INTRODUCTION TO BUSINESS
Yavuz Karazeybek
Resource: Jeff Madura-Introduction to Business (2006)
PART 1
Business Environment
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
CHAPTER 4 Assessing Global Conditions
When a firm engages in international business, it must consider the following characteristics of foreign countries:
How Foreign Characteristics Influence International Business
CHAPTER 4 Assessing Global Conditions
Culture
Because cultures vary, a firm must learn a foreign country’s culture before engaging in business there.
Poor decisions can result from an improper assessment of a country’s tastes, habits, and customs.
Many firms know that cultures vary and adjust their products to fit the culture.
McDonalds’ sells vegetable burgers instead of beef hamburgers in India.
PepsiCo sells Cheetos without cheese in China because they dislike cheese.
Non-alcohol beers in Saudi Arabia, where alcohol is not allowed.
Culture
CHAPTER 4 Assessing Global Conditions
CHAPTER 4 Assessing Global Conditions
Economic System
A country’s economic system reflects the degree of government ownership of businesses and intervention in business.
Although each country’s government has its own unique policy on the ownership of businesses, most policies can be classified as capitalism, communism, or socialism.
How Foreign Characteristics Influence International Business
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic System
Capitalism allows for private ownership of businesses.
Entrepreneurs have the freedom to create businesses that they believe will serve the people’s needs.
In capitalist society, entrepreneurs’ desire to earn profits motivates them to produce products and services that satisfy customers.
Compeition allows efficient firms to increase their market share of the market and forces inefficient firms out of the market.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic System
Communism is an economic system that involves public ownership of businesses.
In a purely communist system, the government decides what products will be produced and in what quantity.
It may even assign jobs to people, regardless of their interests, and sets the wages to be paid to each worker.
Wages will be similar regardless of individual abilities and efforts. This negatively impact workers’ performance (high performance-no reward).
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic System
In a communist society, the government serves as a central planner.
It may decide to produce more of some type of agricultural product if it observes a shortage.
Since the government is not concerned about earning profits, it does not focus on satisfying consumers.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic System
Socialism is an economic system that contains some features of both capitalism and communism.
Socialist countries allow people to own businesses and property and to select their own jobs.
However, governments are highly involved in the provision of various services (health-care, education).
Offer benefits for unemployed people (unemployement pay, dole money).
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic System
In order to offer dole money or low cost education or health-care they will impose high tax rates.
Socialist countries face a tradeoff when setting their tax policies.
To provide a high level of services to the poor and unemployed, the government must impose high tax rates.
Businesses and workers may argue that the tax rates are excessive.
Entrepreneurs may choose a different country to establish their businesses to avoid high taxes. But governments can not decrease tax rates because they need this money to offer benefits to the poors.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic System
A socialist society may discourage not only the establishment of new businesses but also the desire to work.
If the compensation provided by the government to unemployed workers is almost as high as the wages of employed workers, unemployed people have little incentive to look for work.
High tax rates also discourage people from looking for work.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic System
What is Privatization?
The sale of government-owned businesses to private investors.
Privatization allows firms to focus on providing the products and services that people desire and forces the firms to be more efficient to ensure their survival.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic Conditions
To predict demand for its product in a foreign country, a firm must attempt to forecast the economic conditions in that country.
The firm’s overall performance is dependent on the foreign country’s economic growth and on the firm’s sensitivity to conditions in that country.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic Conditions
Economic Growth
Strong economic growth = high demand
Weak economic growth = low demand
The primary factor influencing the decision by many firms to expand in a particular country is the country’s expected economic growth.
If firms overestimate the country’s economic growth, they will normally overestimate the demand for their products in that country.
Consequently, their revenue may not be sufficient to cover the expenses associated with the expansion.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic Conditions
Sensitivity to Foreign Economic Conditions
A firm’s exposure to a foreign country’s economy is dependent on the proportion of the firm’s business conducted in that country.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Economic Conditions
Sensitivity to Foreign Economic Conditions
A weak economy in Canada will have a more negative impact on Firm Y because it relies more on its Canadian business.
***Diversification
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Exchange Rates
Countries generally have their own currency (U.S: $, Türkiye: ₺, E.U: €)
Exchange rates between the U.S. dollar and any currency fluctuate over time.
Consequently, the number of dollars a U.S. firm needs to purchase foreign supplies may change even if the actual price charged for the supplies by the foreign producer does not.
When dollar weakens, other currencies strengthen: pay more dollars for foreign products or materials even if they have the same price in another currency (20€).
1€ = 2$ ----20€ = 40$
1€ = 3$ ----20€ = 60$
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Political Risk and Regulations
Political Risk is the risk that a country’s political actions may adversely affect a business.
Firms are vulnerable to the possibility that political problems between two governments may cause consumers to react negatively against the firms because of their country of origin.
Extreme forms of political risk:
Government may take over a business without compensation
Government may impose higher tax rates on foreign subsidiaries.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Political Risk and Regulations
Dell’s annual report:
The Company’s future growth rates and success are dependent on continued growth and success in international markets.
The success and profitability of the Company’s international operations are subject to numerous risks and uncertainties, including local economic and labor conditions, political instability, unexpected changes in the regulatory environment, trade protection measures, tax laws, and foreign currency exchange rates.
CHAPTER 4 Assessing Global Conditions
How Foreign Characteristics Influence International Business
Political Risk and Regulations
Corruption
Corruption is a form of political risk that can have a major impact on firms attempting to do business in a country.
For example, a firm that wants to establish a business in a specific country may obtain a quick approval only if it provides payoffs to some government officials.
Thus, corruption increases the cost of doing business.
CHAPTER 4 Assessing Global Conditions
Political Risk and Regulations
Regulatory Climate
Government regulations such as environmental laws vary among countries.
By increasing costs, these laws can affect the feasibility of establishing a subsidiary in a foreign country.
Stringent building codes, restrictions on the disposal of production waste materials, and pollution controls are examples of regulations that may force subsidiaries to incur additional costs.
Not enforcing law can be a problem too. Some countries do not enforce regulations that protect copyright laws (products may be easily copied without any penalty for violating copyright laws).
How Foreign Characteristics Influence International Business
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
International trade transactions typically require the exchange of one currency for another.
For example, if a U.S. firm periodically purchases supplies from a British supplier, it will need to exchange U.S. dollars for the British currency (pounds) to make the purchase.
Generally, the exchange rate between a given currency and the U.S. dollar fluctuates daily.
When the exchange rate changes, U.S. firms involved in international trade are affected.
The impact of exchange rate movements on a U.S. firm can be favorable or unfavorable, depending on the characteristics of the firm.
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
Impact of a Weak Dollar on U.S. Importers
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
Impact of a Strong Dollar on U.S. Importers
Now consider a situation in which the pound depreciates or weakens in value against the dollar.
This also means that the dollar strengthens against the pound.
For example, assume the pound’s value was $2.00 but has declined to $1.90 over the last month.
If the U.S. firm needs to obtain £1,000,000, it will be able to purchase the pounds for $100,000 less than was needed before the pound depreciated.
The firm’s payment has declined by 5 percent because the pound’s value has declined by 5 percent
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
Impact of a Weak Dollar on U.S. Exporters
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
Impact of a Weak Dollar on U.S. Exporters
If the dollar weakens, the British firm can obtain the dollars it needs with fewer pounds.
Therefore, it may be willing to purchase more equipment from the U.S. exporting firm.
The U.S. firm’s revenue will rise in response to a higher demand for the equipment it produces.
Therefore, its profits should increase as well.
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
Impact of a Strong Dollar on U.S. Exporters
As the pound’s value declines, the British firm must exchange more British pounds to obtain the same amount of dollars as before.
That is, it needs more pounds to purchase equipment from the U.S. firm.
Consequently, it may reduce its purchases from the U.S. firm and perhaps will search for a British producer of the equipment to avoid having to obtain dollars.
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
Hedging against Exchange Rate Movements
Hedge: action taken to protect a firm against exchange rate movements.
Firms can hedge most effectively when they know how much of a specific foreign currency they will need or will receive on a specific date in the future.
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
Hedging against Exchange Rate Movements
Hedging Future Payments in Foreign Currencies
Forward Contract: provides that an exchange of currencies will occur at a specified exchange rate at a future point in time.
Forward Rate: the exchange rate that a bank will be willing to offer at a future point in time.
Firm want to by some materials from a British firm with the amount of 1.000.000 pounds.
Spot exchange rate (today’s): 1,75$ for 1 pound
Forward rate = 1,80$ for 1 pound
If firm accepts this forward rate bank will prepare a forward contract.
Hedging against appreciation of pounds ---Currency locked---they will pay 1.800.000$ for these products no matter what. Regardless of spot exchange rate of 90 days later
How Exchange Rate Movements Can Affect Performance
CHAPTER 4 Assessing Global Conditions
Hedging against Exchange Rate Movements
Limitations of Hedging
A major limitation of hedging is that it prevents favorable exchange rate effects as well as unfavorable effects.
CHAPTER 4 Assessing Global Conditions
CHAPTER 4 Assessing Global Conditions
How Exchange Rate Movements Can Affect Performance
How Exchange Rates Affect Foreign Competition
Assume that the stores mark up the price of each television by 20 percent.
When these stores purchase Japanese televisions, they convert dollars to Japanese yen.
If the value of the yen depreciates against the dollar, the store needs fewer dollars to purchase the Japanese televisions.
If it applies the same markup, it can reduce its price on the Japanese televisions.
Therefore, increased foreign competition (due to depreciation of one or more foreign currencies) may cause local TV manufacturers to lose some U.S. business.
Reading (p.140)
The Decision to Hedge Exchange Rate Risk