Dealing with the new world of multinational competition

Authors: Harry G Broadman and Sunita Saligram

Athletic footwear industry

Most of the major athletic footwear firms are based in the North, but produce a majority of their output in the South, especially in China. And, as it happens, a sizeable portion of Chinese production in this sector is exported to Brazil. The result is that Brazilian athletic footwear manufacturers feel they cannot effectively compete against the Chinese, so much so that Brazil believes these products are being dumped at an artificially low cost into the Brazilian market. As a result, the Brazilian government imposed a duty on imported Chinese athletic footwear. This ensuing trade war among the governments of the large emerging markets has sideswiped the world’s major branded athletic footwear companies, cutting their sales revenues and leaving these companies with little recourse for remedies in the short run.
 

Achieving business success in emerging markets has increasingly become a key factor for multinational corporations (MNCs) worldwide seeking new growth opportunities and greater global supply chain efficiency. There is little question as to why this is happening: Over the past decade and a half, the average growth rate of GDP in real terms for emerging markets has been twice that of the advanced countries, and this secular trend shows no sign of abating.

Yet surprisingly few corporate executives, whether from MNCs from the ‘North’ — the EU, U.S. and other mature, industrialized economies — or MNCs from the ‘South’ — the BRICS (Brazil, Russia, India, China and South Africa*) and other developing countries — realize this fundamental shift is underway. While the lion’s share of international investment and trade with the emerging markets of the South still originates from the North — more than 90% of stock of inward foreign direct investment (FDI) in emerging markets was made by Northern firms1 — new flows of such commerce are increasingly coming into emerging markets from the South itself. In fact, ‘South-South’ trade now accounts for a sizeable 20% of all global trade, and one-third of FDI outward flows originating from the South go to the South.

What are the competitive implications of this shift in global investment and trade flows, and how will it affect corporate strategic decisions?




The rapid increase in South-South investment and trade is not a recent phenomenon but dates back several decades and is due to several factors. Firms from emerging markets have intensified interest in integrating into global commerce in order to harness new trade and investment opportunities within emerging markets. This stems, in part, from regional or bilateral trade/investment agreements, as well as the desire to capitalize on the growth of new middle-class populations and employee talent in emerging markets not being served by MNCs from the ‘North’. The gap has opened up because Northern firms are charging prices for their products and services that are higher than these markets can bear; they are ill-informed about the existence of such opportunities; or they perceive these markets as too risky.

In any event, the growth of South-South commerce creates a challenging environment for Northern firms seeking to buoy growth, while at the same time providing opportunities for maturing Southern MNCs to rival and potentially surpass their Northern competitors. Thus advanced country multinationals are facing a host of new risks and opportunities as they aim to compete not only with their longstanding rivals in the North, but also with emerging world-class MNCs from the South.

Myanmar

Myanmar offers an example of the significant opportunities that exist in frontier markets as well as the large role South-South trade can and does play. For example, Myanmar’s GDP is forecast to expand by 4.8% annually in 2012 and 2013, driven by large investment projects funded by investors from China, South Korea and Thailand in natural gas and infrastructure. Growth is projected to accelerate to an average of 6.5% a year in 2014-16 due to anticipated increases in foreign investment following the expected lifting of sanctions in 2013 as the local government progresses on human rights issues. As Northern firms begin to gain access to this market, the risks and opportunities presented by existing South-South trade and investment will come to fruition.
 

First and foremost, Northern firms seeking to compete in this new environment need to consider more closely both the benefits and costs of engaging in commerce in emerging markets. Too often, perceptions of risk in these markets are being overstated and the opportunities are being understated. This is not to suggest that this is the case in all emerging markets; it is quite the contrary. Indeed, there are cases where the perceived investment risks are significantly understated and remain so because of a herd investment mentality.

The rise and growing maturity of multinationals from the South present opportunities for Northern firms to capitalize on new trade-offs while investing in emerging markets. For example, multinationals from the North can benefit from joint-ventures with lower-cost Southern partners who have developing country experience versus potentially greater exposure to reputational and intellectual-property protection risks. Of course, recipient emerging market countries face analogous trade-offs — such as taking advantage of lower costs in procurement from Southern firms versus improving governance, product and environmental quality standards, which can serve to improve the success rate of entry by Northern firms.

Indeed, one of the major risks that Northern firms face through the increased presence of Southern competitors is the outright loss of bids, as companies from other emerging markets can leverage lower-cost products and inputs, lower margin requirements and heavy government support in the form of below-market rate debt and other financing agreements with active Ex-Im banks.

For example, countries dominated by state-owned enterprises (SOEs) often use government agencies to direct money to favoured industries and work closely with their SOEs abroad to help ensure their success, often mixing diplomatic missions with business. Northern companies do not tend to benefit from such state-sponsored advantages, and should they seek to compete with local governments in such deals, they can often run into serious allegations of violations of anti-corruption laws and policies in their home markets. This can lead to significant reputational damage as well as material financial losses. Furthermore, Southern firms often can take on less-than-bankable projects due to interest rate subsidies and other state guarantees. Should Northern firms seek to compete, they can face serious medium-term challenges in projects that become uneconomic with the smallest hike in market rates or commodity prices, creating substantial revenue risk for such projects. As such, Northern firms are in need of new and creative forms of financing projects in emerging markets.

The way forward

Recommendations for Northern firms:

To manoeuvre successfully through new market trends and Southern competition, Northern multinationals must develop and implement creative growth strategies, and develop new and innovative forms of partnership, financing arrangements and product development.

  1. Engage in strategic B-to-B partnerships
    Strategic B-to-B partnerships offer a win-win solution for Northern firms. Often, Northern firms can gain credibility in emerging markets by partnering with well-known, reputable Northern or Southern firms, especially firms that have development experience and are willing to take on risk. These partnerships can reduce costs while delivering high-quality products and services. In some cases, successful B-to-B relationships among Northern firms in highly risky markets can be syndicated in other risky markets if strong track records can be developed.
  2. Embrace transparency and be a model of business ethics
    Northern firms tend to be stronger models of business ethics than Southern firms (although there are, of course, exceptions). When doing business in emerging markets, Northern firms should uphold the highest business ethics standards and should ensure anti-corruption measures are in place in order to avoid penalties down the line. Moreover, Northern firms should always conduct due diligence on potential partners and markets in order to make well-informed business decisions every step of the way and mitigate risk as much as possible.
  3. Bring local talent into the business and take leadership to the streets
    Northern firms should be integrating locally and using local talent whenever possible. Bringing local talent into the business provides a lower-cost option to Northern firms and helps avoid cultural issues. At the same time, leadership needs to make it a priority to impart company standards and corporate culture from the outset and should be in tune to local cultural practices and shifts in the market.
  4. Pursue alternative sources of financing
    Now that funding from Southern sources — such as China’s Ex-Im bank, China’s Development Bank and India’s Ex-Im bank — is on the rise, Northern firms should take advantage of these financing options. They should also strengthen relationships with multilateral development banks and other organizations with Southern roots, such as the Asian Development Bank, the Inter-American Development Bank and the African Development Bank, among others.
  5. Consider partnering with the local government and commit to bringing about development impact through your investment
    Northern companies doing business in emerging markets should always have an eye toward development impact. This helps build a positive reputation globally and helps gain public trust. Northern companies should consider partnering with the government and engaging in public-private-partnerships (PPPs). PPPs offer a mutually beneficial relationship: They help governments achieve development goals and provide services to the public in an efficient manner. In addition, they take away some of the risk for the companies involved, improve the ease of doing business on the ground and help companies develop a long-term presence in the market.
  6. Be an early mover in new growth markets
    Northern firms should be ready to exploit first-mover advantages in new emerging markets that are being created through regime changes or conflicts. Examples of these new emerging markets can be seen through the breakup of Yugoslavia, the creation of Southern Sudan and, more recently, the shifts occurring in Myanmar. Northern firms should be actively watching shifts in the global marketplace in order to be early movers in new growth markets.

Recommendations for Southern firms:

  1. Engage in strategic B-to-B partnerships
    As with their Northern counterparts, strategic B-to-B partnerships can offer win-win solutions for Southern firms. Southern firms are able to gain credibility in new markets by partnering with well-known, reputable Northern firms.
  2. Continue to offer new, innovative ideas based on shared experiences and common objectives
    Southern firms are often able to offer creative, innovative approaches based on lessons learned from shared experiences that distinguish themselves from other competitors. These new approaches are critical in this time of a changing global economy.
  3. Pursue South-South cooperation, rather than just investment
    South-South FDI goes beyond just investment — developing countries are able to provide support for one another and work together to achieve sustained economic growth and development. Southern investors should pursue the opportunity to partner together to address similar challenges through sharing knowledge, transferring technology, providing training and more. Overall, South-South cooperation provides avenues for regional integration and development through mutual learning and partnership.
  4. Work toward embracing transparency and adopting best business practices
    Many Southern firms have a long way to go in terms of meeting global anti-corruption standards. To compete on the global playing field and improve credibility, Southern firms should be working toward embracing transparency in all business activities. Furthermore, Northern firms seeking partners will be sure to choose Southern firms committed to improved governance and anti-corruption programs. Southern firms should also work toward adopting best business practices, and invest in and implement information systems — as well as reporting, monitoring and evaluation systems — in order to compete with Northern firms on-the-ground.
  5. Be a model investor in the world’s least developed countries (LDCs)
    South-South trade and investment in LDCs have grown tremendously. In fact, over the last decade, the South has contributed to nearly half of the growth in total merchandise exports in LDCs. Southern firms should continue to invest in LDCs while transferring knowledge, building capacity, providing training and helping advance development.
  6. Strengthen capacity of weak regional organizations and regional economic communities (RECs) that promote regional unity
    Operational outputs of organizations, such as the African Union, and RECs, such as the Economic Community of Central African States (ECCAS), should be increased. These organizations and RECs have the ability to unite regions, provide opportunities to share knowledge and resources, and offer the chance to successfully go after development goals in an efficient way.
  7. Maintain development initiatives at home
    As Southern investors tackle problems in other developing countries, they should ensure they are simultaneously working toward tackling problems in their own countries. The provider country should be working with the recipient country to build capacity but ensure they are doing the same thing at home. Furthermore, as emerging economies face similar challenges, Southern investors should use South-South investment as a tool for mutual learning to apply lessons learned in their own country.

Partnership and innovation

Despite the risks involved, emerging markets continue to represent a major opportunity for multinational companies, both from the North and the South. Southern firms should continue to act through shared experiences and commitment to similar objectives and should leverage opportunities for regional integration. Northern firms should embrace new partnering and financing options and be early movers in new markets in order to stay competitive. Overall, partnerships between Northern and Southern firms offer mutually beneficial solutions and should be pursued by both sides.



* For the purposes of this article, South Africa is included in the BRIC acronym.
1 Harry G Broadman, “China and India Go to Africa”, Foreign Affairs, March 2008