Amcorp Inc.Amcorp Inc.Recommendations on Entry Recommendations on Entry

Strategy to China - Joint Venture Strategy to China - Joint Venture versus Wholly-Owned Subsidiaryversus Wholly-Owned Subsidiary

Board Meeting, Hong Kong, 3rd October 2002Board Meeting, Hong Kong, 3rd October 2002

Strategic Team A:Strategic Team A:

Pablo ChanPablo Chan Sammy Chung Sammy Chung Xu KehanXu KehanIda ChiuIda Chiu Joyce IunJoyce Iun Lawrence YipLawrence YipPetrus ChoyPetrus Choy Lawrence LaiLawrence Lai Gordon YenGordon Yen

Amcorp Inc.Amcorp Inc.Recommendations on Entry Recommendations on Entry

Strategy to China - Joint Venture Strategy to China - Joint Venture versus Wholly-Owned Subsidiaryversus Wholly-Owned Subsidiary

Board Meeting, Hong Kong, 3rd October 2002Board Meeting, Hong Kong, 3rd October 2002

Strategic Team A:Strategic Team A:

Pablo ChanPablo Chan Sammy Chung Sammy Chung Xu KehanXu KehanIda ChiuIda Chiu Joyce IunJoyce Iun Lawrence YipLawrence YipPetrus ChoyPetrus Choy Lawrence LaiLawrence Lai Gordon YenGordon Yen

DBA 2002

Background

Report on Recommendations for Joint Venture (JV) Report on Recommendations for Joint Venture (JV) versus Wholly-Owned Subsidiary (WOS)versus Wholly-Owned Subsidiary (WOS)

Country-level

Industry-level

Company-level

Joint venture and Wholly-owned subsidiary

Practical recommendation for entry strategy

Key success factors analysis

Considerations in setting up entity in China

Conclusion - Alternative modes review

DBA 2002

Guidance from Theoretical Framework

Background - Country-level reviewBackground - Country-level review

Open door policy announced in 1978 has been successful in attracting foreign investments. China is ranked just next to the US to attract foreign investments

China is the largest emerging economy and continues to undergo radical changes with economic reforms, rapid industrialisation, legal regularisation, evolving government policies, tax system improvement and other changes brought along with membership in WTO

China has experienced an average annual economic growth of 8.4% from 1995 to 2001 and is also predicted to achieve an annual economic growth of about 8% between 2002 and 2004

China has been reported strong growth of personal disposal income of around 60% from 1995 to 2001

DBA 2002

Background - Industry-level review (1)Background - Industry-level review (1)

Demand for automobiles is anticipated to grow at an annual rate of 20% - 25% from 2000 to 2005 with family automobiles is at a faster rate of 33%. In the first 7 months of 2002, an increase of 44% compared against the same period in 2001

At present, 7 million families with purchasing power for automobiles and 42 million by 2005. In 2010, China is expected to become the third largest automobile market with 6% global automobile market share - close to the US and Japan

The Chinese government is formulating various incentives and policies to encourage Chinese people to purchase automobiles, which can certainly help turn the huge potential demand into real demand

Favourable factors for strong demand:-

more financing activities after WTO

strong economic growth

price reduction due to keen competitionDBA 2002

Background - Industry-level review (2)Background - Industry-level review (2)

Since China joined the WTO in 12/01, several foreign car makers have rushed to form new ventures in expectation of a massive market and lured to produce locally. As more foreign automobile makers are entering China, the auto-parts suppliers follow the trend by setting up their own joint ventures in China while several foreign component firms are already producing in China

Government concern over fragmentation of the automobile industry led it to restrict automobiles production mainly to Beijing, Guangzhou, Shanghai, Shenyang and Tianjin. Despite China`s entry to the WTO, Beijing still bars fully foreign-owned automobile plants to protect domestic industry

China now has about 2,500 auto-parts makers, major joint venture auto-part players in China:- Delphin (US), Lear (US), Visteon (US), Johnson Controls (US), Nippon Denso (Japan)

Major competitors:-

braking systems: Shanghai Automotive Brake Systems

wiper systems: ITT Shanghai Automotive ElectricDBA 2002

Background - Company-level reviewBackground - Company-level review

Corporate background

leader in electrical components for major automobile manufacturers

high-technology and labour intensive industry

manufacturing operations in European Union, India, Russia and

Japan

JVs in India, Russia and Japan ; WOS in European Union

2001: Turnover - US$2.5b ; R&D - US$50m (2%) ; Output - 8.3m units

profit retention of 50% for reserve fund for business expansion

sales cycle of 1 year : from design stage to production

Corporate objectives

set up operation in China - globalisation with local presence

timeframe of 3 years to commence operation

serve the domestic market in an efficient and effective manner

making positive contribution to Amcorp in the long run

improve global profit and market share as a wholeDBA 2002Amcorp to enter into China through JV or WOS ?Amcorp to enter into China through JV or WOS ?

Joint venture and Wholly-owned subsidiaryJoint venture and Wholly-owned subsidiary

DBA 2002

JV WOSDefinition

Sanjeev Agarwaland Sridhar N.Ramaswami,1992

Pooling of assets by two ormore firms with share ofownership and control overthe use and fruits of theseassets

Relatively lower investment,and lower risk and returncommensurate to the extentof equity participation

Organised solely by a firmcontributes the entire equity,receives the entire profit, andindependently manages theentire enterprise

Relatively higher investment,and higher risk and return

Guidance from Theoretical Framework (1)Guidance from Theoretical Framework (1)

DBA 2002

The Ownership, Location and Internalisation Theory: Dunning (1977, 1980, 1988)

Ownership, Location and Internalisation Theory suggests that the choice of market entry mode is influenced by three types of factors:

Ownership advantages – To compete with local competitors in the host country, the investor must possess some advantages such as size, multinational experience and skills to develop differentiated products over local firms.

Location advantages – To explore whether the existing ownership advantages can be utilized and replicated to a new market.

Internalisation advantages – To examine whether there is a net internalisation advantage by integrating the assets and skills within the firm. For instance, a reduction of transaction costs.

Implication: It is highly likely that a firm will choose an entry mode of wholly-owned subsidiary if the firm possesses ownership, location and internalisation advantages over its competitors

Guidance from Theoretical Framework (2)Guidance from Theoretical Framework (2)

DBA 2002

Transaction Cost Theory (TC): Anderson and Gatignon (1986) ; Hennart (1991)

Transaction Cost Theory suggests that entry choice strategy is based upon the minimum total transaction and production costs. Transaction Cost Theory also stresses the more international experience a firm has, the more likelihood a firm would adopt an entry strategy with great ownership and risk exposure

Monopolistic Advantages Theory: Hymer (1960,1976); Kindleberge (1969)

The choice of entry strategy is based upon the firm`s own monopolistic advantages in the product uniqueness, efficient production or distribution systems

Implication: If the given entry mode allows a firm to achieve a minimum total transaction and production costs with reference to the level of its international experience, such entry mode is preferred

Implication: A firm would choose a given entry mode if such entry mode provides greater control to protect its core resources and competencies

Guidance from Theoretical Framework (3)Guidance from Theoretical Framework (3)

DBA 2002

Strategic Behaviour Theory: Kogut (1988)

Strategic Behaviour Theory suggests that achievement of competitive advantage is critical to the choice of entry strategy. Current and past firm strategy also plays an important role in a firm`s choice of entry mode. A firm adopts a higher involvement entry strategy to allow application of under-utilised resources at home plant

Bargain Theory: Fagre and Wells (1982) ; Kobrin (1987)

Bargain Theory concludes that the choice of entry strategy is the result of bargaining and negotiation processes between the firm and host country

Implication: If the given mode of entry allows a firm to achieve its competitive advantage over its competitors and the firm`s strategy to adopt such entry mode, the same is preferred

Implication: The firm having technology competency and marketing muscle results in greater bargaining power, thus favours a strategy involving greater ownership and control

Recommendation - Joint Recommendation - Joint vventure or Wholly-enture or Wholly-oowned wned ssubsidiary (1)ubsidiary (1)

DBA 2002

Determining Factors Importance Level

Entry Mode Preference

Capture Market Share in High Growth Market:• Large market potential with fast growth anticipated• Time to market is important for capturing share• JV could provide immediate access to production

and other key assets unavailable to later entrants

High Joint venture

• Location Advantage• TC Theory

Sales and Distribution Channel:• Amcorp lacks knowledge of SD channel in China• Expensive and time consuming to build• Form JV with partner with existing SD Channel

High Joint venture

• TC Theory• Ownership

Advantage

Ability to Develop Differentiated Products:• R&D creates better products than competitors• Gives strong bargaining power to Amcorp• Enable greater control even with less ownership

High Joint venture

• Bargain Theory• Ownership

Advantage

Recommendation - Joint Recommendation - Joint vventure or Wholly-enture or Wholly-oowned wned ssubsidiary (ubsidiary (22))

DBA 2002

Determining Factors Importance Level

Entry Mode Preference

Culture Specific Factors:• `Guanxi` is very important for conducting business• Requires specific skills to manage and motivate local

executives and factory workers

High Joint venture

Mitigation of Investment Risk:• Underdeveloped legal framework• Level and form of enforcement depends on location• Frequently changing regulations• Local partner can provide necessary knowledge to

mitigate risk

Medium Joint venture

Size and Multi-national Experience:• Large and well funded MNC• Operating experience in 20 countries

Low Wholly-owned subsidiary

•

Ownership

Advantage

ConclusionConclusion

DBA 2002

Amcorp`s

resources /

objectives

Theoretical

framework

Joint venture

Joint venture with plan for

wholly-owned subsidiary

conversion in the future

Wholly-owned subsidiary for

operations ; joint venture for

sales / marketing

Wholly-owned subsidiary for

technology / R&D ; outsource

operation and sales /

marketing to joint venture

Recommended

Entry Mode

Alternative Entry

Modes Available

Considerations in setting up joint ventureConsiderations in setting up joint venture

DBA 2002

General - Partner selection

Foreign partner develops its own integrity as the joint venture

There should have clear and specific strategic drivers:-

Critical driving forces: strategic forces push partners together

Strategic synergy: strengths and opportunities for “Win-Win”

The right partners should at least:-

share same strategies

have common values

strong commitment to the joint venture

share long term goals and objectives

no great concern to secure a very rapid payback

mutual trust, respect and reciprocity

proper management of external relations and in-house interaction

share common cultures

compatible - finance, size, strategy, vision, mission

Strategic Team B will further elaborate in this respect

Considerations in setting up joint ventureConsiderations in setting up joint venture

DBA 2002

Peculiar situation in China

Specific type of J/V - equity or co-operative joint venture

Restrictions under the Foreign Investment Industry Guide

Rules and procedures for setting up joint venture with different authorities

Taxation system - tax incentives available and tax rates negotiation

Specific terms of the Joint Venture Agreement and the Memorandum:-

tenure of the joint venture

authorised representative of the joint venture

composition of the board of directors and management team

functions, duties and obligations of respective partners

form, amount and valuation of registered / contributed of capital

profit distribution, repatriation and re-investment

mix of local sales and export percentage

dissolution of the joint venture (including flexibility for WOS conversion)

transfer of assets upon expiration of the joint venture

Export quota and custom clearance procedures if export sales is involved

Foreign exchange control