Target International Expansion

Analysis of Canadian Expansion

12/3/2010

Table of Contents

Introduction.................................................................................................................................................4

Why Expand?...........................................................................................................................................4

Target’s Existing International Experience...............................................................................................5

Canada: A country To Expand Into..........................................................................................................6

Expand into Toronto Area First:...........................................................................................................7

Canadian Retail Sector.............................................................................................................................7

Canadian Ethos........................................................................................................................................7

Consumers Shopping Demands and Preferences....................................................................................7

Competitors Already Internationalized....................................................................................................8

International Learning Experience...........................................................................................................9

Economies of Scale..................................................................................................................................9

Foreign Investment Climate in Canada........................................................................................................9

Canadian FDI Breakup...........................................................................................................................10

Canadian Economy’s FDI Attractiveness................................................................................................10

Other Attractive Factors of Canadian Economy.....................................................................................11

Retail Environment in Canada………………………………………………………………………………………………………………. 13

Retail Market Structure………………………………………………………………………………………………………………………… 13

Competitors…………………………………………………………………………………………………………………………………………. 15

Infrastructure………………………………………………………………………………………………………………………………………. 17

Workforce……………………………………………………………………………………………………………………………………………. 17

Selecting an Entry Mode………………………………………………………………………………………………………………………. 18

Acquire Zeller's…………………………………………………………………………………………………………………………………….. 19

Political Risk…………………………………………………………………………………………………………………………………………. 20

Business Risk………………………………………………………………………………………………………………………………………… 22

Risk Management………………………………………………………………………………………………………………………………… 24

Implementation…………………………………………………………………………………………………………………………………… 26

Non Financial Investments…………………………………………………………………………………………………………………… 27

Financial Investments…………………………………………………………………………………………………………………………… 28

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Control Mechanisms &Milestones……………………………………………………………………………………………………….. 29

Performance Metrics……………………………………………………………………………………………………………………………. 30

Exit Strategy…………………………………………………………………………………………………………………………………………. 30

References.................................................................................................................................................31

Appendix...................................................................................................................................................34

Exhibit 1: Target Stores in U.S. (Green Rectangles showing areas closer to Canada)............................34

Exhibit 2: Target Key Financial Figures Growth Rate Change.................................................................35

Exhibit 3: Target Key Financial Figures Growth Rates............................................................................35

Exhibit 4: Target Key Financials ⁸...........................................................................................................36

Exhibit 5: Target Sales Growth Relative to Store Size Growth...............................................................36

Exhibit 6: Country Portfolio Analysis Adjusted for Distance for Fast-Food Restaurants¹¹......................37

Exhibit 7: Increasingly More Corporate Profits are coming internationally ¹²........................................37

Exhibit 8: Expected Target Canada’s Key Financial Figures Growth Rates.............................................38

Exhibit 9: Expected Target Canada Growth Chart..................................................................................38

Exhibit 10: State of Foreign Direct Investment in Canada⁷....................................................................39

Exhibit 11: Sources of Foreign Direct Investment in Canada⁷................................................................39

Exhibit 12: Foreign Direct Investment Breakup in Canada by Major Industry⁷......................................40

Exhibit 13: Foreign Direct Investment Breakup in Canada by Selected Industry⁷..................................40

Exhibit 14: US and Canada Key Indices Comparison⁹.............................................................................41

Exhibit 15: Canadian Retail Sector Snapshot (2009) ⁴............................................................................41

Exhibit 16: Some Components of Canadian Culture⁴.............................................................................42

Exhibit 17: Comparison of Canadian Economy Growth vs. its Peers⁶....................................................42

Exhibit 17: Canada GDP Growth Rates vs. Other G-7 Countries⁶...........................................................43

Exhibit 18: Corporate Taxes in Canada compared to Other G-7 countries⁶...........................................43

Exhibit 19: Zellers (Hudson Bay) Financials Small Snap Shot³................................................................44

Exhibit 20: Zellers (Hudson Bay) Financials Chart..................................................................................44

Exhibit 21: Retail Sector, Year Over Year Growth…………………………………………………………………………..….44

Exhibit 22: Retail Sector, Operating Profits……………………………………………………………………………………… 44

Exhibit 23: Canada’s Working-Age People by Mother Tongue…………………………………………………………. 45

Exhibit 24: Frankel and Ross – Measuring the Impact of Distance……………………………………………………. 46

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Introduction

Target is one of the major retailers in U.S. It started in 1902 as Dayton Dry Goods Company and

opened its first Target store in 1962 in Minneapolis area. Since then it has opened 1740 stores (Exhibit 1);

at a record pace of 21% per annum. It has become the second largest retailer in U.S. with annual sales of

$63 billion dollars (Exhibit 4). Target is a discount merchandiser and follows a best cost strategy to

compete with retail giant Wal-Mart whose annual revenues exceed $300 billion dollars. Wal-Mart is a

low cost leader and it is impossible to compete against Wal-Mart just on the basis of low prices. Hence

Target offers slightly higher niche products than Wal-Mart at the best cost. Best cost strategies are most

difficult to implement with Target being one of the successful exceptions.

Why Expand?

One of the significant facts we noticed about Target’s past 5 year financials⁸ is that the growth

rates for revenues, profits, net profit, gross profit and revenues per square foot has been slowing down.

The growth is still there but it has been slower in recent years (Exhibit 2 & 3). The retail saturation in

American retail segment and the infamous recession of 2008 have been the major factors for the slow

down. There is a high probability that Target has reached to a saturation point in terms of future growth in

America and new growth in U.S. will be increasingly difficult in challenging economic environments.

The evidence of saturation is suggested by the fact that the growth rate of new square footage has gone

down from 8% to 4%. As per Raymond Vernon’s Product Life-Cycle’s theory¹ the wealth and size of

U.S. market gave Target strong incentive to develop unique upbeat charming retailing concept. As

Target’s retailing concept has matured and Target finds harder to grow in U.S., it is right time for Target

to look outside for future growth where it can apply its distinctive competency to win share in

international markets.

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The other key factor with Target is that its growth depends on how fast it is able to add new

stores. Its revenue growth for period 2004 to 2009 has been 6.89%, and correspondingly Target has

grown its retail footprint at the rate of 7.05% (Exhibit 4 and 5). This is very clear from the fact that the

average sales per store have grown only by 0.96% in past five years. Target is a discount chain and it

works at low margin of 3.5% to 5%. The relatively low margin forces Target to keep increasing volume

of sales as each dollar earned bring in few more pennies. Even if the value chain is made incrementally

more efficient, Target is not going to increase its net profits much. And the fact of the matter is that since

Target is venturing into selling more groceries and perishables, it is forced to increase different types of

distribution centers. The average number of stores per store has been decreasing from 52.32 to 45.89,

which only shows increasing overhead, and one of the causes for net profits not to keep pace with revenue

growth.

The only avenue to increase profits is to expand at same rate of 8% to have a steady growth rate

of 6% to 7%. And we have earlier seen since U.S. retail market is saturating, it requires Target to look

outside of U.S. for expansion. The stock market has rewarded Target richly for its growth, and Target has

commitment to continue with its growth rate because it owes fiduciary duty to its shareholders to succeed

beyond their expectations.

Target’s Existing International Experience

At this point, we want to assert that Target is not new to international trade. It already sources the

products it sells from different countries from its subsidiary Target Sourcing Services (TSS). TSS is

responsible for importing the right quality merchandise at the right prices for Target stores, and has staff

all over the world. Since 2005, Target has been running back office operations in India, to lower its office

support costs. Target India’s sole task is to assist Target to run its value-chain efficiently, and develop

new and efficient merchandising concepts. Thus Target is not new to running international business, and

to the challenges international operations poses.

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Canada: A country To Expand Into

We have found Canada to be an excellent expansion destination, and to be very attractive for

variety of reasons. When we looked at the country portfolio analysis just for fast food restaurants our eyes

were startled. The biggest circle on the portfolio analysis diagram belongs to Canada (Exhibit 6) and it

indicated that Canada was closest to US in many ways ¹¹. This analysis made adjustments for cultural

similarity, geographically closeness (Exhibit 1) and trade agreement participation. Indeed this is the case.

Both U.S. and Canada are biggest trade partners in the world, share big portion of their borders and

signatories to NAFTA. And in fact many Target stores are close to Canadian border and frequently visited

by Canadian shoppers.

Economically Canada and U.S. are similar. Both are categorized as developed countries and have

around 80% of population living in urban centers with at least 75% working in service sectors. The

income levels do not differ that much. U.S.’s per capita annual income of $43,730 is little higher than

Canada’s $ 39,010 (Exhibit 14)⁹. The prosperity levels indicated by penetration of telephone, computers,

and televisions all indicate that the residents of both countries have a very high standard of life. Many of

the cultural traits such as Thanksgiving dinner, Success through hard work, Santa Claus and Easter Bunny

are cultural norms found in both countries (Exhibit 16) ⁴. Geographically Canada and U.S. are very close

and share same weather elements. It is easy to see that in both countries consumers have similar tastes and

demands because of geography, economics and culture. Hence it becomes very easy for Target to extend

into Canada. If Target chooses to open few stores in Toronto and Vancouver metropolitan areas it can do

it easy, since these regions are close to its existing distribution centers in New York and Washington

states (Exhibit 1). And merchandise as we saw will not be problem because the consumers in these four

areas share same tastes and have same demands. Moreover the consumers across both countries watch

same sports, movies, and television shows. Thus Target can use almost same amount of the advertising

dollars to run marketing campaigns in both countries.

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Expand into Toronto Area First:

Toronto and its suburbs is one of the largest concentrations of population in Canada. Within 1-

day drive or 1 hour flight time of Toronto 22 million people with an economic value of $550 billion

reside ¹⁰. This area is the fifth largest market in North America and twelfth largest in the world. A

company like Target will ill afford to ignore one of the largest consumer markets.

Canadian Retail Sector

Canada’s annual revenues in retail sector are $403 billion in Canadian dollars⁴. 46% of these

revenues come from chain stores and 30% of Canadian GDP comes from retail sector (Exhibit 15). Retail

sector employees 11.2% of Canadians, and uses 227,200 locations to push its wares to its customers.

There is a strong retail environment in Canada and Target does not need to educate its potential

consumers about its offerings. Consumer education is big issue in many countries of the world and

international companies spend time and money to educate and train consumers about the products which

these consumers do not know about.

Canadian Ethos

Canada is well known across the world for its social welfare programs and Canadians take

immense pride in it. And Target’s policy of donating 5% of profits for social causes matches beautifully

with Canadian ethos. Such policy will resonate with Canadian consumers and will make Target a likable

place to shop for these consumers.

Consumers Shopping Demands and Preferences

Consumers in Canada covet U.S. shopping experience. Target, with its racks of dirt-cheap

designer duds, has big following among border-hopping Canadian customers. Their experiences is well

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summarized by Maureen Atkinson, a senior partner at J.C. Williams Group, a Toronto-based retail

consulting firm⁵, "If someone goes to Target and then comes back to Canada and shops at Zellers or Wal-

Mart they aren't as happy, They become more demanding, less satisfied.". There is a window of

opportunity for Target to fill the gap in the Canadian retail market and to cash retail envy Canadian

Consumers feel.

In a recent survey² it was found that both U.S. and Canadian consumers had similar financial

perceptions but Canadian consumers were less reactionary. 29% of Canadians did not cut back versus

19% of U.S. shoppers. It was also discovered that Canadians are more avid shoppers, and visit variety of

shopping venues at higher frequency than U.S. consumers; a trend which will benefit Target. Canadian

consumers also report higher participation in loyalty programs; 64% versus 51% for US. Target’s new 5%

discount program on purchases made on Target credit card will surely attract majority of Canadian

consumers.

Competitors Already Internationalized

Majority of U.S. firms are having more share of their revenues from international markets

(Exhibit 7). One of the Target’s online retail competitors Amazon.com has 48% of its revenues coming

from outside of U.S. ¹². Knickerbocker’s theory¹ tells us that a competitor firm who enters internationally

first might use profits from overseas to subsidize prices in home country to wean way business from its

existing competitors. Secondly, for Target’s chief competitor Wal-Mart Canada is its sixth largest market.

Wal-Mart Canada’s annual sales are approximately $15 billion which happens to be 4% of Wal-Mart’s

total global sales. Wal-Mart derives its $15 billion of revenues from 317 Canadian stores including 89

Supercentres. Thus it is imperative for Target not to overlook its competitors and fall far behind in

penetrating international markets.

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International Learning Experience

We saw that how Canada being close to U.S. gives an excellent chance to Target to start

internationally. Since it can start with few stores close to its existing distribution centers, Canada opens a

low risk door for international expansion and wonderful opportunity to learn and master global trade

practices and challenges global trade creates.

Economies of Scale

We saw that Target works with low margins it makes necessary for Target to constantly ramp its

sales volume. Thus going international will open bigger markets for Target and economies of scale¹ will

work to help lower costs. Target is also big in private label and economies of scale will benefit more in

Target’s very lucrative private label products.

Foreign Investment Climate in Canada

Canada has been very attractive destination for international foreign direct investment (FDI). We

have learned that historically most FDI has been directed to the developed nations of the world as firms

based in advanced countries invested in each other’s market¹. And FDI in Canada proves same. Among

all G-7 countries Canada ranks on top in FDI as percentage of GDP, which happens to be 30% in 2006 for

Canada (Exhibit 10)⁷. The FDI as percentage of GDP has been climbing in Canada showing Canada as

remarkable attractive FDI destination. Among all the countries who invest in Canada, U.S. is in the top

with $288 billion dollars of FDI. U.S. contributes 57.6% of total foreign investments in Canada (Exhibit

11) ⁷.

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Canadian FDI Breakup

In Canada 41.1% of all FDI is invested in Finance, Insurance and Energy sectors (Exhibit 12)⁷.

Canada is bestowed with lot of natural resources. Its principle export is energy in form of gas and oil, and

it makes up 20% of $389 Billion dollars of total Canadian exports. We saw earlier that service sector is

68.6% of Canadian economy. And service sector needs strong presence of financial and insurance

institutions. Looking at these factors makes it clear why most of the FDI in Canada has been in these

three sectors. And when we look at the foreign ownership in Canada by selected industry we observe that

in retail industry 20.9% ownership is through FDI (Exhibit 13)⁷ and on average across all industries FDI’s

share in investments is 21.1%. The current amount of foreign investment demonstrates that Canada is an

attractive investment destination. The amount of FDI ownership in retail sector should take away

nervousness from Target as others have already demonstrated FDI in retail.

Canadian Economy’s FDI Attractiveness

Honorable Peter Van Loan the Canadian Minister of International Trade’s own words makes

clear the stance Canadian government has taken with regards to FDI in Canada⁶. “We offer one of the

most attractive and low-risk business destinations in the world. Our rich diversity, spirit of innovation and

excellent business conditions are key drivers of our economy. The advantages and opportunities that

Canada offers are countless:

Lowest taxes on new business investment in the G7

Lowest debt-to-GDP ratio in the G7

Fastest economic growth in the G7 for 2011, according to the International Monetary Fund

World’s soundest banking system, according to the World Economic Forum

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A “tariff-free zone” for manufacturers by 2015

The highest proportion of post-secondary graduates in the OECD

High quality of life

A commitment to the rule of law and a strong justice system"

Attributes, such as lowest taxes, fastest G-7 economic growth, stable polity, lowest G-7 debt-to-

GDP ratio, high quality of life, and strong law enforcement, make Canada a strong candidate for any FDI

considerations. These are the very qualities corporations are looking in foreign countries to make

commitments for FDI investments. Moreover in 2009, Canada became first country in the G20 to become

tariff-free zone for manufactures after elimination of over 1,500 tariffs on manufacturing inputs and

machinery and equipment. The foreign investors compliment Canadian government well for Canada’s

high skilled workforce and enviable quality of life which makes Canada a place to do business and

succeed. Canada’s economy has been one of the most resilient globally during the recent downturn.

Canada’s GDP, is world’s 11th largest, and for the decade 2000-2010 its GDP has averaged growth of

1.7% well above the U.S., the U.K., France, Germany and Italy (Exhibit 17). As per IMF, Canadian

economy is forecasted to grow at the rate of 2.6% for 2010 and 3.6% for 2011, well above the other G-7

countries’ growth rates (Exhibit 18). “For foreign investors, therefore, Canada offers a large and growing

market with high-growth sectors of activity at a time when most other advanced economies are looking at

uncertainty over the short-to-medium term.”

Other Attractive Factors of Canadian Economy

There are few other commendable things about Canadian economy which makes it the destination

for FDI. Canada has the lowest payroll taxes among all G-7 countries and by 2012 the Canada’s federal

corporate income tax will fall from 18% in 2010 to 15%⁶. The new rate will be less than half of the top

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U.S. federal marginal corporate income tax rate and lowest in the G-7 countries. Canada also allows faster

depreciation for assets, an attractive proposition for capital investment.

Recent years have been marked by world-wide bank failures and collapses. But no Canadian bank

or insurer has gone bankrupt. Four of the Canadian banks are among North America’s top 10 banks,

measured by assets. The Canadian government runs budget surplus which stands for something when

other G-7 countries are running multi-billion dollar deficits. A stable banking system and budget surplus

indicates that the Canadian consumer’s shopping power will stay intact and will not fluctuate, a quality

deemed by those selling consumer goods.

As per World Bank in 2010 Canada has the lowest number of procedures required to establish

new business among G-7 and OECD countries. Among real estate process all over the world Canadian

real estate prices are most competitive⁶. Canada allows full repatriation of investment earnings and with

balance of trade with U.S. in Canada’s favor repatriation of earnings back to U.S. will not be a problem.

The latest Competitive Alternatives 2010, KPMG’s guide to international business costs, found

that Canada leads the G7 in low business costs, with an overall cost advantage of 5.0% over the U.S.

Among the countries in KPMG’s study, Canada has⁶:

The lowest R&D costs in the G7, with a 12.9% advantage over the U.S.;

The second-lowest labor costs (after Mexico);

The third-lowest facility lease costs (after Mexico and the U.S.);

The lowest electricity costs; and

The second-lowest tax costs (after the Netherlands).

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Thus it becomes a no brainer for Target to invest in Canada. The economy of Canada is doing excellent

and is most stable. Canada has least barriers on flow of goods and money across the border. It citizenry

makes attractive potential customers for Target.

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Retail Environment in Canada

Canada’s economic strength lies in the diversity and vitality of its natural-resource industries

that supply the world with ore, oil and gas, lumber, and other commodities. The retail sector is a vital

part of Canada's economy and society. The Canadian retail industry is primarily engaged is selling

consumer goods and related services through stores to the general public. Large retail firms also tend to

operate their own warehouse facilities and, in some instances, have manufacturing operations for the

production of private-label goods.

Retail Market structure

The retail market structure has changed considerably in recent years. A number of large non-

Canadian retailers (mainly from the United States) have established a significant presence in Canada,

bringing with them new approaches to doing business, such as use of the “big box” retail format,

everyday low pricing, and advanced logistic systems. Several Canadian retailers are transforming

themselves to compete successfully with these large newcomers, while in some sectors, local

independent retailers have disappeared altogether. In the short term, Canadian consumers have

benefited from the lower prices and added convenience associated with the changed retail market

structure, but, at the same time, the retail environment has become more homogenous and

concentrated.

The Canadian retail market has been evolving rapidly since the last decade. The most significant

development of the last decade has been the emergence of big box stores. In the first study on this issue

by Statistics Canada, Genest-Laplante identified three unique categories of big box stores in Canada and

quantified the growth(in market share) of these new formats. The first category is supermarkets, with

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groceries as the main products, and a minimum store size of 50 000 sq. ft. Second are specialty stores –

retailers focusing on specific types of consumer goods, such as sporting goods, electronics, toys, drugs

and clothing, with a minimum size of between 5000 and 20 000 sq. ft. (depending on the type of goods

sold). Finally, there are general merchandise stores with a minimum of 90 000 sq. ft. Since 1989, these

three categories have steadily taken a greater share of Canadian consumer sales in their respective

markets.

The direct contribution of retail trade to the economy was $74.2B in 2009, representing 6.2

percent of Canada's gross domestic product (GDP). The rate of Canada's retail sector GDP growth was 34

percent faster than the U.S. retail sector and 96 percent greater than the Canadian economy between

2004 and 2008.5 Retail employment grew 2.4 percent per year from 2002 to 2009 while employing 2.0

million people, or 11.9 percent of the total working population in 2009. Through its investments in

information and communication technologies (ICT), commercial infrastructure, and logistics and

transportation services, the retail sector has significantly affected other sectors of the economy.

After a prolonged period of growth, Canadian retail sector sales decreased in the last quarter of

2008 and through the first three quarters of 2009 (Exhibit 21). The impact of the economic downturn on

sales of the Canadian retail sector varied more among the economic regions of the country than on a

product line basis. The Alberta and British Columbia retail sectors had the largest percentage sales

decline amongst the Canadian provinces during the economic downturn.

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The economic downturn affected the sales of each retail trade group differently. Home

furnishing stores, furniture stores, home electronics and appliance stores, and home centers and

hardware stores experienced some of the largest year–over–year sales decreases through the first three

quarters of 2009. Meanwhile, the sales growth of supermarkets, pharmacies and personal care stores,

and department stores and general merchandise stores remained positive throughout the downturn on

a year–over–year basis.

Although retail sales have decreased during the economic downturn, the sector has remained

consistently profitable (Exhibit 22) in part due to better control of global sourcing activities and

responsiveness to changes in consumer demand. Also, retailers are moving beyond operational

improvements based solely on measuring averages. Managing and controlling the variability in their

operations especially regarding their supply chain is driving their profit margin.

Although the Canadian retail sector experienced negative annual growth over four quarters due

to the economic downturn, its growth has consistently outpaced the U.S. retail sector over the past

several years. In addition, the sales of the Canadian retail sector were less affected by the global

economic crisis than that of the U.S. retail sector.

Competitors

The Canadian retail market is dominated by foreign retailers. A number of retailers (Best Buy,

Old Navy, Home Depot, Wal-Mart, and Staples) from United States have established a significant

presence in Canada, bringing with them new approaches to doing business, such as use of the “big box”

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retail format, everyday low pricing, and advanced logistic systems. Several Canadian retailers are

transforming themselves to compete successfully with these large newcomers, while in some sectors;

local independent retailers have disappeared altogether.

The bulk of total foreign retail sales in Canada (approximately 75 percent) are attributable to

firms based in the U.S., with most of the rest coming from firms in the United Kingdom (Simmons and

Kamikihara). In fact, the umber of U.S. retail chains operating in Canada increased from 10 in 1985 to

185 in 2003. As of early 2009, 11 of the top 20 retailers in Canada (measured in terms of retail sales)

were U.S.-owned.

Wal-Mart entered Canada in 1994 with the acquisition of 122 Woolco stores, and in eight short

years, it has easily surpassed the Hudson Bay Co.and its Zellers chain to become Canada's number one

retailer. Wal-Mart effectively controls 38 percent of the Canadian department store market. Before Wal-

Mart's arrival, Canada's retailers mainly operated according to a variable “high low” pricing model, using

weekly fliers, loss leaders and specials to attract consumers. However, to compete against Wal-Mart and

one another, Canadian discount and traditional department stores are borrowing some of the U.S.

giant's tactics, including everyday low pricing. For example, it was reported in 2003 that approximately

35 percent of Sears Canada's sales are based on everyday low pricing, a substantial departure from its

historical method of using frequent markdowns to attract customers. The same source reported that

Zellers has responded by moving a larger share of its inventory to an everyday low pricing system. The

end result is that it appears Canadian consumers are benefiting from consistently lower prices due to

the introduction and widespread use of everyday low pricing in the retail marketplace.

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Infrastructural Facilities

Canada’s infrastructural facilities are one of the best in the world. Canada offers thoroughly

modern transportation (Air/Rail/Road/Sea) and telecommunication infrastructures, and easy access to

global supply networks, which makes Canada’s business climate second to none. Canada has a true

integrated rail network running coast to coast, which is run by two national railroads, allowing for the

seamless movement of goods across the country without switching carriers. Canadian National’s

acquisition of the Illinois Central railroad back in 1998 resulted in the only truly continental railroad —

one that stretches from Halifax in the east to Prince Rupert in the West and from New Orleans in the

South to Canada’s Northwest Territories. Canada’s major cities are well connected through its state of

the art National Highway’s and air.

Canada's technology infrastructure is very advanced and ranks second, only behind the U.S. of

all G-7 countries and continue to rank above or very close to the U.S. in terms of the number of internet

users and internet hosts per 1,000 inhabitants. The Canadian Government is committed to make Canada

the most connected Government to its citizens and make available high-speed broadband access to

Canadians in all communities. The economic policies of the Canadian Government are focused on

making Canada a world leader in the new global economy.

Workforce

Canada has a skilled and motivated work force, and continues to attract some of the brightest

minds from around the world, thanks to its business-friendly immigration policy for qualified

immigrants. According to the Organization for Economic Co-operation and Development (OECD), Canada

leads higher education achievement. Canada ranks fourth among member countries of OECD for its high

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school completion rates. Canada ranks first in the OECD for its college completion rates, and ranks

seventh for its university completion rates. More than half of all Canadians between the ages of 25 and

35 have received postsecondary education, either at the university, college, or technical level. Its

engineering, business, and management schools also rank highly.

Canada is a multi-cultural country, and its workforce is reflective of that. One in every five

Canadian’s has a mother tongue other than English or French. That is close to 6.5 million people. Both

Asian and European languages are spoken extensively in Canada (See Exhibit 23). This diversity is an

asset to foreign investors. Business looking for global skillets, will find Canada’s ethnically diverse

workforce very familiar with different business cultures.

Selecting an Entry Mode

The preferable entry mode for Target is to establish wholly owned subsidiary by acquiring an

existing enterprise in Canadian market. By acquiring an established enterprise, Target can rapidly build

its presence in the Canadian market. Acquisition helps Target to preempt the competition. Acquisition is

usually less risky than greenfield venture. When a firm makes an acquisition, it buys a set of assets that

are producing a known revenue and profit scream. In contrast, the revenue and profit stream that a

greenfiled venture might generate is uncertain because it does not yet exist. When a firm makes an

acquisition in Canadian market is also gives Target not only acquires a set of tangible assets, such as real

estate, logistic systems, customer service systems, and so on, but it also acquires valuable intangible

assets including immediate access to markets and managers local knowledge of the business

environment in Canada.

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Acquire Zeller’s

Zellers Inc. is Canada's second-largest chain of mass merchandise discount stores, started in

1931 by Walter P. Zeller, the company discount department store chain with about 280 stores across

Canada. Zellers stores carry a variety of items, from apparel to groceries and furniture. Zellers is

headquartered in the city of Brampton, Ontario, near Toronto, and is a subsidiary of Hudson's Bay

Company ("HBC"). In recent years, Zellers has been moving slowly away from the discount department

store model, and has introduced better quality merchandise and different customer service concepts.

New and remodeled Zellers stores are often compared to those of Target Corporation in the United

States.

Zellers operates stores from St. John's, Newfoundland and Labrador, to Prince Rupert, British

Columbia, and employs over 35,000 people. The average store size is 94,000 square feet. Zellers Select

stores are designed for smaller markets with populations under 25,000, with stores averaging 45,000

square feet.

Almost every Zellers location in the English-speaking provinces features a pharmacy and an in-store

restaurant, the 1950s themed Zellers Family Diner. The chain has been busy renovating and expanding

its stores to its new larger format (typically 100,000 square feet) to better compete with supercenters

operated by rival Wal-Mart Canada. These stores typically feature a hair salon, refrigerated groceries,

major appliances, mattresses, and expanded electronics and cosmetics departments.

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In the past several years, Zellers has made a notable push to drive sales through use of

exclusive, private label merchandise. In a strategy similar to Target's, Zellers sells Big Star, Cherokee,

Sportek, "Stuff by Duff", Homestyles, Hunt Club, Midtown, Nest by House & Home, Wabasso "Design

Ideas", Alfred Sung Home, Truly, MarketSquare, Beaumark, Home Studio, and many other labels that

can only be found in their stores in Canada. Private brands now represent over 30% of Zellers sales.

By acquiring Zellers provides Target right tools to compete with rival Wal-Mart Canada. This

acquisition will provide Target with a revenue stream of $5 to $6 billion Canadian dollars a year (See

Exhibit 19 and 20). At the same time it will also face challenges, in changing the culture of the

organization and may experience high employee turnover.

Political Risk

Relative to Target’s decision to expand via Foreign Direct Investment in Canada; we need to

review the issues of political risk. By definition, Political risk is comprised of any political force

that imparts dramatic changes in a country’s environment whereby impacting profit and other

metrics of success for businesses. Such political forces can be doled out in countries where there

is evidence of social unrest as in the example Sub-Saharan Africa or where fanatical, political

regimes are at work as in the examples of Pol Pot, Idi Amin and Hugo Chavez.

As Target moves to increase market share, they must pay particular attention to an FDI path of

least resistance. Over the past decade, the spread of democracy has improved the fertile

landscape for FDI ventures but as for the political distance between the US and Canada…it’s

hard to beat. First off, retail consumer goods are less sensitive to such distance where as

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products like precious metals, electricity and other various commodities (ie sugar, Textiles,

coffee) are highly sensitive to preferential trade agreements. The following is an excerpt from

the US State Department website:

“Canada is a constitutional monarchy with a federal system, a parliamentary government, and a

democratic tradition dating from the late 18th century. The Charter of Rights and Freedoms,

enacted in 1982, guarantees basic individual and group rights” (US Dept of State 2010) . It is

clear to see that Canada doesn’t run the same Two Party political system as found in the US;

however, the tradition of democracy is clearly a commonality which fosters a positive

atmosphere for commerce and also reduces many of the necessary controls that would need to be

implemented when entering a Totalitarian/command style environment. Target should consider

a guarded approach to entering the province of Québec however. Québec’s national sovereignty

has waned in the past decade; however, culture and identity still make up the centerpiece of the

province’s politics. Many Quebecers wish for secession from Canada however they enjoy the

benefits of confederation.

“The relationship between the United States and Canada is the closest and most extensive in the

world. It is reflected in the staggering volume of bilateral trade--the equivalent of $1.6 billion a

day in goods--as well as in people-to-people contact. About 300,000 people cross the border

every day.”(US Dept of State 2010) Based on CAGE Theory, Frankel and Rose predict

exponential changes to international trade due to many of the current conditions found between

the US and Canada (Polity, Regional Trading Bloc, Common Language, Common Border,

Access to Ocean) See Exhibit 24.

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An important factor to note concerning NAFTA is that trade between the US and Canada has

grown over 265% since 1994. This can be interpreted as a positive aspect shared by both

countries whereby further solidifying their relationship

Historically speaking, the US and Canada comprise one of the largest investment relationships in

the world. It comes as no surprise that Canada’s largest foreign investor is the US. “Statistics

Canada reports that at the end of 2007, the stock of U.S. foreign direct investment in Canada was

$289 billion or about 59% of total foreign direct investment in Canada”. (USDS 2010) Based on

this evidence, Target’s decision to operate in Canada carries little political risk while offering a

nurturing environment in which to thrive.

Concerning the laws of Canada, Criminal law, and Civil Law are based on the common law

system of England which is the underpinning for the United States legal system. Conversely,

Quebec utilizes a civil code that is derived from the French legal system. This evidence clearly

illustrates yet again there are many commonalities between the US and Canada with exception of

Québec.

Business Risk

The definition of business risk is as follows: “Probability of loss inherent in a firm's operations

and environment (such as competition and adverse economic conditions) that may impair its

ability to provide returns on investment. Business risk plus the financial risk arising from use of

debt (borrowed capital and/or trade credit) equal total corporate risk.”(Business Dictionary.com)

As with any Foreign Direct Investment you will carry business risk mainly in the form of

investment failure based on a collapsed FDI venture. Corporations must tie up capital when

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embarking on FDI no matter if it’s a joint venture of a full-blown Greenfield approach.

Mitigating all risk is not possible; however steps may be taken to reduce certain risks.

In comparison to FDI expansion overseas, growth in Canada costs far less and carries fewer

logistical risks. Yet, some of the significant challenges that face Canadian FDI are the, vast

distances between major Canadian cities and other aspects of bilingual labeling and marketing.

Target has looked at a variety of FDI approaches relative to expansion in Canada. Initially, they

planned a launch of 5-6 stores across select provinces in Canada. They have worked with real

estate developers to determine locations for maximum impact as in the example of the Greater

Toronto Area which is home to 22 million people. The following excerpt is from Target CEO,

Doug Steinhafel: "As we approach each of these growth opportunities, Target will apply the

same rigorous financial discipline that we have applied historically, ensuring a returns-based

approach and the prudent use of capital"(Target.com, 2010).

The strategic behavior of competing firms can force one another to find the same resources. The

eased barriers to entry due to NAFTA compounds the competitive climate whereby increasing

the likelihood that others will join Target in a fight for market share. As Target grapples for

greater market share in the retail consumer goods sector, they will cross paths an old rival, Wal-

Mart who, with 317 stores across Canada, has been servicing Canadians for more than 15 years.

Other related competition native to Canada is Hudson's Bay Co(HBC). Their substantial

presence is delivered under the Zellers and” The Bay” chains. Relative to Wal-Mart, Target is

not a “First Mover” by expanding into Canada. Wal-Mart being the first mover has now sold its

brand to Canadians for over 15 years and has created a brand loyalty. Wal-Mart also carries the

distinct advantage of running the most efficient and technologically enhanced distribution

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centers in North America. These ingredients can pose a daunting risk as Target will initially be

utilizing its distribution centers in the US to feed Canadian stores. One concern is that the layout

of Super Target and Target Greatland stores accommodates the sale of groceries. Distribution

centers located in the United States are ill-equipped to service fresh produce, seafood as well as

various meats and dairy for the Canadian market. There are also legal and governmental issues

that obstruct Target’s ability to import certain food groups into Canada. For example, Meats,

Dairy, and poultry must be approved by the Canadian Food Inspection Agency. This said, the

expansion effort will need to increase to include the building of distribution centers in Canada

that are sourcing food stuffs locally to Canada. Said efforts increase scale of entry and tie up

greater capital, therefore, greater exposure if the venture doesn’t tender a return on investment.

Lastly, exchange rate fluctuation can have an impact on the FDI process. Target’s plan is to roll

out its half dozen stores mid decade is a long enough timeline to see a great deal of flux in the

US/Canadian dollar exchange. Budgeting has to take into account a possible weakening of the

US dollar otherwise the project might not be sufficiently funded come time of launch.

Risk Mitigation

Target has elected to avoid FDI in such countries that exemplify the ideals of totalitarian or

collective rule and command economies. China, as an example, may offer inexpensive factory

labor however; they lack the infrastructure to transport retail goods around the country. By

choosing Canada, Target has opted for democracy and a market economy. According to

Ghemawat’s statement about Wal-Mart in Canada; Target in Canada will virtually be a carbon

copy of Target in the United States. (Ghemawat, 2001)

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As for the mitigation of business risk; Target could look to acquire Zeller’s stores to reduce the

time involved in launching a full scale Greenfield FDI. Zeller’s infrastructure is in place for

seamless operational startup. A polycentric staffing policy could help reduce cultural myopia as

well as reduce the costs of value creation. Although, after an incubation period, a more

preferable geocentric staffing approach would foster greater growth for host and home country

managers. One of the possible downsides to this acquisition is the reduced square footage of

retail space in Zeller’s stores. Lack of footprint may present an operational problem when

reformatting the stores to match the space hungry, Target motif. The acquisition of Zeller’s

however, would come with distribution centers that could feed the grocery sector of Target.

Additionally, given the opportunity, Target may want to enter into a joint venture with

HBC/Zeller’s as many mergers and acquisitions fail due to overpayment, The Hubris hypothesis,

where top managers overestimate they’re ability to generate value to the firm. Risk can also be

mitigated via proper screening and auditing.

The choice of strategy should fall between a Global Standardization and Transnational Strategy.

To clarify this, many of the goods sold at Target stores within the United States would easily be

salable in Canada under the standardization approach, however, products requiring French

labeling or metrics would need to be localized. There is also a significantly larger Indian

population in Canada that would respond to greater localization of products, hence there will be a

mix of standard and local products. Concerning the pressures for cost reduction, the retail

consumer goods market is lead by the largest corporation in the world. As a competitor of Wal-

Mart, Target must look to expand in efforts to create a greater bargaining force with is suppliers.

The domino effect would then lead to more robust order volumes where suppliers could take

further advantage of Economies of Scale and drive prices lower. Within this notion is

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Knickerbocker’s theory of Multipoint competition. Target is following one of its largest

competitors to Canada in order to stave off Wal-Mart capturing an insurmountable market share.

Implementation

Dominic Barton, Principle Director of McKinsey and Co. states “Opportunities come up when

available. Prepare your board on the basics.” (McKinsey, 2010) Relative to Target, this

statement is quite apropos. The initial plan for Target’s FDI was to launch five to six stores

across Canada, mid Decade. As it turns out, HBC is in season to divest itself of their consumer

retail business unit, Zeller’s. “Zellers Inc. is Canada's second-largest chain of mass merchandise

discount stores, with 276 locations in communities across Canada.” (hbc.com) Rumors within

the past few years pointed to a possible takeover of Zeller’s. Jerry Zucker had purchased

Zeller’s taking that option off of the table, however, after his untimely death in 2008, the retailer

was spun off to NRDC Equity partners in July of 2008. The economic downturn has weighed

heavily on NRDC as they also own the retailer Lord and Taylor. This said, Zeller’s is right for

acquisition yet again. Target has alluded to the fact that it may be another three years before

they are positioned to enter Canada so during the interim they will be focused on improving the

stores in the United States. “Target plans to invest $1 billion (U.S.) renovating 340 stores,

adding more groceries to its general merchandise as hard-pressed consumers continue to buy

staple goods.”(Flavelle, 2010) As Target bides their time, playing a wait and see approach, they

will be focused on building 10 new stores in existing U.S. markets during 2010. This is a stark

decrease from the 58 stores built in 2009 and 91 stores in 2008. Plans are also in the works for

opening smaller store formats within the next 2 years.

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Looking at the current retail landscape in Canada, Wal-Mart, with its 317 stores across Canada

generates $15 billion and NRDC Equity(Zeller’s) generates roughly $6 Billion annually. This

said, the entire retail market is $400 Billion and leaves enough room for Target to penetrate and

draw discerning customers away from the likes of Wal-Mart.

Based on this opportunity Target must first gain approval by way of The Foreign Investment

Review of 1973. The law deals with acquisitions of control of Canadian businesses. “The

review was necessary for all acquisitions and for every establishment of a new business in

Canada by foreign-controlled entities above a certain size.” (Business Highbeam.com) The

initial FDI plan by Target was of an incremental approach, requiring a capital investment

considerably less than the magnitude of a near 300 store takeover complete with distribution

centers. Target would undoubtedly finance FDI expansion with a combination of debt and

equity.

Non Financial Investments

Concerning Non Financial investments, Target has certainly reviewed the overall climate

conditions of Canada and with the possible acquisition of Zeller’s, many of the stores will need

to be upgraded to perform as LEAD certified buildings. Said green activities will result in

environmental preservation which on the outset isn’t a financially sound project, however,

should add to show corporate social responsibility. Target will also generate non financial

investments by way of government regulations. As stated earlier, review boards will be

assembled to review and generate proposals for the Foreign Investment Review Board.

Customer satisfaction is another key area of non – investment due to the following reasons:

“Canada has long had a love/hate relationship with foreign direct investment (FDI).  FDI brings

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economic activity and jobs but conjures up fears of foreign takeovers, especially by the United

States. Foreign firms operating in Canada are more innovative and productive than their

Canadian counterparts, and they pay higher wages”. (business.highbeam.com ) Lastly, employee

motivation is a non-investment to ponder. Target has a rich tradition of creating a team

atmosphere. That said, with any acquisition and especially one in another country, corporations

must invest money into team-building programs to foster the proper spirit and work to reshape

the culture of those acquired.

Financial Investments

Naturally the monetary investment in this particular FDI relates to any costs of Greenfield,

acquisition or joint venture, but also the front end research to support the decision to initiate FDI.

Given the likelihood that Target would implement a Geocentric staffing approach, the costs to

transfer managers to and from Canada would greatly increase expenses over Polycentric

approach. The benefits would be realized by way of solid cross cultural literacy. Marketing

campaigns geared specifically for the Canadian audience as well as funding the peripheral

expenses in logistics, supply chain management and other related operating software integration

will be a source of additional financial investment.

Control Mechanisms

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Based on the buying psyche of Canadian shoppers, the concern arises that strong loyalty

programs are used by retailers. The affect of these programs usually creates higher switching

costs for customers to change their patronage preferences. Target currently implements controls

to measure the performance of all aspects of their retail offering. From a customer aspect, data

mining through reward cards and the Target Visa help forecast demand as well as create loyalty

via switching costs. From the operational side, incentives will be paid to managers of the FDI

subsidiaries based on performance metrics. Certainly, ethical behavior on the part of expatriate

managers has to be strictly monitored therefore the appointment of an ethics officer and the

adoption of a code of ethics are the mainstays of principled business in this era. Incentivizing

moral courage and ethical behavior and sanctioning immoral conduct is routine practice for

many multinational enterprises. Finally, Target Canada will need to enforce strict guidelines

relative to the dissemination of prescription drugs as they cannot be shipped to customers in the

United States. Federal regulations prohibit the sale of prescription drugs to US residents from

outside the country; however, these laws are broken on a routine basis.

Milestones

We need to develop two criteria based on either a smaller scale Greenfield launch or the capital

intensive acquisition with Zeller’s stores. With the initial plan of launching 5-6 stores through

Greenfield FDI by mid decade, we would expect a 3 year plan to fully integrate the Target

culture via geocentric staffing policies. Based on this smaller scale approach, reserve monies

would be available to inject into further expansion stores after a sufficient break-in period. This

break-in period of 3-5 years would indicate whether or not to continue further expansion in

Canada. The acquisition of Zeller’s would accelerate the penetration of the Canadian market

immediately. As Target would be acquiring the culture of Zeller’s they would implement a 90

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day milestone to make fast broad changes to the Zeller’s business. Implementation of TQM

methods such as Lean and Six Sigma would help reduce waste, capture Voice of the Customer

and increase operational efficiencies. After 18 months we implement an alignment program to

start the integration of Target’s culture, however, we would anticipate a time frame of 5 years to

fully integrate the culture. Once again a geocentric staffing policy would assist in these efforts

and combat against the effects of an ethnocentric, Phillips - “Dutch Mafia” staffing policy. In

the span of 10 years we look to Target to surpass $8 Billion Canadian in sales

Performance Metrics

We base our metrics on calculating per capita earnings and population rates. In the United

States, the Population is 301 million people. The per capita income is $43,730. Target sales are

$63 Billion, therefore, per capita income of $43,730 generates Target sales of $209.30 in the US.

We can then apply this metric to Canada. Canadian per capita income is $39010 which can then

be divided by the US per capita income $43,730 to generate $186.71. The resulting per capita

income, divided by the Canadian population of 32.6 million people will net $6.08 Billion in

projected revenues. If the spend increased by 50% the Target stores in Canada could generate

roughly $9 Billion. To generate even the original projection of $6 billion, Target would need to

operate approximately 200 stores at $25 million each. If the Zeller’s opportunity is presented,

Target will be best suited to strike a deal in order to meet the above performance metrics.

Exit Strategy

Having the foresight to arrange for a possible exit to your FDI plan is prudent. As stated earlier,

the financial risk is based on the inability to achieve the return on investment. Target will

endorse plans to exit based on the following criteria:

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Insufficient demand

Political and Economic instability

Fixed costs outweighing sales revenue

The initial stopgap measures to shore up the balance sheet would be to scale back stores through

divestment and re-concentrate same store sales, whereby eliminating capital exposure where

possible. If efforts to strengthen the financial position aren’t assisting, or the political and

economic climates become insurmountable, Target must further liquidate more assets such as

distribution centers and more stores until exit is complete. No firm is immune to adverse market

or political conditions.

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Comprehensive Guide to the Retail Industry. Houston, TX: Plunkett Research, 2006. Print.

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<http://www.macleans.ca/business/economy/article.jsp?content=20070806_108088_108088>.

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2010.pdf>.

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Canada. Parliamentary Information and Research Service, Library of Parliament, Canada, 17

June 2008. Web. 15 Nov. 2010.

<http://www2.parl.gc.ca/Content/LOP/ResearchPublications/prb0833-e.pdf>.

8. "Target Annual Reports: 2009." Target: Investors: Annual Report 2009. Target Corporation, 12

Mar. 2010. Web. 03 Nov. 2010. <http://sites.target.com/site/en/company/page.jsp?

contentId=WCMP04-045295>.

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9. Pocket World in Figures. London: Economist, 2009. Print.

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11. Pankaj Ghemawat. “Distance Still Matters: The Hard Reality of Global Expansion”. Harvard Business Review. Sep 01, 2001. Print.

12. Fisher, Daniel. "Owning Emerging Markets The Smart Way - Forbes.com." Forbes.com - Business News, Financial News, Stock Market Analysis, Technology & Global Headline News. Forbes, 20 Nov. 2010. Web. 30 Nov. 2010. <http://www.forbes.com/forbes/2010/1206/investment-guide-emerging-markets-brics-brazil-smart-markets.html>.

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15. “Zellers History”

< http://www.hbc.com/hbcheritage/history/>

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17. http://www.businessdictionary.com/definition/business-risk.html#ixzz16s1ZRQeh

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http://www.thestar.com/article/754191

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22. http://business.highbeam.com/603/article-1G1-57797032/impact-government-policies- foreign-direct-investment

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Appendix

Exhibit 1: Target Stores in U.S. (Green Rectangles showing areas closer to Canada).

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Exhibit 2: Target Key Financial Figures Growth Rate Change

Exhibit 3: Target Key Financial Figures Growth Rates

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Exhibit 4: Target Key Financials ⁸

Exhibit 5: Target Sales Growth Relative to Store Size Growth

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Exhibit 6: Country Portfolio Analysis Adjusted for Distance for Fast-Food Restaurants¹¹

Exhibit 7: Increasingly More Corporate Profits are coming internationally ¹²

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Exhibit 8: Expected Target Canada’s Key Financial Figures Growth Rates

Exhibit 9: Expected Target Canada Growth Chart

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Exhibit 10: State of Foreign Direct Investment in Canada ⁷

Exhibit 11: Sources of Foreign Direct Investment in Canada ⁷

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Exhibit 12: Foreign Direct Investment Breakup in Canada by Major Industry ⁷

Exhibit 13: Foreign Direct Investment Breakup in Canada by Selected Industry ⁷

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Exhibit 14: US and Canada Key Indices Comparison ⁹

Exhibit 15: Canadian Retail Sector Snapshot (2009) ⁴

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Exhibit 16: Some Components of Canadian Culture ⁴

Exhibit 17: Comparison of Canadian Economy Growth vs. its Peers ⁶

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Exhibit 17: Canada GDP Growth Rates vs. Other G-7 Countries ⁶

Exhibit 18: Corporate Taxes in Canada compared to Other G-7 countries ⁶

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Exhibit 19: Zellers (Hudson Bay) Financials Small Snap Shot³

Exhibit 20: Zellers (Hudson Bay) Financials Chart

Exhibit 21: Retail sector year-over-year growth

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Exhibit 22: Retail Sector Operating Profits

Exhibit 23: Canada’s Working-Age People by Mother Tongue

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Exhibit 24: Frankel and Ross – Measuring the Impact of Distance

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Distance Attribute Change in International Trade(%)Income level(1%) 0.7Economic Size(1%) 0.8Physical Distance(1%) -1.1Physical Size(1%) -0.2Access to Ocean 50Common Border 80Common Language 200Trade Agreement 330Colony-Colonizer 900Common Colonizer 190Common Polity 300Common Currency 340

Exhibit 24(Ghemawat 2001)