Four

Multinationals in Emerging Markets

THE RISE OF EMERGING MARKETS has not gone unnoticed by multinationals based in developed markets, such as the United States, Europe, and Japan.¹ In many cases, multinationals landed in the larger emerging markets immediately after liberalization and have been operating in those markets for years. Emerging markets are playing pivotal roles in the strategies of multinationals based in developed markets. Developing markets accounted for 30 percent of U.S.-based Procter & Gamble’s net sales in 2008, up from 21 percent in 2004.² Historically hesitant to move into developing countries, Japan’s largest automakers—Honda, Nissan, and Toyota—have moved aggressively into emerging markets in recent years. In May 2008, Nissan broke ground on a $1.1 billion production facility in Chennai, India. The company is also setting up plants in China, Morocco, and Russia. Nissan sold only 500 vehicles at its five dealerships in India in 2007; by 2012, the company hopes to sell 200,000 through fifty-five dealerships. Toyota has built production facilities in Russia and India, and Honda is expanding its production capacity in Brazil, India, and Argentina.³

Emerging markets have already become major growth drivers for telecommunications-related multinationals. After registering 15 percent growth in 2008, emerging markets accounted for 57 percent of Sweden-based Ericsson’s telecom network sales.⁴ Nokia of Finland, meanwhile, has designed a wide range of handsets particularly for emerging markets, offering not only voice communication but also mobile Internet service.⁵ In 2008, Nokia’s net sales in China, India, Indonesia, and Russia each surpassed its sales in the United States.⁶

Despite the advantages enjoyed by developed market-based multinationals—scale, brand recognition, superior technology, demonstrated success based on existing organization, and access to developed markets for talent, finance, and other inputs—their track record in emerging markets has been mixed. These companies face two overarching challenges in emerging markets: the prevalence of institutional voids and the new class of nimble, ambitious competitors that are developing world-class capabilities.

Multinationals can succeed in emerging markets only by adapting to or shaping the institutional voids in the markets they enter, particularly given that they must compete against local companies having an inherent advantage in navigating the business contexts of their home markets. Chapter 1 and 2 explain the uniqueness of emerging markets in terms of institutional context. This chapter examines what this unique institutional context means for multinationals looking to tap in to the growth of these markets as they confront and respond to institutional voids.

Facing Institutional Voids

The opportunities for developed market-based multinationals in emerging markets are fairly clear, but what does it mean for these companies to operate amid institutional voids? We introduce the concept of institutional voids in Chapter 1 with the example of an independent foreign traveler touring an emerging market. The traveler would miss the institutions that facilitate travel in his home market.

Now consider the plight of a foreign entrepreneur or multinational setting up a business in an emerging market. Like travelers, foreign businesses rely on a range of institutions to facilitate transactions and manage operations in their home markets and often are forced to internalize the added costs of their absence in emerging markets. Consider a consumer goods company. Products designed for developed markets often need to be modified to suit local needs, tastes, and price points in emerging markets—a difficult task in the absence of market information intermediaries. Reaching a significant share of the large consumer markets that attract many multinationals to emerging economies, meanwhile, is not as simple as contracting with retail chains or enlisting third-party logistics providers, because often these entities are not as well established or widespread in emerging markets. Any company operating in a foreign market faces challenges not encountered at home, but when a U.S.-based multinational, for example, sells its products in other developed markets—say, Europe or Japan—its market expertise may not be as deep, but it can still draw on deep networks of local market intermediaries for research, marketing, and distribution. These capabilities are not as widely available or as well developed in emerging markets.

Developed market-based multinationals have built businesses on foundations of strong market infrastructure. Often, these institutions are noticed only when they are missing, and they cannot be taken for granted in emerging markets. Soft infrastructure—market institutions, in contrast to hard infrastructure, such as roads and ports—plays a critical role in the ability of developed market-based multinationals to execute their standard business models in emerging markets, and it should not be overlooked.

Emerging markets can be exploited as consumer markets, regional or global production platforms, innovation and product development hubs, sources of talent, raw materials, or other inputs, and untapped opportunities to develop market infrastructure. Multinationals will confront institutional voids while pursuing any of these opportunities, so firms need to be clear about how they want to engage any emerging market in relation to the market’s institutional context.

Initially mesmerized by the size of these markets, many early-mover multinationals quickly discover that selling in emerging markets is a complicated exercise, requiring deep knowledge of customer needs, distribution networks, and a broadly supportive institutional framework. Low-cost labor makes emerging markets attractive as sourcing and production venues for multinationals. Through sourcing and local production, multinationals gain market entry and also infuse capital into the economy, improve the quality and processing standards of domestic industry, and share technology, management, and other expertise—an attractive proposition for governments in emerging markets. An incoming global company can build relationships and market know-how through sourcing deals to fuel future business and growth in target markets even while waiting to tackle the local consumer market.

Institutional context is a critical determinant of the ways multinationals choose to exploit factor markets. Using an emerging market as a hub for innovation and product development, for example, depends on the market’s intellectual property rights regime and the technical capabilities of its workforce.

Understanding the institutional context can help multinationals determine whether to sell or source in the emerging market; whether to engage the market through greenfield entry, acquisitions, joint ventures, or another form of collaboration with local players; and whether to focus on B2B or B2C initiatives. If the government exhibits a lack of openness, for example, joint ventures may be the most effective way to enter a market. If transportation and logistics networks are poor, a B2B strategy might be a better strategy than a B2C approach to get products into the market. Thus, companies create value by matching their strategies to the contexts in which they operate.⁷

As a first step, firms need a clear understanding of the existing voids. Firms that scan the institutional context and develop a clear and realistic understanding of intermediation gaps or other market voids and the ways they align with their own core competencies and value propositions are more likely to choose the best markets to enter, select optimal strategies, and extract the most value from operating in emerging markets. By being able and willing to experiment, multinationals can navigate emerging market contexts and even exploit some institutional voids for competitive advantage.

Responding to Institutional Voids

Multinationals face a series of strategic choices as they confront institutional voids in emerging markets (see table 4-1). These choices are faced by multinational firms that exploit their global brands and reputation to sell into product markets in emerging markets and those that exploit local factor markets to produce and source in emerging markets. These choices are closely tied to the various market segments within emerging markets. As described in Chapter 2, emerging markets—both output markets and input markets—can be segmented into four tiers: global, emerging middle class, local, and bottom of the market. Different strategies in response to institutional voids position multinationals to reach different market segments, as we discuss next.

TABLE 4-1

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Responding to institutional voids in emerging markets

Strategic choice	Options for multinationals from developed markets
Replicate or adapt?	Replicate business model, exploiting relative advantage of global brand, credibility, know-how, talent, finance, and other factor inputs. Adapt business models, products, or organizations to institutional voids.
Compete alone or collaborate?	Compete alone. Acquire capabilities to navigate institutional voids through local partnerships or JVs.
Accept or attempt to change market context?	Take market context as given. Fill institutional voids in service of own business.
Enter, wait, or exit?	Enter or stay in market in spite of institutional voids. Emphasize opportunities elsewhere.

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Replicate or Adapt?

Equipped with business models developed for markets having deep networks of market intermediaries, multinationals need to decide the extent to which they can replicate those models in emerging markets having institutional voids. By virtue of their global brands, credibility, know-how, talent, and resources, multinationals have unique competitive advantages in emerging markets. These advantages are so valuable in emerging markets—where domestic rivals lack access to the intermediaries that help companies acquire and build these capabilities—that multinationals can build strategies around them. Multinationals can exploit their relative advantage to gain traction, replicating their home-market business models with little modification. This approach enables multinationals to sidestep some institutional voids and does not particularly strain their organizations, but often it limits companies to serving only the global market segment, where those capabilities are most rewarded.

The global segment features infrastructure, tastes, talent, and resources similar to those in developed market-based multinationals’ home markets. It thus offers these companies an easy entry point into emerging markets where institutional voids are relatively moot. The absence of market research, product design, brand-building, or distribution intermediaries, for example, does not impede multinationals from reaching the global segment. Many Western fashion houses entering China brought their standard global lines with global pricing to retail outlets in the shopping plazas in five-star hotel properties; in this way, the fashion houses exploited their global brands and existing design expertise at easily accessible retail locations frequented by members of the country’s market segment having both wealth and global tastes.

Multinationals’ experience in catering to this segment in developed markets gives them a natural advantage vis-à-vis emerging market-based entrepreneurs. By limiting their ambition to serving—or producing from—this segment, multinationals can treat emerging markets like small outposts of their home markets. However, the global segment is small in most emerging markets—much smaller than many multinationals anticipate.

Multinationals can establish footholds and test the waters in emerging markets by simply exploiting their natural endowments without significant modification. To reach customers and access talent and resources in the emerging middle class, local, and bottom-of-the-market segments—the mass markets that attract many firms to invest heavily in emerging markets—multinationals need to adapt their product offerings, business processes, and organizational structures in light of the institutional voids that they may sidestep in the global segment.

Adaptation is difficult for multinationals in emerging markets for a number of reasons. To reach customers in the other market segments, multinationals first need to identify these. These segments are not easily distinguished purely on the basis of income, so local knowledge is critical to targeting segments effectively. Acquiring this local knowledge is difficult in the absence of sophisticated market research intermediaries. Even after identifying segments, multinationals need local knowledge to tailor products to local needs. This could mean deciding which elements to eliminate from products to meet lower price points than in the companies’ home markets. Meeting lower price points can also be a source of internal stress for multinationals as they accommodate new cost structures. Beyond product development and marketing, often multinationals also need to adapt their approaches to distribution to reach customers outside urban centers in the absence of retail chains and third-party logistics providers. In the talent market, these companies need to work around the absence of information and certification intermediaries to attract, sort, and motivate employees.

Before adapting standard approaches to target emerging markets, firms must compare the benefits of doing so with the additional coordination costs they will incur. Multinationals can localize too much in emerging markets, thereby undermining their advantages of scale and branding while creating operational complexity. Different forms of localization are often needed in different emerging markets, and these divergent adaptations can strain multinational organizations. Multinationals need to determine which pieces of their business models are sacrosanct and carefully manage any modification of the pieces that are not.

Compete Alone or Collaborate?

Multinationals entering and operating in emerging markets also need to relate their business models and organizations to competitors and other stakeholders, such as the government, in emerging markets. Partnerships or joint ventures ( JVs) with local companies can be the price of admission for multinationals in some emerging markets. Partners can also serve as valuable sources of local knowledge, substituting for missing market intermediaries, such as offering insight into customer preferences in the absence of market research firms.

However, institutional voids can also make it more difficult for multinationals to acquire new capabilities through collaboration—for instance, in evaluating potential local partners. Partnerships can bring risks as well as rewards for multinationals. Technology transfer agreements, for example, can create powerful potential competitors out of former partners.

Accept or Attempt to Change the Market Context?

Through adaptation, multinationals can often circumvent voids. Partnerships, for example, can substitute for voids. In the face of particularly challenging market contexts, multinationals need to determine whether they need to work proactively to fill voids. Multinationals can fill voids independently to serve their own business, such as a retailer developing a more comprehensive distribution infrastructure than necessary in a developed market where third-party providers are better established, or an automotive company establishing a financing arm. Alternatively, multinationals can induce other businesses in the emerging market to fill the void by offering a guaranteed stream of business through contracting. Given the challenges of filling voids in emerging markets discussed in Chapter 3, however, multinationals need to consider carefully the extent to which they can shape the institutional context in emerging markets.

Enter, Wait, or Exit?

It may be impractical or uneconomical for some firms to adapt their business models to emerging markets and daunting to attempt to change the market context. The first-mover advantage can be powerful in emerging markets, but waiting—emphasizing opportunities elsewhere—can also be a viable, and even wise, strategy for multinationals facing institutional voids.

Delayed entrance strategies can take a number of forms. Waiting might mean avoiding a high-risk consumer-facing environment while getting the company’s feet wet through exploring or establishing sourcing relationships or by considering setting up a part of the value chain in-country. Indirect engagement often limits the need for multinationals to adapt existing business models or significantly localize offerings. The ability to enter a market under the radar and to spend time learning about the local market and customer needs can be an excellent entry path into developing regions. Following existing customers into emerging markets and helping fill market gaps can be a wise entrance strategy for multinationals. For multinationals already established in emerging markets, it is sometimes necessary simply to cut their losses and exit in the face of challenging institutional voids.

Multinationals in Emerging Markets: Examples

In the rest of this chapter, we look at examples of multinationals based in developed markets that confronted these strategic choices in the face of institutional voids in emerging markets (see table 4-2). Although each of these companies has confronted each of these strategic choices, we focus on the most salient choice for each example.

TABLE 4-2

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Case examples

Strategic choice	Example
Replicate or adapt?	General Motors in China L’Oréal in India Organizational adaptation in emerging markets
Compete alone or collaborate?	Microsoft in China GE Healthcare in emerging markets
Accept or attempt to change market context?	McDonald’s in Russia Monsanto in Brazil
Enter, wait, or exit?	The Home Depot in emerging markets Tetra Pak in Argentina

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When General Motors entered China, the automaker replicated its model and targeted the global segment of the country’s nascent car market. Similarly, L’Oréal exploited the advantages of its global brand and capabilities in India, but only after retreating from an earlier failure to adapt to the country’s local market segment. Adaptation for multinationals can also mean tailoring operations and organizational structures in emerging markets.

Adaptation is not enough for many multinationals to manage institutional voids in emerging markets. Microsoft’s initial attempt to adapt on its own in China failed. The company found that it needed to collaborate with local stakeholders and position itself as a partner in progress to make headway in the market. GE Healthcare sought to take advantage of cost savings in emerging markets without sacrificing the quality of its sophisticated imaging and other medical equipment. Replicating global standards in emerging market-made products required the company to collaborate closely with its supply chain.

McDonald’s sought to replicate its menu around the world. To deliver this in Russia, the company found that it could not simply take the market context as a given. It needed to work actively to fill voids in its supply chain. In Brazil, Monsanto faced contextual challenges of intellectual property rights infringement that undermined its business. In part by borrowing foreign market institutions, the company pressured stake-holders to change that context.

Institutional voids prevented The Home Depot from executing its standard business model in emerging markets. The company opted to adapt in some markets and wait in others, emphasizing opportunities elsewhere. Tetra Pak’s operations in Argentina faced serious contextual challenges during the country’s financial crisis in 2001–2002. Instead of exiting, however, the company exploited the relative advantages of its global organization to weather the crisis and recommit to the market.

Replicate or Adapt? GM in China

When U.S.-based automaker General Motors (GM) made its first major push into the China market in 1997—beating out global rivals to sign a $1.6 billion joint venture agreement with Shanghai Automotive Industry Corporation (SAIC)—the company saw a market with extraordinary potential. At the time, China boasted only 5.25 passenger cars per 1,000 people, but that figure was poised to increase dramatically as the country’s economic growth created a new middle class.⁸ China’s hard infrastructure of roads and highways was underdeveloped at the time, limiting GM’s potential customer base to some extent, but the company also faced the underdeveloped soft infrastructure needed to produce and sell vehicles there.

Automakers depend on a number of market intermediaries. Car research and development and product design depend on market research firms—product market information analyzers and advisers. Developing products requires employees having technical expertise developed in universities and other training institutions—labor market aggregators, distributors, and credibility enhancers. Producing complex products such as vehicles depends not only on the hard infrastructure of logistics and transportation but also on soft infrastructure to develop a deep supplier network—including, for example, information analyzers and advisers to identify suppliers, credibility enhancers to certify them, and regulators and adjudicators to ensure intellectual property protections.

Because vehicles are a major purchase for consumers, distributing and selling vehicles depend on extensive dealer networks where customers can test-drive cars. Before making a car purchase, customers in developed markets turn to a wide range of information analyzers and advisers such as ratings and awards from organizations like J.D. Power and publications like Consumer Reports magazine. Financing a large purchase like an automobile depends on capital market aggregators and distributors to advance loans as well as capital market information analyzers and advisers to provide credit scoring. Automotive standards depend on regulators and other public institutions. Disputes over car warranties are resolved by adjudicators.

In short, successfully bringing together buyers and sellers of cars is a complex enterprise facilitated by a wide range of market intermediaries. Many of these intermediaries were missing or underdeveloped in China when GM entered the market. The company had no choice except to collaborate with SAIC as a price for admission into the China market. The company’s main strategic choice was to replicate its U.S. business model in China instead of significantly adapting to the market. GM accepted the market context in China initially and then later sought to change it.

GM exploited its relative advantage as it entered the Chinese market by using its global brand, quality, and capabilities to target a narrow segment. The company built a first-class, global-quality facility in Shanghai to produce luxury Buick-branded cars for a market that was still quite poor.⁹ The venture was a big bet on the China market in general and the global segment in particular. Although panned by many observers at the time of its announcement, GM’s strategy proved to be a successful avenue because of the market’s institutional voids.

The Buick brand had a built-in advantage in China because of its long history in the country. Buicks had been popular among elites in China before the country’s 1949 revolution and retained their cachet nearly fifty years later when GM reintroduced the brand to newly prosperous Chinese customers.¹⁰ This ambient familiarity with the brand partially substituted for the missing information analyzers and advisers GM would rely on to build its brand in more developed markets.

GM’s focus on delivering global-quality products was a response in part to the changing context of information awareness in the country. The proliferation of Internet services gave a wider pool of potential customers access to information on car models marketed around the world, increasing demand for global-quality products in China, the company said.¹¹ However, because of voids—such as the lack of personal computers and limited Internet penetration—this information awareness did not extend far beyond the global market segment in 1997.

Market research, product design, and other intermediaries for tailoring products to customers were also underdeveloped in China at the time. Instead of adapting its products to its initial understanding of the Chinese marketplace, GM identified a market segment whose preferences were most aligned with its existing product base: executives of state-owned and foreign-invested enterprises, and government officials who could afford a luxury vehicle or whose vehicles were purchased by their employers. As of 2000, only 10 percent of GM’s customers in China were individuals; more than half were state-owned enterprises, joint ventures, or government entities.¹² The company tailored vehicles for the China market, adding features and styling to the rear seats to accommodate the preferences of the chauffeured passengers who were the vehicle’s target customers, but these modifications were relatively super-ficial.¹³ “We’re trying to strike a balance between global economies of scale and local-market adaptations,” said GM’s head engineer in China. “We used to let people change things too quickly, too easily. It’s human nature. If you can change it, you will.”¹⁴

To save on costs while still modifying models to meet local preferences, GM developed flexible platforms for its vehicles but restricted engineering and design changes to a certain “bandwidth” within those platforms.¹⁵ Within this bandwidth, GM also marketed vehicles in new ways, such as marketing a luxury version of a minivan as an “executive wagon” for chauffeured businesspeople and government officials.¹⁶ Such experimentation has been critical to the success of many multinationals in emerging markets. Deploying an existing product to a new market segment was a low-cost way for GM to exploit its relative advantage.

GM was also limited to the global segment early on because of institutional voids that prevented suppliers in the country from developing world-class capabilities and prevented GM from identifying and assessing potential partners. As part of its JV agreement, GM was required to source a significant percentage of car parts produced at the plant locally. It would take some time for the automaker to develop a highly efficient supply chain in China that could deliver high-quality but low-cost vehicles. The cheapest Buick model initially produced at the plant was listed at $38,000—$10,000 more than the comparable model in the United States, in a market with a per capita income that was a fraction of that in the United States.¹⁷

Perhaps because of these voids, Shanghai GM also established “all-inclusive” operations and replicated again by adopting GM’s global manufacturing system to ensure and certify—as a credibility enhancer—standardization, quality, speed, and improvement in its manufacturing process.¹⁸ At the time GM established its joint venture with SAIC in 1997, the company also established a joint venture—Pan Asia Technical Automotive Center—for automotive engineering and design, in one attempt to change the market context in technical training and expertise in China.¹⁹

The company later launched several other context-changing initiatives (see table 4-3). In 1999, GM started a wholly owned warehousing and trading company (later expanded beyond Shanghai) to serve GM operations in China, as well as other automakers, with parts distribution (and, by extension, certification of quality), warehousing, customs clearance, and other consulting services.²⁰ After catering to a segment of the market that could afford to pay cash for vehicles early in its engagement in China, GM set up an automotive finance joint venture, the country’s first to be approved and operational, in 2004.²¹ In 2008, GM established a cooperative R&D and technical training institute with Shanghai Jiao Tong University, filling voids in China’s educational infrastructure.²²

These initiatives were not unlike those undertaken by GM earlier in its history when its home market, the United States, was an emerging automotive market. The company established General Motors Acceptance Corporation (GMAC) in 1919 to fill voids in U.S. capital markets. GM’s founder, William C. Durant, wrote of the rationale for GMAC’s establishment, “The magnitude of the business has presented new problems in financing which the present banking facilities seem not to be elastic enough to overcome.”²³ The initiative served as a substitute for consumer lending by banks at the time. As with GM’s efforts to develop education and technical training in China, GM’s acquisition and development of what became the General Motors Institute in Flint, Michigan, filled voids in the U.S. education infrastructure.

GM has faced challenges in China, including competition from its JV partner, SAIC, which was helped by transferred technology and training by GM.²⁴ But delivering global-quality models with limited modification to targeted market segments enabled GM to establish a solid foothold and foundation for its business early in its engagement with China. As it expanded its portfolio of brands in the country to reach other market segments, GM undertook additional initiatives to fill institutional voids. In 2007, GM sold more than 1 million vehicles in China, accounting for 11 percent of its global sales by volume.²⁵

TABLE 4-3

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GM in China: Responding to institutional voids

Spotting voids question	Specific void	Response
Can consumers easily obtain unbiased information on the quality of the goods and services they want to buy? Are there independent consumer organizations and publications that provide such information?	Absent consumer information providers (product market information analyzers and advisers)	Replicated: Exploited lingering brand awareness of Buick from status in pre-1949 China
Can companies easily obtain reliable data on customer tastes and purchase behaviors?	Absent market research providers (product market information analyzers and advisers)	Replicated: Targeted segment with relatively known tastes and where information for small product modification could easily be acquired
Do consumers use credit cards, or does cash dominate transactions? Can consumers get credit to make purchases? Is data on customer credit-worthiness available?	Undeveloped credit system (product market transaction facilitators; information analyzers and advisers)	Early: Replicated: Targeted high-end and corporate segment that would not need to finance purchase Later: Attempted to change market context: Established China’s first automotive finance provider
Can companies access raw materials and components of good quality? Is there a deep network of suppliers? Are there firms that assess suppliers’ quality and reliability? Can companies enforce contracts with suppliers?	Limited intermediaries to identify and assess suppliers (factor market aggregators and distributors; information analyzers and advisers)	Adapted: Built first-class plant with all-inclusive production Attempted to change market context: Established technical center for design, engineering, and testing
How strong are the logistics and transportation infrastructures? Have global logistics companies set up local operations?	Underdeveloped hard and soft logistics infrastructure (product market aggregators and distributors)	Attempted to change market context: Established warehousing and trading operation
How strong is the country’s education infrastructure, especially for technical and management training?	Limited technical training institutions (labor market aggregators and distributors; credibility enhancers)	Attempted to change market context: Established cooperative technology institute with Jiao Tong University

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As GM headed toward bankruptcy in 2009—because of its operations and major losses in developed markets—the company’s business in emerging markets continued to grow. In 2008, GM’s sales in Brazil grew 10 percent, sales in China grew 6 percent, and sales in India grew 9 percent.²⁶ In China, the company maintained ambitious, “self-financing” growth plans, including the introduction of ten new models in the country over the next two years.²⁷ Some observers suggested that the “new GM” to emerge from restructuring might adopt a business model more like the company’s successful operations in emerging markets, emphasizing product experimentation, such as catering to lower price points and emphasizing fuel economy.²⁸

Replicate or Adapt? L’Oréal in India

Producers of discretionary consumer goods, such as French cosmetics company L’Oréal, depend on some of the same intermediaries as automakers like GM: product market information analyzers, advisers, aggregators, and distributors (retail chains instead of dealer networks), and transaction facilitators (credit cards instead of car loans).²⁹ In India, L’Oréal also faced the challenge of convincing customers to part with cash for truly new and unfamiliar cosmetics products in the absence of information intermediaries.

L’Oréal had successfully reached the mass market in the United States, but it did not initially appreciate the challenges of reaching the comparable segment in India in the face of institutional voids when it entered the market in 1991. L’Oréal introduced a shampoo in India, Garnier Ultra Doux, but localized the product only by eliminating certain ingredients and thus reducing its price. The product failed, because it offered nothing to differentiate itself from foreign and local competition. The company had offered a largely replicated product in a segment that required adaptation. Successful localization in emerging markets depends on adapting products and processes based on acquired local knowledge, and not simply reformulating products at a different price point.

L’Oréal later retooled its approach in India, repositioning itself as a higher-end brand in the mid-1990s. At that time, the company noticed and sought to understand the new and growing demographic of middle-class Indian women, many of whom were entering the country’s workforce. As it revamped its strategy for the market, L’Oréal drew on product market information analyzers and advisers, enlisting the help of advertising executives and foreign fashion magazine Elle, which entered the India market in 1996.

TABLE 4-4

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L’Oréal in India: Responding to institutional voids

Spotting void question	Specific void	Response
Can companies easily obtain reliable data on customer tastes and purchase behaviors? Do world-class market research firms operate in the country?	Absent market research providers (product market information analyzers and advisers)	Early: Replicated: Unsuccessfully attempted to replicate in segment where replication unrewarded Later: Replicated: Repositioned to segment where relative advantage could be exploited
Are customers willing to try new products and services? Do they trust goods from local companies? How about foreign companies?	Absent consumer information providers (product market information analyzers and advisers)	Early: Replicated: Didn’t compensate for void Later: Replicated: Used incoming foreign product market information analyzers and advisers
Do large retail chains exist in the country? If so, do they cover the entire country or only the major cities? Do they reach all consumers or only wealthy ones?	Low retail chain penetration (product market aggregators and distributors)	Attempted to change market context: Worked with salons to upgrade facilities, trained hairdressers

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Market research identified hair dyes as a promising product segment, because henna and ammonia, traditionally used by Indian women, had drawbacks and Western-style products were not prevalent. L’Oréal introduced its Excellence Crème in India at the same price as in Europe but marketed it as a luxury product. To reach the emerging middle-class segment successfully, L’Oréal attempted to change the market context by working with partners in the marketplace (see table 4-4). L’Oréal worked with shopkeepers to spruce up their shops—making them more like Western drugstores—and began training hairdressers (twenty thousand per year) to use its products in salons.

Excellence Crème and salon products helped L’Oréal’s India operations attain profitability starting in 2004. After establishing a successful foothold in the emerging middle-class consumer segment—a demographic that continues to grow in India—L’Oréal reintroduced products aimed at the local segment with its improved brand image. Still, according to the L’Oréal executive who oversaw the company’s strategic shift in India, “We don’t do poor products for poor people.”³⁰ When a large share of a market such as India remains poor, however, the company discovered the importance of targeting particular segments. Although different multinationals can find different opportunities in emerging markets—as shown by, for example, Hindustan Unilever’s success at the bottom of the market in India—L’Oréal found success only after it replicated its global model with customers who could afford to pay global prices.

Organizational Adaptation

Developed market-based multinationals need to consider not only adapting their offerings to local needs and preferences in emerging markets but also adapting their organizations to the business demands and institutional contexts of the emerging markets in which they operate. Adaptation can be a painful process for multinationals. Modification of products, business processes, and organizations can create organizational tension and stress a multinational’s core value proposition. An in-country operation might anticipate big growth opportunities from a modification that headquarters sees as eroding the company’s global brand. Alternatively, headquarters, desperate for growth, might expect too much from a product not tailored to the emerging market. The leadership of multinationals that invest and operate in emerging markets needs to think clearly about what in the company’s business model is open for modification and what is off the table—while understanding that the first time is very rarely the charm in these markets.

In light of these tensions, multinationals need to align their organizational structures and reporting lines with their strategies and goals for specific emerging markets. The organizational structures of subsidiaries in various emerging markets often evolve independently, with varying degrees of connection to headquarters. Connections between local subsidiaries and headquarters reflect priorities, but they can also impact performance. Emerging markets share common characteristics, and multinationals are well served by facilitating the transfer of knowledge about them across their organizations.

Motorola’s organizations in China and India, for example, reflect the variance in subsidiaries within multinationals. Motorola’s top management cultivated close ties to China’s top political leadership as it invested heavily in the country. As a result, the company’s headquarters was closely and directly involved in its China operations. The reporting lines of the company’s India operations, by contrast, wind through Singapore, and Motorola’s presence in the market has developed more slowly.³¹

The scale of opportunities in China and India pushed Microsoft to adapt its organization. The company’s Greater China and India operations were made subsidiaries independent of regional operations, reporting directly to headquarters. In addition, Microsoft established teams (the Emerging Segments Market Development Group and Market Expansion Group) based at its headquarters devoted to emerging markets more generally. These teams were devoted in part to helping the company fulfill the goals of the Beijing Declaration, an initiative announced by Bill Gates in 2007 to help expand global computer access dramatically from 1 billion people in 2007 to 2 billion in 2015. The scale of such an initiative and Microsoft’s unprecedented organizational response reflect the company’s deep commitment to building its business in emerging markets, because these markets—even in the face of such contextual challenges as piracy (as we discuss later in this chapter)—will be critical to its future.³²

Similarly, U.S.-based Cisco decided to establish its Globalization Center East in Bangalore, India, in 2007. The center is slated to house onefifth of Cisco’s top executives and ten thousand employees by 2011.³³ The importance of emerging markets should also be reflected in the composition of multinationals’ senior management and boards of directors. One large German multinational’s CEO noted concern over the lack of diversity in his company’s leadership in mid-2008. “The management board are all white males,” he said. “Our top 600 managers are predominantly white German males. We are too one-dimensional.”³⁴

A central organizational question for multinationals in emerging markets is when—and to what extent—they should localize the management of their operations in these markets. Relying on foreign managers to navigate unfamiliar business contexts poses obvious challenges. “Sending expats in is not a sustainable strategy because you make all of the cultural mistakes that it’s possible to make,” said one Microsoft executive. “In any country if you look at two direct competitors and see who has localized management first, you tend to see success correlations out there.”³⁵

However, expatriate management can bring certain benefits to multinationals. Reflecting on German wholesaler Metro Cash & Carry’s entry into India, one company executive said that with the benefit of hindsight he would choose to open operations with a non-Indian country manager. The interaction between an Indian country manager, for example, and the Indian government or other stakeholders will be bound up in complicated relational norms. “But if you have a leader [who is not constrained by local norms], then you already get out of a lot of problems,” the executive said. “It’s like Forrest Gump. You don’t see these problems. It’s a very good approach, but it has to be done with politeness, not with arrogance. With a certain Forrest Gump approach, it goes much easier. But a local person sees more complexity.”³⁶

There are benefits and costs to either expatriate or local management. Local personnel often have better market information but more complicating entanglements, whereas the contextual unfamiliarity of expatriate management can be an asset or liability. Multinationals need to think carefully about which approach would work best for their business in particular emerging market contexts—and decide how to offset the costs of either approach.

Compete Alone or Collaborate? Microsoft in China

Microsoft faced intellectual property-related institutional voids in emerging markets so pervasive that they threatened to undermine its business in these markets.³⁷ When Microsoft began its engagement with China in the early 1990s, for example, piracy prevailed at a rate of 98 percent—the highest in the world—and stifled the company’s ability to build a viable business by reaching paying customers. Adaptation was necessary but not sufficient for Microsoft to build a business in China. The company was compelled to collaborate with local firms and other stakeholders and work to be seen as a partner in progress.

When Microsoft first entered China, the company attempted to compete alone by developing its own Chinese-language version of Windows at a software development facility in Taiwan. When the company introduced the product in 1993, the Chinese government promptly blacklisted it for failing to meet mainland software standards. Microsoft sold fewer than twenty thousand copies in its first year.

Chastened by this initial failure, Microsoft found that it could not thrive in China without adapting to engage more effectively with relevant Chinese stakeholders and work around the market’s profligate piracy. After extensive negotiations with the Ministry of Electronics Industry, Microsoft adopted a more cooperative approach in 1994 and began to codevelop a localized version of Windows with a major Chinese software vendor. Microsoft also established joint ventures with six other local software vendors to work on future software development projects.

Piracy still prevented Microsoft from producing significant revenue despite the huge scale of opportunities in the market. When Microsoft raised the piracy issue with the Chinese government, the government asked how Microsoft could help China develop its domestic software industry. Recognizing the importance of the China market but also the need to confront its contextual barriers and build relations with government and other stakeholders, in 1998 Microsoft launched a new engagement with China that emphasized changing the market context by aiding the development of China’s domestic software and IT sectors through alliances and investments in educational and research initiatives. As Newsweek noted, “China is more likely to fight pirates if it has its own software industry.”³⁸ Localizing its operations through partnerships with stakeholders and investing in the development of China’s software industry helped Microsoft build the institutional support it needed to develop its business in the market.

Microsoft also sought to address piracy through adaptation. The company introduced differentiated versions of products to meet local price constraints and potentially help confront piracy. Windows Starter edition, for example, was introduced as a simple, low-cost product for first-time PC users. By offering the product at a price within reach of lower-income consumers in emerging markets, Microsoft hoped to reduce demand for pirated versions of the software. The company has also experimented with subscription-based offerings and cheap software packages for students to introduce—and hopefully instill—the brand among new segments and generations of customers. These efforts substituted for the absence of consumer credit for low-income customers.

To piggyback on the explosive growth of cellular phones in China and India and to expand access to basic PC applications to customers who did not own conventional PCs, Microsoft developed FonePlus, a “starter edition” of Windows Mobile. The product offers some PC capabilities on a cellular phone, which can then be linked to a television and used as a basic home computer with external keyboard. Microsoft has viewed experimentation as essential to the company’s adaptation to the contexts and preferences of emerging markets, as one company executive has noted:

Lecturing the government about the problems posed by intellectual property rights (IPR) infringement did not work. Instead, Microsoft joined with local partners, positioned itself as a partner in progress, and pursued experimental adaptations such as differentiated pricing (see table 4-5). Microsoft worked to develop research and development capabilities with local talent in China, exploiting the country’s factor markets where it could work around institutional voids and also offer jobs and training to the market—a positive proposition for the country’s government and a seed of public support for Microsoft.

TABLE 4-5

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Microsoft in China: Responding to institutional voids

Spotting void question	Specific void	Response
What restrictions does the government place on foreign investment? Are those restrictions in place to facilitate the growth of domestic companies, to protect state monopolies, or because people are suspicious of multinationals?	Foreign companies not treated even-handedly by regulators (regulators)	Collaborated: Codeveloped localized version of Windows with local software firm
Can companies access raw materials and components of good quality? Is there a deep network of suppliers? Are there firms that assess suppliers’ quality and reliability? Can companies enforce contracts with suppliers?	Limited expertise in domestic software industry (aggregators and distributors; credibility enhancers)	Collaborated: Invested in the development of Chinese software industry
Do consumers use credit cards, or does cash dominate transactions? Can consumers get credit to make purchases? Is data on customer creditworthiness available?	Limited access to credit for cash-strapped customers (transaction facilitators)	Adapted: Experimented with subscription model, differentiated versions of products
Do the laws articulate and protect private property rights?	Intellectual property rights not protected (regulators)	Attempted to change context: Offered seminars on IPR law, scholarships for law students focusing on IPR law

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Although piracy remains a significant challenge, Microsoft has found some success in confronting it in China by stimulating the local industry. Instead of public rebukes, Microsoft has also drawn attention to IPR issues through seminars and attempts to address the problem by offering scholarships to law students in emerging markets who focus on IPR law.

Although these context-changing initiatives may be long-term propositions, they have been important efforts for Microsoft to be seen as a partner in progress. One company executive reflected on Microsoft’s engagement with emerging markets:

Microsoft has needed to be patient given the persistence of the voids surrounding IPR violations and has needed to be sensitive to the local context; “Nobody wants to be told that we’re a country of pirates,” one company executive noted.⁴¹ It has also found the need to be open to adaptation, experimentation, and collaboration to manage institutional voids in emerging markets such as China.

GE Healthcare in Emerging Markets

Starting in 1997, GE Healthcare (then called GE Medical Systems) began moving production and sourcing for its diagnostic imaging and other medical equipment to emerging markets, with the goal of incorporating lower-cost components and products into standard global lines, initially for export.⁴² To replicate global-quality products from factories in emerging markets, GE needed to collaborate closely with local supply chains.

GE Healthcare enlisted outside suppliers to produce a large share of the components used in its sophisticated diagnostic imaging and other medical equipment. “Because we buy so many things, the game for us is very much a supply-chain game and not a manufacturing game,” said one company executive.⁴³ GE produced the proprietary “crown jewels,” and inputs from other suppliers constituted some $2 billion of the company’s $2.3 billion variable manufacturing costs. By shifting this sourcing to lower-cost emerging markets, GE could save a great deal of money.

Finding suppliers in these markets—particularly those capable of meeting GE’s exacting quality standards for technically complex parts and subassemblies—was a challenge because of institutional voids, particularly missing information analyzers and advisers and credibility enhancers. “You just can’t go to the local chamber of commerce in India or China and find workable suppliers,” said one company executive. “It must be a long-term strategy.”⁴⁴

To replicate the quality and sophistication of products made in developed markets, GE Healthcare deployed sourcing and quality teams from existing facilities to work closely with new suppliers to ensure seamless transitions. These collaborations were time- and resource-intensive efforts. When working with Bharat Electronics Ltd. of India, for example, GE sent a sourcing team of twenty engineers (spending 25 percent of their time with the company) and a quality team of seven GE employees (allocating half of their time to the company). GE also trained the senior management of Bharat Electronics in six sigma. The company’s training and certification of vendors filled the void of credibility-enhancing institutions. GE’s relationship with Bharat Electronics, as with other suppliers, evolved from sourcing simpler to more sophisticated components. Although GE did not finance its suppliers, GE’s business signaled credibility in the capital markets of emerging economies, often helping suppliers get financing through other avenues.

GE’s collaboration in emerging markets also took the form of investing in educating end users and regulators on the diagnostic health care enabled by its products—a marketing initiative, to be sure, but also an effort to position the company as a partner in progress. One company executive described the initiative this way:

Collaboration in emerging markets was not without challenges for GE Healthcare. In China, for example, GE had established joint ventures and partnerships with manufacturers that were part of the country’s health regulatory agencies. “In one joint venture,” one company executive explained, “the partner firm would receive orders for equipment, and then service the orders from its separately and wholly owned factory, thus cutting us out. We couldn’t stop this practice. So we had to renegotiate.”⁴⁶ GE later acquired full ownership of two of these ventures and 90 percent of the third. As GE Healthcare built more-sophisticated operations on the ground in emerging markets, it needed to adapt to the institutional void of underdeveloped intellectual property regimes, as one company executive noted:

Close collaboration enabled GE Healthcare to produce global-level quality products in emerging markets. Successfully executing these collaborations required the company to fill and adapt to institutional voids (see table 4-6).

TABLE 4-6

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GE Healthcare in emerging markets: Responding to institutional voids

Spotting void question	Specific void	Response
Can companies access raw materials and components of good quality? Is there a deep network of suppliers? Are there firms that assess suppliers’ quality and reliability? Can companies enforce contracts with suppliers?	Low standards and undeveloped certification (factor market information analyzers and advisers; credibility enhancers)	Collaborated: Became information analyzers and credibility enhancers by bringing six sigma training to supply chain
Would a company be able to enforce employment contracts with senior executives? Could it protect itself against executives who leave the firm and then compete against it? Could it stop employees from stealing trade secrets and intellectual property?	Underdeveloped intellectual property rights regime (labor market regulators)	Adapted: Used stock options and other devices to reduce risk of IPR loss through employees

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Later in its engagement with emerging markets, GE Healthcare shifted its strategy from exploiting emerging market inputs for exported products to serving the domestic markets of these economies. As it moved toward this new “In Country For Country” model, GE Healthcare adapted products to local needs and thus was compelled to acquire local capabilities. GE introduced an “economy” CT scanner in China, for example, costing one-third of the price of a CT scanner sold in the United States. “People in the U.S. can’t design a low-end product for China,” said one company executive. “They will add needless bells and whistles and they just won’t get it right. Similarly, China can’t design a product for the Mayo Clinic.”⁴⁸

Some of GE Healthcare’s adaptations and experiments in emerging markets may even migrate back to developed markets. Under GE’s “healthy-magination” initiative—announced in 2009—the company plans to focus on health-care needs in emerging markets and underserved areas in developed countries. GE has allocated $3 billion over six years for R&D of low-cost health-care equipment. Cost-cutting by U.S. hospitals has hurt GE Healthcare’s sales of expensive MRI and CT machines but may offer new opportunities for adoption of products like the CT scanner developed for China or the portable electrocardiograph machines developed for India.⁴⁹

Accept or Attempt to Change Market Context? McDonald’s in Russia

For any multinational with the ambition to reach beyond the narrow global segment in emerging markets, it is necessary to adapt to the local context or work to augment capabilities through collaboration or context-changing initiatives.⁵⁰ One executive of a major Turkish business group described the challenges for multinationals that have entered his home country and encountered institutional voids without any form of adaptation:

In fact, the operations of McDonald’s itself in emerging markets illustrates this principle. Although the fast food chain has been able to deliver a relatively standard output in markets around the world—while occasionally adapting its menu to local tastes—it has done so only by tailoring its inputs to the institutional voids in the markets in which it has operated.

TABLE 4-7

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McDonald’s in Russia: Responding to institutional voids

Spotting void question	Specific void	Response
Can companies access raw materials and components of good quality? Is there a deep network of suppliers? Are there firms that assess suppliers’ quality and reliability?	Limited access to capital and limited expertise in supply chain (aggregators and distributors; transaction facilitators)	Attempted to change market context: Built McComplex; financed and worked to improve capabilities of suppliers
What kind of product-related environment and safety regulations are in place? How do the authorities enforce regulations?	Limited standards (credibility enhancers)	Attempted to change market context: Instituted training programs for service and quality standards
How strong is the country’s education infrastructure, especially for technical and management training?	Limited agriculture management training (labor market aggregators and distributors)	Attempted to change market context: Imported agriculture specialists to train farmers
How strong are the logistics and transportation infrastructures? Have global logistics companies set up local operations?	Underdeveloped hard and soft infrastructure for logistics (product market aggregators and distributors)	Attempted to change market context: Established own trucking fleet

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In the United States, McDonald’s outsources most of its supply chain operations. When the fast food franchise tried to move into Russia in 1990, however, it was unable to find adequate local suppliers, in large part because of institutional voids (see table 4-7). The chain asked several of its European vendors for their assistance, but they were not interested in taking on the regulatory and other challenges posed by the Russian market.

Instead of giving up, McDonald’s decided to tackle the local supply chain voids on its own, working to change the market context in service of its business to an even greater extent than the other examples in this chapter. With the help of its joint venture partner—the Moscow city administration—the company identified Russian farmers and bakers as additional partners. It imported cattle from Holland and russet potatoes from the United States, brought in agricultural specialists from Canada and Europe to improve the farmers’ management practices, and advanced the capital streams to farmers so that they could invest in better seeds and equipment.

Next, the company built a 100,000-square-foot McComplex in Moscow to produce beef, ketchup, mustard, Big Mac sauce, and bakery, potato, and dairy products. It set up a trucking fleet to move supplies to restaurants and financed its suppliers so that they would have enough working capital to buy modern equipment. The company also brought in some fifty expatriate managers to teach Russian employees about its service standards, quality measurements, and operating procedures, and it sent a team of twenty-three Russian managers to Canada for a four-month training program.

In response to institutional voids, McDonald’s created a vertically integrated operation in Russia, but the company clung to one principle: it would sell only hamburgers, fries, and soda to Russians in a clean environment—fast. The strategy paid off. Fifteen years after serving its first Big Mac in Moscow’s Pushkin Square, McDonald’s had invested more than $250 million in the country and controlled 80 percent of the Russian fast food market.

Accept or Attempt to Change Market Context? Monsanto in Brazil

Like Microsoft, U.S.-based Monsanto faced contextual challenges in Brazil so serious that they threatened to undermine the company’s business.⁵² In response, Monsanto worked actively to change the market context. Monsanto was a pioneer in developing biotechnology for the agricultural sector, creating products such as seeds that could increase crop yields, exhibit particular desired characteristics (in fewer generations than in traditional agronomy), and resist plant pathogens.

In the United States, the company relied on a sophisticated soft infrastructure to develop and protect its technology. Monsanto’s research and development operations relied on a robust education and technical training infrastructure to identify, sort, and train employees and identify capital markets that could support the long time horizon of new product development. After selling its sophisticated seed varieties, Monsanto relied on intellectual property rights protections, either through patenting genetically modified plants, obtaining plant variety protection certificates from the U.S. Department of Agriculture (or, in some cases, both), and then licensing use to farmers. In the United States, as in other developed markets, Monsanto could turn to the well-developed court system—adjudicators, in the taxonomy of market intermediaries—to resolve disputes and enforce protections, such as filing suits against growers who replanted seeds without paying new license fees.

Monsanto’s developed market-made technology had a compelling value proposition in developing countries, where farmers were competing in global markets without local substitutes for technology such as Monsanto’s seeds—in part the result of institutional voids in technical training and high-tech expertise. Demand for this technology in emerging markets presented Monsanto with tremendous business opportunities, but many of these markets lacked the sophisticated soft infrastructure to protect its technology.

As the world’s largest soybean exporter, Brazil was a promising market for Monsanto’s Roundup Ready soybean seeds, which were genetically engineered to resist—and thus intended to be used in conjunction with—the company’s Roundup herbicide. The product was a blockbuster success in the United States—planted in 50 percent of the country’s total soybean area in three years—and Monsanto sought to introduce it in Brazil only one year after its U.S. debut.

The company received a patent for Roundup Ready soybeans in Brazil as well as approval for commercial sale from the country’s biosafety commission in 1998, but objections from both environmental and peasant groups—and a subsequent injunction from a local judge—put the product in legal limbo. Although the court order made it illegal for Monsanto to sell its Roundup Ready soybeans in Brazil, the product was widely used in southern Brazil, where farmers purchased smuggled seeds from Argentina. Monsanto tried to approach the problem through government relations but succeeded only when it worked to change the context (see table 4-8).

TABLE 4-8

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Monsanto in Brazil: Responding to institutional voids

Spotting void question	Specific void	Response
Are the country’s government, media, and people receptive to foreign investment? Do citizens trust companies and individuals from some parts of the world more than others?	Objections from peasant groups fearful of multinational role in agriculture	Attempted to change context: Launched major communication effort to farmers
Do the courts adjudicate disputes and enforce contracts in a timely and impartial manner? How effective are the quasi-judicial regulatory institutions that set and enforce rules for business activities?	Slow resolution of legal matters, including the legal limbo of Monsanto’s Roundup Ready soybean seed (adjudicators)	Attempted to change market context: Borrowed global market institutions
Do the laws articulate and protect private property rights?	Underdeveloped intellectual property rights enforcement regime (regulators)	Attempted to change market context: Devised point of delivery (POD) system to collect on technology and “borrowed” intellectual property protections in destination markets in Europe
How effective are the country’s banks, insurance companies, and mutual funds at collecting savings and channeling them into investments?	Limited access for farmers to capital and insurance (aggregators and distributors; transaction facilitators)	Attempted to change market context: Became risk-sharing partner and credit provider, in effect, through POD program

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Monsanto challenged the injunction, but institutional voids in Brazil’s court system delayed adjudication. In the face of legal and regulatory uncertainty—and pressure from U.S. customers complaining about their Brazilian competitors using the smuggled seed—Monsanto looked to devise a way to collect on its technology. Because Monsanto was barred from selling Roundup Ready soybeans and collecting payment up front, the company sought to collect payment after harvest. The company developed a point of delivery (POD) collection system, which charged farmers an indemnification fee, clearing them of future legal challenges to their unlicensed use of the Roundup Ready patented technology.

Executing this system required Monsanto to engage and incentivize relevant stakeholders and borrow market institutions based outside Brazil. The primary customers of the Brazilian farmers using Roundup Ready were large developed market-based multinationals such as Archer Daniels Midland (ADM), Bunge, and Cargill. Monsanto told these companies that it would collect on its technology, even through customs enforcement in destination markets in Europe if necessary. This threat was credible only because Roundup Ready was patented both in Brazil and in Europe.

However, “borrowing” developed market institutions in this way was not sufficient for Monsanto to collect on Roundup Ready. The company succeeded only by convincing the farmers that POD would fill a void for their businesses. As one company executive described it, “The breakthrough came when we sat down with the farmers’ groups and the cooperatives. We explained that since we were collecting at harvest, we would actually be sharing in both the production risk and the price risk.”⁵³

Farmers using Roundup Ready paid only for what they produced in the POD system. By offering to share in the risks of farming, Monsanto exploited its relative advantage as a large multinational that could afford to do so. Monsanto also served as a de facto credit provider for farmers by charging farmers who self-declared their use of Roundup Ready a lower price than farmers were charged in the United States. (Farmers who volunteered that they used Roundup Ready seeds were charged a lower indemnification fee than those who did not volunteer but whose produce tested positive for the presence of Roundup Ready seeds.)

Starting in January 2004, Monsanto enlisted the grain companies such as ADM, Bunge, and Cargill to serve as collection agents for POD at their elevators and in turn gave them a share of the proceeds. The POD initiative required a major effort in communication and negotiation with the grain companies and elevators, but it worked: some 95 percent of farmers self-declared in the first year.

In the face of pervasive institutional voids—lack of enforcement of intellectual property rights (IPR) protection and slow adjudication of disputes in the court system—Monsanto devised a creative solution to collect on its Roundup Ready technology. Although the idea of collecting at harvest was not new, Monsanto successfully executed this approach by engaging—and getting buy in from—stakeholders all along the value chain. When the context changed and the Brazilian government approved the sale of the seed, Monsanto set up a dual system, allowing farmers to pay either up front or at the time of harvest, and giving incentives for farmers to pay earlier.

POD was devised as a response to specific contextual features. In Argentina, for example, Monsanto was unable to secure a patent for Roundup Ready, so the company had no legal basis to enforce its claims as it did in Brazil. Nonetheless, Monsanto’s response to institutional voids in Brazil illustrates a creative attempt to change the market context by ultimately compelling IPR, which did not exist prior to that time.

Enter, Wait, or Exit?

All the developed market-based multinationals discussed in this chapter chose to enter emerging markets in spite of institutional voids. In several cases, this was a strategic decision based on the benefits of early-mover advantage. Early entry was important to GE Healthcare in China, for example, not only because of the market’s fast growth but also because of the importance of building customer brand allegiance and government relations in the country’s still-nascent health-care sector. One company executive explained: “You go to China right now because you want to influence future decision making in that health-care market, both at a macroeconomic level of working with the government, which we certainly do, but also at a micro level of teaching physicians how to use your equipment, working with nurses on how they can use patient monitoring to save lives . . . It’s at that level that you’re trying to get in and get in early.”⁵⁴ Through these efforts, GE Healthcare sought to lay the foundation for future demand.

Microsoft’s business is similarly dependent on shaping market context. By working to build the ecosystem of local partners—such as software developers and vendors, hardware producers, and systems integrators—the company sought to establish itself as a standard platform in emerging markets. Just as Google became dominant in online search engines by developing the ecosystem around its business, one Microsoft executive noted, multinationals in emerging markets can establish dominant positions by investing time and resources as early movers:

As many of the examples in this chapter illustrate, institutional voids can be painful for developed market-based multinationals operating in emerging markets. Adaptation, collaboration, and context-changing initiatives to compensate for voids can be difficult and expensive propositions. Emphasizing opportunities elsewhere by waiting to enter or exiting an emerging market is an option for multinationals facing difficult institutional voids. We consider these options in the examples of The Home Depot in emerging markets and Tetra Pak in Argentina.

Enter, Wait, or Exit? The Home Depot in Emerging Markets

The Home Depot, the U.S.-based do-it-yourself home improvement retailer, has been cautious about entering emerging markets. The company offers a specific proposition to customers in the United States: low prices, great service, and good quality. To deliver on this proposition, The Home Depot relies on a variety of U.S.-specific institutions. It depends on U.S. highways and logistical management systems to minimize the amount of inventory it has to carry in its large, warehouse-style stores. It relies on employee stock ownership to motivate shop-level workers to offer top-notch service. And its value proposition takes advantage of the fact that high labor costs in the United States encourage homeowners to engage in do-it-yourself projects.

The absence of these contextual features in emerging markets challenged the company’s ability to replicate its business model. In emerging markets with poorly developed capital markets, for example, the company might not have been able to use employee stock ownership as a compensation tool. Similarly, in markets with poorly developed physical infrastructure, The Home Depot might have had difficulty using its inventory management systems—a core competitive advantage in North American markets. In markets with relatively low labor costs, the target customer might not have been the homeowner but rather contractors serving as intermediaries between the store and the homeowner, requiring a different approach to marketing and other business operations.

The company made a tentative foray into emerging markets by setting up two stores in Chile in 1998 and another in Argentina in 2000. In 2001, however, the company sold those operations for a net loss of $14 million. At the time, the company’s management emphasized that most of The Home Depot’s future growth was likely to come from North America. After exiting the markets, The Home Depot switched from a greenfield strategy to an acquisition-led approach—discovering the value of collaboration after its failed initial attempts to compete alone. In 2001, The Home Depot entered Mexico by buying a home improvement retailer, Total Home, and the next year it acquired Del Norte, another small chain. By 2004, the company had forty-two stores in Mexico.

China presented tremendous opportunities for companies such as The Home Depot because of the country’s fast-growing home improvement market. Perhaps chastened by its experience in Chile and Argentina, The Home Depot took its time evaluating options to enter China. “We’re going to make the prudent decision,” said one company executive in 2006. “We’re going to make sure we have the right business model.”⁵⁶

In addition to the general contextual challenges, The Home Depot would face other institutional voids in China. Housing in the country was sold as concrete shells, requiring more extensive home improvement than most of the do-it-yourself projects its U.S. customers pursued. B&Q of the United Kingdom and other home improvement stores in China were staffed with workers to install packages.⁵⁷ Replicating this model would have been difficult for The Home Depot in light of labor market institutional voids. In 2006, The Home Depot acquired Home Way, a chain in China that had replicated The Home Depot’s model, even copying the company’s familiar orange aprons.⁵⁸ Whether The Home Depot can catch up to B&Q, which entered China early and adapted its model aggressively, remains to be seen. The Home Depot’s approach to emerging markets after its early stumbles illustrates that waiting is an option for developed market-based multinationals still looking for the right approach to match their business models and capabilities to the contextual challenges of emerging markets (see table 4-9).

TABLE 4-9

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The Home Depot in emerging markets: Responding to institutional voids

Spotting void question	Specific void	Response
How strong are the logistics and transportation infrastructures? Have global logistics companies set up local operations?	Underdeveloped hard and soft logistics and distribution infrastructure	Early: Waited: Emphasized opportunities elsewhere because unable to replicate Later: Collaborated: Shifted strategy to grow by acquisition

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Enter, Wait, or Exit? Tetra Pak in Argentina

In part because of institutional voids, such as regulatory voids and lack of information on the risk exposures of companies and of the broader economy, emerging markets are particularly prone to financial, political, and other forms of crises.⁵⁹ Under these circumstances, some multinationals have simply emphasized opportunities elsewhere by beating a hasty retreat. However, multinationals are often better positioned to bear the pain of crises than domestic companies because of access to capital and other resources from headquarters. Multinationals with a long-term outlook on an emerging market in crisis can exploit relative advantage to sustain and build their operations in the midst of turmoil.

Consider the approach of Swiss firm Tetra Pak during the financial crisis in Argentina in 2001–2002. Tetra Pak sells aseptic packaging materials, and the machinery to fill them, for beverages (such as milk cartons and juice containers) and for other liquid foods (such as tomato paste and ice cream). Because the company’s packaging enabled even perishable beverages to be transported and stored without refrigeration, its products helped fill the void of undeveloped cold chain distribution in developing countries. Tetra Pak offered world-class technology, scale, and a global supply chain to bring more efficiency to the food and beverage sector in Argentina, where agriculture and viticulture were major industries. The financial crisis strained the company’s model, but Tetra Pak adapted to remain in the country, exploiting its capabilities as a multinational (see table 4-10).

Soon after Argentina went into sovereign default in December 2001, the Argentine government devalued the peso asymmetrically. As a result, receivables denominated in U.S. dollars were slashed to 30 percent of their previous U.S. dollar value, and the U.S. dollar value of import obligations was unchanged. Credit and consumption collapsed, and prices surged upward. In the midst of the crisis, 50 percent of Argentina’s population had fallen below the poverty line and the unemployment rate had risen to more than 20 percent.

Tetra Pak had withstood macroeconomic crises in emerging markets before. The company had lost two-thirds of its business in Argentina when the country faced an earlier crisis in 1989, although Tetra Pak’s operations in the country were small at the time. The lesson Tetra Pak drew from these crises, according to one company executive, was, “Don’t change your culture because it pays. We stayed in Mexico. We stayed in Russia. It pays, but let’s try to manage it a bit more professionally to see how we can mitigate the losses. We will have losses, but we can mitigate them.”⁶⁰

TABLE 4-10

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Tetra Pak in Argentina: Responding to institutional voids

Spotting void question	Specific void	Response
How strong are the logistics and transportation infrastructures? Have global logistics companies set up local operations?	Absent cold chain distribution (product market aggregators and distributors)	Attempted to change market context: Sold goods that substituted for voids in cold chain
What kind of product-related environment and safety regulations are in place? How do the authorities enforce regulations?	Underdeveloped product safety regulatory regime (credibility enhancer)	Replicated: Brought world-class technology and global brand, signifying quality
Is it difficult for multinationals to collect receivables from local retailers?	Asymmetric devaluation and economic crisis rendered contracts unenforceable	Stayed: Renegotiated contracts with customers, substituting, in effect, for insurance companies

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The company first looked at the fundamentals of the market in Argentina—such as the fact that it is one of the lowest-cost milk producers in the world and among the highest per capita consumers of wine—and decided that it should stay in the market irrespective of the crisis. “Different from firms, countries may go bust, but they don’t die,” said one company executive. “They always come back again. A company can go bust, and then you lose all your money. Usually in a country, you always have a second chance. Up to now, it has always proved right for us.”⁶¹

Beyond the losses from Argentina’s general economic turmoil, the asymmetric devaluation put Tetra Pak in a particular pickle. Tetra Pak’s business model globally was predicated on long-term relationships with suppliers as well as customers. To maintain its reputation for product safety and quality, Tetra Pak set strict specifications for its input supplies, and these were most easily and consistently met by long-term partners. In all markets, Tetra Pak served as a credibility enhancer, substituting for underdeveloped product safety regimes.

For its customers, Tetra Pak was a packaging systems provider and not a producer of commoditized cartons. The company supplied sophisticated proprietary filling machines for processing and packaging liquid foods. Tetra Pak thus invested in customers’ value chains but derived its real returns from sales of the packaging materials. The asymmetric devaluation cut Tetra Pak’s receivables to one-third their value, in U.S. dollar terms. Tetra Pak’s sales contracts contained a U.S. dollar conversion clause, but the clause was not practically enforceable in the midst of Argentina’s crisis as the company’s customers—with peso-denominated incomes but without currency-hedging contracts—struggled to keep their own businesses afloat. “Different from a country, a customer goes bust, and you can kill him. He can never come back,” said one company executive. “So the important thing is to identify—the same way we identify the countries we want to stay in—which of the customers you want to protect.”⁶²

Within each category, Tetra Pak identified the customers and partners essential to its business and negotiated workable arrangements to continue their relationships. Payments owed to Tetra Pak were refinanced long term, an option enabled only by the company’s financial position and support from headquarters.

Managing through the crisis in Argentina required Tetra Pak not only to reorient its financial bearings but also to conscientiously communicate to stakeholders—customers, suppliers, banks, employees—the company’s commitment to remain in the country. The company did not lay off any employees, cancel any training programs, or alter its recruitment process through the crisis. “We bet on the country,” said one company executive. “We knew we wanted to stay in the country, and the country would recover. We even moved to better offices. It was a strong message that we are here for the long term.”⁶³

Multinationals have unique capabilities that they often can exploit during times of crisis in emerging markets. Although exiting in the face of such contextual challenges is tempting, recommitting to markets undergoing strain can position multinationals for longer-term success.

Managing Voids and Growth in Emerging Markets

Developed market-based multinationals that enter and operate in emerging markets inevitably face institutional voids and have a range of choices to respond to them (see toolkit 4-1). None of the companies discussed in this chapter cracked emerging markets without difficulty, and all of them required experimentation to find the appropriate combination or sequence of approaches to align their businesses with the unique contexts of these markets. Multinationals should be open to and supportive of experimentation as they align themselves with institutional contexts and seek out competitive advantage in these markets.

In addition to these choices, multinationals must face the competitive challenge posed by what we call emerging giants: emerging market-based firms that have an intimate understanding of their home markets’ institutional contexts and that are building globally competitive organizations—the subject of the next two chapters.

Toolkit 4-1
Toolkit for Multinationals in Emerging Markets

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1. Self-Assessment

A. Business Model

What is the core of our business model?

What is changeable?

B. Home Market Institutions

What market institutions does my business model most depend on in my home market?

Which are core?

Which are transferable?

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		Most critical market institutions for business model in home market
Taxonomy of institutional infrastructure	Function	Capital market	Product market	Talent market
Credibility enhancers	Third-party certification of claims by suppliers or customers
Information analyzers and advisers	Collect and analyze information on producers and consumers in a given market
Aggregators and distributors	Provide low-cost matching and other value-added services for suppliers and customers through expertise and economies of scale
Transaction facilitators	Provide a platform for exchange of information, goods, and services and provide support functions for consummating transactions
Regulators and other public institutions	Create and enforce the appropriate regulatory and policy framework
Adjudicators	Resolve disputes regarding law and private contracts

2. Emerging market assessment

A. Defining the opportunity

What is the opportunity for us in this emerging market?

B. Market segmentation

What are the segments within this market opportunity?

What segments do we plan to target?

C. Spotting institutional voids

Using the “spotting institutional voids” toolkit, what are the institutional voids in this emerging market (and within these segments)?

Which institutional infrastructure that we identified as critical in our home market is missing in this emerging market?

How might this emerging market’s institutional voids affect our ability to access our target market segments?

3. Responding to the institutional context

Using the following framework, how should we respond to the institutional voids we have identified in this emerging market?

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Strategic choice	Options for multinationals from developed markets
Replicate or adapt?	Replicate business model, exploiting relative advantage of global brand, credibility, know-how, talent, finance, and other factor inputs. Adapt business models, products, or organizations to institutional voids.
Compete alone or collaborate?	Compete alone. Acquire capabilities to navigate institutional voids through local partnerships or JVs.
Accept or attempt to change market context?	Take market context as given. Fill institutional voids in service of own business.
Enter, wait, or exit?	Enter or stay in market in spite of institutional voids. Emphasize opportunities elsewhere.