4 Step process for choosing an overseas expansion strategy

Why expand overseas?

Profit from technological innovation generally follows the ‘S’ curve (see figure).

The initial return is negative due to R&D expenditure. After the R&D effort has resulted in a salable product, profit rises rapidly. Eventually, as the market matures, competitors enter and the profit decreases.

How can a company extend its gains from a technological innovation (ride the green line in the figure) even as the market matures and declines? One answer is to expand to overseas markets that are not yet in the decline (see the figure below). Existing products can generate additional revenue overseas with minimal modification, thus extending the revenue stream without major new R&D expenditure. If, for example, a company has created an innovative CRM product, with little modification, it can be sold in many countries. But how does one choose an international target market? What strategy should one adopt to expand into the chosen market?

Which markets to consider?

At a particular point in time, the curve above shows that a market can either be in the growth or decline phase. But, it is possible that at that same point in time, different international markets are at different positions on the profit curve. An example for this is shown in the figure below.

If, for example, a company offers a cloud based enterprise software for small businesses, Africa maybe far down the road in terms of readiness for this software due to environmental constraints like poor internet access. Asia Pacific, on the other hand may offer emerging potential. The curve is typical for most products, but it is important to consider the environmental factors specific to a company’s product offering and fine tune the curve for that product:

A North American company may choose to expand into markets that are on the cusp of rapid growth on the curve (Africa) or that are ready to embrace your product (Asia Pacific). If first mover advantage is important for the product, Africa maybe a better choice as it has have fewer competitors. But a company entering such a market may have to struggle with the lack of consumer awareness or the infrastructure necessary for the product to succeed. Markets such as Asia Pacific are more competitive but mature. These markets are suitable if a company has a much better product or a product at a lower price point when compared to competition. After the  target international market is chosen, a strategy to expand into the market must be considered.

Overseas expansion options:

There are many strategies for overseas expansion with varying levels of risk and return as shown in the figure.

A company can go all in with a wholly owned subsidiary in a foreign country to better serve the international market. SAP, for example chose this approach when it established core innovation centers in India and Brazil to better serve the international markets with customizations. This approach ensures high return while also carrying high investment risk. A company would therefore choose this option only if there is clear profit potential in the international market.

On the other end of the spectrum, with lower risk and return, is the licensing option. A company can license its technological innovation to companies which have strong presence in the international market. Licensing can be either for a fixed price or royalty based. These licensee may use the technology in their products which are well established in the international target market. For example, if a company has developed a highly efficient video decoder, instead of marketing the codec to consumers in the international market, it can license it to a company which has strong presence in the international market. In this case, the innovating company’s investment in the international market is minimal, reducing its risk exposure but still earning returns. The licensee may choose to customize the product to the target market or may use it unmodified. In either case, the innovator’s investment or risk exposure is negligible, while still providing international market revenue. A downside to this approach is that, the innovating company will not gain knowledge about the foreign market. This knowledge maybe vital if the company has other related products in the future that may also be sold in the international market.

There are also middle ground options of joint ventures and acquisitions. These are good interim options if the innovating company plans to gain knowledge of the international market and migrate to a higher option in the future.

Choosing an overseas expansion strategy:

As discussed in the previous section, the four expansion options offer varying levels of risk and reward. Choosing a strategy involves understanding the innovating company’s core competencies and the level of knowledge of the international market.

Step 1: Identify transferrable core competencies

The first step in expanding to a new country is to identify the innovating firm’s core competencies and figure out which of these competencies can be exploited in the target market. In order to do this, it is vital to understand the dynamics of the target market and critically challenge one’s assumptions of what may or may not work in the new country.

For example, a company’s core competency maybe selling to large customers. Its CRM software maybe designed to cater to large enterprises. In some countries like China, many of the largest firms are government owned. In such a scenario, the firm’s sales competency maybe ineffective in the new market. Dealing with the government may require an entirely new competence which is discussed in the next step.

Step 2: Identify new competencies required

To venture into a new country, several new skills or competencies may need to be acquired. It is important to identify these new skills that need to be developed in order to successfully do business in a foreign country.

For instance, if the innovation is an e-commerce platform that connects buyers and sellers, and the innovator wants to venture into China, the innovator will have to integrate with a Chinese social media platform such as WeChat as most people there depend on personal recommendations to make a purchase. The innovator will also need to change the payment gateways to support Chinese payment systems. Visa and MasterCard are virtually non-existent and state-backed UnionPay is popular in China. These are just product changes. The innovating firm may also need to develop a whole new set of complimentary assets like marketing and sales. Identifying these new competencies required for the target international market is the second step.

Step 3: Choose an entry strategy based on Steps 1 and 2

After a company has figured out its transferrable core competencies and new competencies required to thrive in the target international market, it can use the framework below to derive a potential path to the target international market: 

If the transferrable core competencies are more, new competencies required are less, and the foreign market offers clear long term growth potential, the international market is considered ‘Favorable’ and a wholly owned subsidiary maybe the chosen approach. This is especially true if the new market offers learning that can be transplanted back into the home market. On the other hand if there are very few transferrable core competencies and a lot of new competencies that need to be acquired to gain a foothold in the foreign market, the international venture is categorized as ‘Risky’. A company should in this case consider gaining foreign market revenue through licensing or technology transfer to minimize risk. The two moderate risk cases arise when both the transferrable as well as new competencies are more or less equal. In such a scenario, a joint-venture or an acquisition to expand into a foreign country would allow the company to profit from the market while minimizing its risk exposure.

Step 4: Re-evaluate strategy periodically

Emerging markets are dynamic and fast changing. Infrastructure, consumer demand and government regulations often change rapidly in emerging markets. It is therefore important for the innovating firm to reevaluate its competencies with the framework provided every few years. The innovator might find that an emerging market has become far too important to be just licensing the technology. Or it may be the case that the licensee has allowed the innovating firm to acquire new competencies that can be leveraged to either buy-out the foreign partner (Acquisition) or to go on its own (wholly-owned subsidiary). It is therefore important to have a limited term agreement with licensees and keep options open when it comes to expanding to international markets.

Conclusion

To effectively profit from innovation over the long term, it is important to have an international expansion strategy. This article analyzes the factors to consider for overseas expansion and the strategies that can be used in various circumstances.