and driven locally. be As demonstrated in the chart below, organisations with a centralised strategy are just about as likely as thosea decentralised approach to regard it as essential with to apply innovative ideas from local markets. Innovation is critical to growth whether centrally or locally drivenrate your agreement with the following Please
statement innovation activities within your regarding business
Ma i nt a in ing a n env ir o nmen t w he r e pe op le c a n be i nno v a ti v e i s c r i t ic a l t o f u t ur e b us in e ss gr ow t h We a da p t pr o duc t s an d se r v ic e s to t he ne e d s of loc a l ma r k e t s W e b e li e ve pr o c e s s inn ov a t ion i s a s imp or t a n t a s pr od uc t i nno v a ti on A p pl y ing in nov a t i on ide as f r om lo c a l m a r ke ts is e s s e nt i a l W e c r e a t e pr od uc t a n d se r v ic e s s pe c i fic a ll y f or loc a l ma r k e t s 36% 49% 44% 52% 48% 67% 5 8% 61 % 65% 6 8%

In nov a t i on c ent r a l is ed in he a dqu a r t er s In nov a t i on dec ent r a li se d t o lo c a l ma r k et s Sou rc e: T he Glo bal iza ti on I nd ex S ur ve y 20 0 9

For many businesses, the decision to relocate research and development activities to an emerging market will be influenced by a number of strategic and business drivers. These may include using the target location as strategic hub for market expansion into that a region. Conducting research in emerging and fast growth can drive new ideas by tapping into a new pool markets of innovative and market leading talent.

12

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An understanding of the various government incentive ranging from tax holidays and regimes incentives, to discretionary government grant support may help 3 . sweeten the deal for many organisations In addition to any formal programs, the host countrys government may be interested in attracting your investment in order to boost the local economy and create jobs in strategic sectors. In most jurisdictions, governmentsreceptive to specific negotiated may be concessions and incentives, depending on the circumstances and nature of the investment. It is important to the consider these possibilities at an early stage before committing to the target location. This ensures that an effectivecan be developed that places your organisation strategy in a strong bargaining position.

of potential considerations such as the target locations size and accessibility, transport, utilities and information systems, access to financial services and other factors.

9. Cultural compatibilit y

Are there significant cultural differences that may impact the way you conduct your business? Are there likely to be language barriers?

8. Location and infrastructure

Is economic infrastructure secure and reliable? How would you deal with power outages, telecommunication down time or traffic congestion? Is the location central to your regional markets, of goods and services? suppliers It is import ant to understand the infrastructure that will your disposal in the target country and assess its be at reliability and the positive or detrimental impact it may on achieving success in your target have market. Particular attention should be paid to the target countrys communications infrastructure. In the digital age this is arguably more critical than ever before, given the importance of information technology to the effective of modern businesses. You should operation consider the capacity and efficiency of telephone and mobile networks, and also data delivery mechanisms such as fibre optic cable and broadband internet. Is the infrastructure modern, reliable and safe? How vulnerable is it to being compromised for example from power failures and cyber at tacks, and are there emergency systems and disaster recovery plans in place? When expanding into the target location, consider the attributes which have made you whether successfulcan be leveraged to drive success abroad. at home Your to shift wealth, products, people and information, ability will be heavily dependent on accessing adequate social and commercial infrastructure. There are a wide range

Entrepreneurial organisations through their very nature can achieve growth and develop a global footprint relatively quickly. However, it can take a long time to create a diverse workforce that reflects the variety of markets in which the organisation operates, and cultural can impact significantly on business customs practices in the chosen location. Without early at tention to these issues, your management team may be left behind in terms of cultural awareness and diversit y. This can generate a competitive disadvantage as the management team will be required to make rapid decisions, while at the same time ensuring that they have a clear understanding of the local customs and operating conditions.

Cultural business etiquette

Bringing your host in Tokyo a bottle of
American is a thoughtful gift. Its a major offens whi skey e in Dubai. American whiskey is revered in China and Japan. But in the Islamic Middle East, and among Musli m hosts i n Asia, alcohol is strictly Intaboo ddle East and Asia, gi fts must always the Mi begiven at the end of the meeting so they are not regarded as bribes . In Latin America, however, gifts are a great icebreaker and can be given at the start of a meeting Business cards in Japan, China and other parts ofAsia are considered a representation of ones self offer and receive cards wi th both hands, and always it as i f youre s tudying it look at Incarefully the Is lamic Middle Eas t, its the norm mos t of to keep visitors waiting. This is not considered rude, extension of the Middle Eastern custom but an to mix business with pleasure. It is also acceptable your hosts children, especially s to ask about ons, never their w but ives .
F o rb es: ww w. msn b c. m sn .c om / i d / 35 9 8 60 24 /

3. Ernst & Young, R&D incentives in the new tax landscape.

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13

Choosing location

the

(continu ed)
10. Local workforce
What is the availability, skill-set and cost structure of the local work force? When expanding into a global market, your human resources can mean the dif ference bet ween success and failure. As your organisation grows off-shore, get ting the right people in the right location can provide a vital competitive advantage. The quality of local workforce may often be the deciding factor the in determining whether to expand your business to that location and also in determining how successful expansion will such an be.

In this respect, the importance of language cannot be overstated, as it will underpin everything the businessin the target location. Effective does communication (or the lack thereof ) has the ability to make or break the business. It is a key foundation upon which the success business may be built. Your management of the team need the language skills to communicate will effectively who will interact with your business with those including government, regulators, financiers, suppliers, staf f and customers. Even in countries where English is commonlyis the language of business, regional nuances spoken or can be a source of misunderstanding and can lead to more serious problems. As demonstrated in the diagram below, the level of tolerance and understanding of cultural and ethnic differences and language barriers in foreign markets ranks highly Globalization Index respondents amongst when asked about the most important cultural factorsconducting business internationally. The when top ranked issue related to the level of international experience of the workforce is discussed below.

A.T Kearney

Companies are viewing the labour marketthrough a global lens, and in many more cases, off-shoring decisions, especially in higher, value- added functions, are being driven by talent shortages at home as much as by costcutting.
, Global Services Location Index 2009

Which of the following cultural factors do you expect to important when conducting your be most international business over the next year? (% of respondents)
L e ve l o f in t e r na t io na l e x p e r ie n c e o f w or k f or c e De g r e e t o w hic h pr o duc t s a n d s e r v ic e s n e e d t o b e a d a pt e d t o s uit f or e ig n m a r k e t s L e v e l o f t ol e r a nc e a nd und e r s t a ndi ng of c ult ur a l/ e t hic di f fe r e n c e s in y our fo re ign m a r k e t s La n gua g e b a r r ie r s in f or e ig n m a r k e t s

To le r a n c e of f or e ig n b us in e s s i nflu e nc e in hos t m a r k e t s

Cu lt ur a l s imi la r i t y t o ho me ma r k e t D e gr e e t o w hi c h a dv e r t is i ng a n d c ult ur a l i ma ge r y c a n be u nder st o od int ern at ion ally P r e s s a nd me di a f r e e dom in f or e ig n m a r k e t s Op e nne s s t o f or e i gn c ult u r a l infl ue nc e ( e .g. th r oug h t e le v i si on, c ine m a e t c .)

When set ting up a local workforce in your target location, there are numerous practical issues to consider. need to think about the education level You will and experience of your prospective workers and how much you will need to invest in training. You will need to determine the terms and conditions of employment and you may need to negotiate with individuals, labour or other bargaining agents. There may be unions local legislation or regulations concerning working hours, weekends and public holidays and there may also be local customs or practices that will impact on the operation and activities of your workforce. In addition you will need to consider your global remuneration whether short term and long approach and term incentive programs will be offered to your overseas employees, as well as the tax and regulatory implications with associated this.

0 % 1 0% 20% 30 % 40 % 5 0% So u rc e: T h e G lob ali zat io n In de x S urv ey 20 09

14

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Doing business overseas

11. Global management team
Who will negotiate with government, customers, and business partners? How should suppliers you manage risks such as bribery and corruption? Who will be responsible for the recruitment of staff? Do you have an international management team ordo you need to build one? Commencing business operations in a new market can involve significant risks, and therefore it is import ant to have a strong management team that understands the challenges ahead. Having established the business in a new country, a variet y of issues may present themselves such as: How to ensure that your business operations run smoothly? How much hands on involvement is required by your management team?much time and resources will it How consumeup your operations? setting Will some members of your management teamrequired to spend a lot of personal time in the be new location? Will Australian expatriates be sent to run the business or can the services of local managersupon? be relied To be prepared, you must consider the challenges your business will face during the start-up phase, and who from a management perspective is best placed to deal with those challenges. In determining this, consider any potential negotiations with the government or other officials in the host countr y. Negotiations might local be required over issues such as licensing arr angements, tax concessions, labour conditions and local joint venture The right negotiating technique will be partners. essential. Does your organisation have sufficient knowledge of the host country and expertise to conduct negotiations or you need specialists with expert local knowledge will to negotiate on your behalf? The graph on page 16 shows that organisations that operate in more than 10 countries

Corruption 2009

Perceptions

Index

9.0 10 8.0 8.9 7.0 7.9 6.0 6.9 5.0 5.9 4.0 4.9 3.0 3.9 2.0 2.9 1.0 1.9 0 0.9
T he Co rr up t io n P erc ep t io n s I nd ex ( CP I) me as u res t h e p e rcei ve d le vel o f t h e co rru p t io n in 180 cou n t rie s a nd t erri t or ie s ar ou nd t he wo rl d. Th e CP I is a s u rv ey of s u rve ys , bas ed o n 13 d if f eren t exp er t a nd b u s in es s s ur veys . S co res ran g e f rom 0 (p e rcei ve d t o b e hi gh ly c orr up t ) t o 1 0 ( pe rce ive d t o h ave lo w le vel s o f c orr up t i on ). Tran s p aren cy I nt ern at i on al. Al l rig h t s r es er ved .

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15

Doing business overseas

are highly likely to have a diverse management team those with only domestic operations are whilst unlikelya significant proportion of senior management to have from another country. More global companies are more likely have to international management Roughly what proportion of senior management
are nationals country?
F orei gn o perat i ons in 11 or mor e cou nt rie s F orei gn o perat i on s in 1 10 cou nt rie s Do mes t o ic perat i on s o nly 0 % 10 0%

(continu ed)
12. Global human resources considerations
What benefits will you provide to expatriates and what are the tax consequences? Do your employees require security protection? Do you have a team that can deal with assignment management, immigration and tax compliance? Should these functions be outsourced? Although expatriates know your business and may the opportunit y to work overseas; they may enjoy also lack local knowledge. Relocating and remunerating expatriates can be more expensive than local hires, should first consider the objectives of the so you assignment and your desired return on investment. If decide to use expatriates rather than local hires, you you also consider what happens when the must assignment is finished. A repatriation plan should be implemented so the knowledge and skills gained on assignment are retained within your organisation. You must also ensure have the resources to manage the related that you localinternational compliance obligations, particularly and if you are expanding into more than one country. To ensure your expatr iate st aff are not distracted fr om the job at hand, organisational suppor t will be required to deal with relocation and immigration issues. This level of support will vary from organisation to organisation; however this along with the development of an incentive be factored in, even if the new host location plan should is attractive. Generally, most organisations develop formal policies that consider issues such as the level mobility of remuneration, relocation benefits and other incentives. Increasingly organisations are also linking their mobility with their t alent management strategy. The programs tax s of your employees will also get more complicated affair with tax exposure in more than one location, specifically due to the revised rules in Australia for the taxation of employment income. Benefits provided to your Australian whilst working overseas could potentially workfor ce be assessable both abroad and domestically. Tax equalisation arrangements are a common mechanism used for employees who work abroad for a period of time. Another important consideration (and cost) will be of security for your employees. In some that countries, employees may be the target of extortion expatriate threats, kidnapping attempts or other forms of violence. They will need to be assured of their safet y, which may include specific accommodation, transport and protection arrangements as part of their overall remuneration and benefits package.

of

another

30 16

19

9 26

% 55 22 9 6 5

8 8

5 1 4

Senior management from another country: Less than 5% 5 14% 15 24% 25 49% 50%+
S o ur ce: T he Glo bali zat i on In dex Su rv ey 2 00 9 * F ig ure s ma y n ot add u p t o ex ac t ly 100 % , du e t o rou nd in g.

Have you also considered the possibilit y of corruption in your host country? Is it common for local officials people to demand bribes, facilitation fees or business or kick-back payments? How will you deal with such demands while protecting the interests and integrit y of your business? Will the local authorities be of assistance be complicit in the process? Failing or will they to identify and deal with such risks can bring serious consequences; as such practices may be criminal under the laws of both Australia and the offences host country and punishable with heavy fines and/or prison sentences. The map on page 15 illustrates the perceived levels of corruption in countries around the world.

16

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13. Financing
What are the cash flow needs of your business? What is your projected revenue growth? Are your financial models sound or overly optimistic? Do you need strong partners to finance your expansion? Have you considered Islamic finance as a source of funds? What is the debt equity mix of funding? What are the tax consequences? It is import ant to stress test your financial models and revenue targets to ensure you can service your debt. testing should involve hypothetical parameters This such interest rate hike, currency deflation or dif as an ficult conditions. During the global financial market crisis, successful businesses continued their growth path duethe establishment and implementation of realistic to and effective business models that had been stress tested. There are many options available for raising finance for your global expansion. There are, of course, well established conservative options including bank or intercompany loans, however, you may wish to consider financing options such as Islamic emerging finance.

The map below depicts how Islamic finance is available worldwide. How you manage your ongoing finance raises significant taxation considerations both in Australia and your target country. You should test your assumptions by using financial modelling to determine if you can achieve the desired debt to equity ratio recommended by your financial You should confirm that your treasury advisors. function is per mitted under local and Austr alian law to ensure that ter ms of your finance arrangements do not breach the the transfer pricing rules or thin capitalisation thresholds. Hybrid arrangements, changes to the non-port folio financing dividend exemption and withholding tax implications, need to be reviewed carefully from a tax perspective. You should stress test assumptions made in financialto ensure that you can still service models the recommended debt levels if certain factors turn to worse. You should also confirm that the the proposed debt to equity ratio on both the Australian and foreign entity balance sheet is permitted under the relevant law as potential breaches of the transfer taxation pricing or thin capitalisation rules can result in the of tax deductions. denial

Global Islamic Funds by Hom e Country of Asset Manager (QI 2010)

5 834 8 45 3 1
US A

14

2 1

3 2 7 181 2 100 24 2

~ 2 .7 1 4

6 27 82 6

M alaysi a

~ 5 .1

~ 2 2 .8
B ah ra in

KS A

K uw ait

~ 4 .0 13
UAE

17 7 3 26

Islamic AuM by Country (US$ billion): 10+ 1 10 0.5 1 0.1 0.5 0.01 0.1
Sou r ce : E ur ekah e dg e, Zaw ya Fu nd s M on it o r, E rn s t & Y ou n g an aly s is
9

~ 1. 2

~ 6 .1

N o t e:Fu nd s pe r c ou nt ry in cl ud e t ho s e m an ag ed b y p la yers h ead q uar t ere d i n t ha t re s p ect i ve ju ri s di ct i on . I n di cat e s t o t al A uM of I s lam i c f u n ds in US $ b il li on I n di cat e s t he n um b er of f un d s

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Doing business overseas

14. Choosing structure the operating

(continu ed)
16. Foreign exchange management and currency risk/controls
Is the local currency stable or volatile? Is currency hedging available at a reasonable cost? Could currency restrictions inhibit or even prohibit of international funds? the flow Organisations generally can hedge international internal transactions effectively without adverse outcomes, although the tax and accounting treatment can be complicated. The risk and commercial exposure rises exponentially where transactions with external suppliers customers and are involved. The diagram below illustrates the fall of the Euro against the US Dollar initially triggered by the sovereign debt in Greece. The fall of the Euro accelerated crisis when the crisis spread to other European countries. The rise fall of a currency can impact the economics of and an entire project or production set-up. It can significantly alter the margins of goods sold on the world market, as well as the cost of overseas sourced inputs. The hedging of cross currency supply or loan contracts may remove the risk but will also come at a some of cost.
1.55

Are you looking for slow organic growth? Will you start out with a sales office or are you looking for a green field development?

Are you looking to establish an immediate local presence? If so, will you set up a joint venture or will you acquire an existing local business? There are a number of factors that will determine the method of entry into your chosen location. The market conditions and the opportunities to capture immediate market share will impact the design of your initial business model and structure. For example, you may time to establish various operating entities have and up your infrastructure such as factories or, you build may have time to set-up a simple representative office only from which you can immediately negotiate customer These factors may in turn drive your contracts. choice operating structure and also the method you of legal adopt to gain a foothold in the market. For example, will you establish a joint venture with a host country or operative and/or set-up various contracts partner to establish your operations? T here will be costs and benefits associated with these choices which must be considered, including those concerning commercial, legal, regulatory and tax issues.

15. Implementing structure

the

operating

1.50 1.45 1.40 1.35 1.30 1.25 1.20

What are the legal and administrative procedures and regulatory requirements for setting up the operating structure and starting the business? Should you outsource the set-up to corporate service providers? secretarial

How easy is it to start-up your business in the host country? What is the level of red tape and how will you go about cutting through it? You may have local accounting and reporting obligations and other legal that you must comply with at start-up and statutes on ongoing basis. Penalties for non-compliance an maysevere, including criminal prosecutions and be prison sentences. How will you make sure that you have identified all obligations and how you will satisf y them? It may be cost effective to outsource your corporate accounting and tax functions to local secretarial, experts.

N ov Dec J a n Fe b Ma r A pr Ma y J un J u l A u g 20 20 10 09 S ou r ce : Y aho o F in anc e

In addition to foreign exchange management, you need to ensure that the target location does not impose limitations on the movement of currency in and out of the country.

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17. Business and international t axation

Are you aware of how the new Australian attribution in relation to controlled foreign regime companies you to take better advantage of may allow efficiencies overseas? How will profits be taxed in your target location? What is the treatment of losses? Consider how tax is assessed and paid in the host country. The timing and quantum of tax payments will impact your cash flow. Ensure that start up losses carried forward to reduce future tax liabilities. can be Payment of withholding taxes will typically be required on cross-border payments of interest, dividends and royalties. In cert ain jurisdictions, taxes will be triggered on the payment of technical services fees and other payments to non residents. Double taxation agreements to allocate taxing rights bet ween the may operate host country and Australia. Detailed tax due diligence is recommended if you are acquiring a foreign business.

18. Supply chain, transfer pricing and intellectual property

Have you identified all possible supply chain efficiencies? Have you considered potential Australian tax issues as you move functions, intellectual and risk offshore? Is your property intellectual data protected? property and

The reform of the Australian CFC rules will improve the competitiveness of Australian expanding overseas. Overall businesses it be the c atalyst for better efficiencies will in foreign operations.
Daryn , Ernst & Young Australia, Partner Moore Leader International Tax Services Oceania

Australian international tax rules such as the controlled foreign company (CFC), thin capitalisation and transfer pricing rules must also be considered. Australia has is continuing to reform the CFC rules to and ensure that Australian organisations are not disadvantaged in competing overseas. Non-portfolio dividends paid by the foreign organisation to Australian corporate shareholders are not taxable in Australia at the corporate level and also do not generate franking credits. Australia does allow for certain tax deductions for a loss or outgoing incurred in deriving foreign dividend income.

The development of an effective supply chain process to establishing ef ficient operations and is vital achieving profitability. You should consider local maximum and international commercial contracts, the adequacy of local physical infrastructure beyond that which was assessed during start- up and the reliabilit y of associated services on which the business will rely. You could also explore the possibility of vertical integration such as the acquisition of key suppliers or distributors. However in doing this, you should give consideration to any potential infrastructure, regulatory constraints that may hinder such an or other expansion. operations in multiple countries, you If you have may consider the suitability of the target location for a shared services centre. An example may be moving your existing production or other business functions from Australia and/or other locations to your target location. Such decisions may result in the shifting of risk and/or intellectual property from the target location to another This may have an impact on the cost location. structure and profitability of your business from an international give rise to transfer pricing and other perspective and tax issues. Revenue authorities often focus on these of transactions. types

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Doing business overseas

19. Risk management
Have you identified areas of risk and how you will address them? Are your foreign operations susceptible to fraud? There are a number of business risks that should be considered when entering an emerging or international identify these risks, Ernst & Young market. To conductedto ascertain the top 10 business risks research facing multinational firms. 4 is based The Ernst & Young Business Risk Report 2010 on interviews with industry executives and analysts representing 14 industry sectors. T he survey asked interviewee to identif y and rank the top each business 2010. Aggregating the results worldwide risks for and across industry sectors, resulted in the followingbusiness risks for multinational firms top 10 ranked by importance: 1. Uncertaint y around regulation and compliance to credit and the impact of rising 2. Access levels government debt of 3. The withdrawal of global stimulus programs 4. The global war for talent and compensation structure s 5. The strategic imperative of succeeding in an emerging market, as these markets continue to drive global growth 6. Increased cost pressures as the result of commodity inflation and low cost price competitors 7. Incumbent firms in transitional sectors adjusting to non-traditional entrants ahead of consumer preferences 8. Staying and government regulation on environmental issues 9. Political backlash and reputational risks triggered corporate by social responsibility breaches 10. Rescue mergers and regulatory changes that mayforce new transactions. The above list has changed considerably in both order and content from the 2009 report, which demonstrates that businesses operate in a dynamic, everchanging environment that requires constant global monitoring. risk associated with not succeeding The business in

(continu ed)
an emerging market for example, moved from rank 12 in 2009 to rank 5 in 2010. You should also recognise that in such an environment, to manage existing and newly emerging risks, an effective risk management strategy and process should be implemented. Obtaining insurance in your selected host country appropriate is important consideration to mitigate against an potential business risks. should also consider your organisations You exposure fraud. Are you at greater risk if the control of to potential your organisation resides in only a handful of managers, rather than a structure with a board of directors and policy and process around corporate governance, internal/ external audit and other external controls?

20. Exit or winddown

Will you continue to maintain a presence in this location? What are the legal and commercial issues associated with terminating business and employment contracts? What is your strategy for redeploying your resources?

There are different ways to exit or wind-down your operations in a host country. You will need to t ake into account local laws, tax and financial issues. You must determine if you wish to maintain a presence in also the country. Options may include liquidation, the host saleshares or even floating the business. The exit of strategy part of your overall business plan. should be There are also reputational risks to consider, particularly if your business was an important employer in a country or region. To avoid costly litigation or compensation must also be aware of the payments you industrial environment. Consider whether relations local regulations restrict the transfer of funds overseas.

4. Ernst & Young Business Risk Report 2010

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20 issues internationally
1. Strategy

for

businesses

expanding

Table based on the top 20 issues and related questions. Planning for expansion
Clearly define and stress test your strategy What are the implications of your international expansion for your existing business operations? Is your organisation exposed to new and emerging markets? Has the composition of your major competitors changed? Is foreign direct investment in your industry sector clustered in locations where you do not have a presence? What research is available to provide you with information on market and industry conditions? Is this information up-to -date and what is the future outlook? Create a short list of new and emerging markets, tap into existing net works, talk to your advisors and visit your short listed locations

Yes No

2. Global trends

3. research

Market

Choosing the location

4. Political and social climate
Is the political system stable? How do you assess sovereign risk? Does the country suf fer under high l evels of sovereign debt? Is there likely to be social unrest or are workers organised in ful power unions? Is the tax regime business friendly and/or competitive? Does the country have free trade agreements or double tax treaties? Does the regulatory regime set the scene for a sound corporate governance framework? Is it a common law system? If not, do you understand the outcomes? Do the laws and the legal and judicial system provide support for and protection of commercial acti vities? Should you develop your products in emerging or fast growth markets? Should you have a presence at gl obal innovation clusters? Are grants and incentives available for innovative organisations? Is economic infrastructure secure and reli able? How would you deal with power outages, tel ecommunication or down-time traffic congestion? Is the location central to your regional markets and supplier s of goods and ser vices? Are there significant cultural differences that may impact the way you conduct your business? Are there likely to be language barriers? What is the availability, skill-set and cost structure of the local work force?

Yes No

5. Local tax and regulatory environmen t

6. Legal system

7. Innovation and incentive s

8 Location and infrastructur e

9. Cultural compatibilit y 10. Local workforce

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21

20 issues checklist
Doing business overseas
11. Global management team

(co ntinued)

Yes No Who will negotiate with government, customers, suppliers and business How should you manage risks such as bribery and partners? corruption? Who will be responsible for the recruitment of staff? Do you have an international management team or do you need to build one?

12. Global human resources considerations

What benefits will you provide to expatriates and what are the tax consequences? Do your employees require security protection? Do you have a team that can deal with assignment management, immigration and tax compliance? Should these functions be outsourced? What are the cash flow needs of your business? What is your projected grow th? Are your financial models sound or overly revenue optimistic? Do you need strong par tners to finance your exp ansion? you considered Islamic finance as a source of Have funds? What is the debt equity mix of funding? What are the tax consequences? Are you looking for slow organic growth? Will you start out withsales office or are you looking for a green field a development? Are you looking to establish an immediate local presence? If so, will you up a joint venture or will you acquire an existing local set business? What are the legal and administrative procedures and regulatory requirements for setting up the operating structure and star ting the business? Should you outsource the set-up to corporate secretarial ser vice providers? Is the local currency stable or volatile? Is currency hedging available at a reasonable cost? Could currency restrictions inhibit or even prohibit the flow of international funds?

13. Financing

14. Choosing the operating structure

15. Implementing the operating structure

16. Foreign exchange management and currency risk/controls

17. Busine ss and international xation

ta

Are you aware of how the new Australian attribution regime on to controlled foreign companies may all ow you to relati in take better advantage of efficiencies overseas? How will profits be taxed in your target location? What istreatment the of losses? Have you identified all possible supply chain efficiencies? Have you considered potential Australian tax issues as you move functions, intellectual property and risk offshore? intellectual property and data Is your protected? Have you identified areas of risk and how w ill you address them? Are your foreign operations susceptible to fraud? Will you continue to maintain a presence in this location? What are the legal and commercial issues associated with terminating business and empl oyment contracts? What is your strategy for redeploying your resources?
B us i nes s br i ef in g se r ies0: is s u es f o r bu s in es s es exp an di ng int e rn at io na ll y 2

18. Supply chain, transfer pricing and intellectual property 19. management Risk

20. Exit or wind- dow n

22

Contact details
Ernst & Young Ernst & Young Centre George 680 Street, Sydney GPO Box 2646, Sydney NSW 2001 Phone +61 2 9248 5555+61 2 9248 5959 Fax www.ey.co m Graham Frank, Partner Asia-Pacific Chief Operating Officer Tax Phone +61 2 9248 4810 Email graham.frank@au.ey.com Daryn Moore, Partner Leader International Tax Oceania Services Phone +61 2 9248 5538 Email daryn.moore@au.ey.com Greg Logue, Partner Leader Strategic Growth Oceania Markets Phone +61 2 9248 5870 Email greg.logue@au.ey.com The Institute of Chartered Accountants in Australia 33 Erskine Street, Sydney, NSW 2000 GPO Box 9985, Sydney, NSW 2001 Service 1300 137 322 Phone 02 9290 134402 9262 1512 Fax Email service@charteredaccountants.com.au charteredaccountants.com.a u Lee White Executive General Manager Members Phone + 61 2 9290 5598 Email lee.white@charteredaccountants.com.a u