Seven

The Emerging Arena

EMERGING MARKETS HAVE GARNERED news headlines and have figured prominently in the strategies of companies and investment funds of all stripes because of their emergence. The liberalization, growth, and development of these economies have lifted millions out of poverty and have created attractive new markets for firms and investors. Many of these markets are already among the world’s largest economies and are poised to be critical drivers of the world economy in coming decades. The current economic crisis engulfing the United States, Europe, and Japan has only strengthened the potential attractiveness of emerging markets as a source of growth for many Western multinationals and investors.

Noting the emergence of these economies is important and interesting but not particularly actionable. Throughout this book, we have tried to show that companies need to understand and respond to the emergingness of emerging markets—the persistent institutional voids embedded in their market structures—to craft strategies and operate successfully in these economies. Whether filling voids as entrepreneurial opportunities, moving from a developed market base into an emerging market, building a company based in an emerging market, or building a multinational from a base in an emerging market, companies operating in or out of emerging markets need to match their strategies to the markets’ institutional contexts.

This structural view of emerging markets has different implications for entrepreneurs, for multinationals based in developed markets, and for domestic companies looking to position themselves in their home markets and build themselves into multinationals in their own right. As a first step, however, all these companies need to audit the institutional context of the emerging markets in which they operate or invest. Chapter 2 and toolkit 2-3 point to many of these voids. Voids exist in the product, labor, and capital markets of emerging economies—and different emerging markets feature different combinations of voids. Politics, history, and culture undergird and shape both the nature and stickiness of institutional voids. Businesses need to understand the role these forces play in determining institutional context.

The process of identifying voids also points to entrepreneurial opportunities to fill those voids, as we discuss in chapter 3. Because institutional voids carry costs for companies operating in emerging markets, filling them adds value. Developed markets rely on a wide range of intermediaries, many of which are private sector entities. Transactions in developed product, capital, and labor markets are facilitated by information analyzers and advisers, aggregators and distributors, transaction facilitators, credibility enhancers, regulators, and adjudicators. Local and foreign companies have built significant businesses by filling these intermediary roles in emerging markets.

This taxonomy of market intermediaries can help entrepreneurs and companies identify opportunities to fill voids. Intermediary-based businesses face a set of questions as they execute these opportunities:

• What segment can we reach? Institutional voids present tremendous opportunities to entrepreneurs in theory, and these opportunities attract competition. Blue River Capital differentiated itself from other risk capital providers in India by targeting what it identified as an underserved segment—middle-market family-and entrepreneur-run businesses. As in many examples in this book, the institutional voids in the segment were also a source of opportunity. Serving the segment required Blue River to tailor its investment process and even fill voids in service of its business.
• How do we need to adapt this intermediary-based business to the local context? The experience of online auction site Deremate in Argentina illustrates the challenges of transferring intermediary concepts from developed to emerging markets. Deremate sought to replicate eBay’s model, but that model was built on a market infrastructure that was not as well developed in Argentina when Deremate debuted, forcing Deremate to adapt its model.
• How can we expand into adjacent intermediary services and move up the intermediation value chain? Intermediaries can evolve their models into related opportunities. After starting out as a deal-brokering transaction facilitator between Chinese factories and Western firms, Li & Fung grew to take on a wide range of intermediary functions, enabling the firm to move up the value chain as it offered more value-added services to its clients.
• What vested interests are we displacing or might we encounter as we seek to fill this void? Intermediaries need to be conscious of stake-holders that might be displaced by their efforts to change market context, as Metro Cash & Carry found when it brought its wholesale model to India. Filling voids rarely means filling a vacuum, and the entities pushed aside by such initiatives can also push back by mobilizing popular and political support.

Institutional voids can prevent multinationals based in the developed world from replicating their models in emerging markets and can stifle the ability of domestic companies to develop and compete against those incoming multinationals. Voids present foreign-based and domestic companies with a common set of strategic choices. Because of their different origins and sources of competitive advantage, these choices lead to different sets of options for these actors (see table 7-1).

As we discuss in chapter 4, multinationals based in mature markets can build emerging market strategies on their core capabilities—access to global capital, resources, technology, and talent—but exploiting these capabilities without adaptation often limits these companies to the narrow global market segment (see table 7-2 for an overview of the features of different market segments in emerging economies).

TABLE 7-1

Responding to institutional voids

GM successfully transplanted its global model when it entered China while targeting the country’s wealthy elite with its Buick brand. The company later adapted to reach deeper into the market. Similarly, L’Oréal exploited its global quality and brand but only after a failed attempt to target the local market segment.

Stepping outside their comfort zone in the global segment brings greater opportunities and challenges to multinationals in emerging markets. Adaptation to the contextual challenges in other segments of emerging markets can take a number of forms. Multinationals can modify their models, product offerings, or organizations. Adaptation can be a difficult, expensive process for developed market-based multinationals, particularly because of the institutional voids in emerging markets, such as the absence of third-party market research or product design firms that could contribute to product adaptation. Moreover, the different forms of adaptation needed in different emerging markets pose challenges to coordination among subsidiaries.

TABLE 7-2

Market segments in emerging economies

Given the limits of replication and the challenges of adaptation in emerging markets, multinationals need to consider collaborations, such as joint ventures or other local partnerships, to help them acquire local knowledge and navigate institutional voids. Collaboration is often mandated as a price of admission into emerging markets, but partnerships are often the best way for multinationals to equip themselves to manage institutional voids. Microsoft attempted to enter China by adapting its software largely on its own but successfully established a business in the market only after it collaborated with local players and invested in the development of the local software industry. To produce sophisticated medical equipment in emerging markets to the standards of its global line, GE Healthcare needed to work closely with supply chain partners in emerging markets. Both multinationals acquired local capabilities through their partnerships, but they also filled voids for their partners by bringing technology and global standards to the emerging markets in which they invested.

When adaptation and collaboration are not sufficient, multinationals can look to fill voids in service of their businesses. To deliver fast food in Russia of comparable quality to that in the United States, McDonald’s invested heavily in filling voids in its supply chain. Faced with intellectual property rights violations that threatened to undermine its business in Brazil, Monsanto “borrowed” global market institutions to press for contextual change. Filling institutional voids is difficult and expensive, so multinationals need to weigh the importance of particular emerging markets, the extent to which voids undermine their businesses, and their ability to change institutional context.

In the face of pervasive institutional voids that are too difficult to adapt to, navigate with partners, or fill on their own, multinationals can decide to exit or to emphasize opportunities elsewhere. Multinationals are in a privileged position to choose the markets in which they operate. Forswearing particular markets or waiting until the institutional context changes can be a wise strategy for multinationals when voids raise doubts about building viable businesses or suggest the prospect of significant investments in filling voids. The Home Depot retreated from some emerging markets when it found it could not replicate its U.S. business model in Chile and Argentina because of voids and only later expanded into developing economies through collaboration that mitigated these costs.

Waiting can carry costs for multinationals in emerging markets. While The Home Depot waited in China, for example, competitors established significant presence—and acquired valuable local knowledge. Waiting can be particularly problematic for companies in industries where first-mover advantage is highly valuable. Microsoft, for example, persisted in China in the face of painful voids in intellectual property rights because of the long-term value in establishing its software as a standard platform. Some multinationals have exited emerging markets in the face of financial and other crises. Tetra Pak’s example shows how multinationals can exploit the relative advantages of their global capabilities to recommit to emerging markets undergoing crisis in light of the markets’ long-term potential.

Domestic companies in emerging markets have a different set of responses to these strategic choices because of their origins in developing amidst institutional voids. Some emerging market-based companies have sought to build businesses by replicating models from the developed world. Many of the most successful emerging giants have devised and executed strategies that are tailored to the institutional contexts of their home markets. As with multinationals, this adaptation can come in different forms. Tata Motors created a truly local product (the Ace) as it worked around institutional voids in market research, dealer and service networks, and credit providers. India’s IT giants have become emerging giants by exploiting their ability to adapt to labor market voids in their home market.

Facing foreign competition and unable to access global-caliber capabilities because of institutional voids, prospective emerging giants have the option of collaboration with foreign firms. The successful partnerships of India’s Bharti Airtel and Turkey’s Dou Group illustrate how emerging market-based companies can match their collaboration with the capabilities they cannot access at home. Beyond capital and technology, foreign collaborations can help prospective emerging giants build credibility—a highly valuable commodity in emerging markets that lack well-developed forms of quality certification.

Institutional voids are obstacles for prospective emerging giants, but efforts to fill voids can be powerful sources of differentiation and competitive advantage vis-à-vis domestic and foreign rivals. Haier’s success in China through its investments in distribution and after-sales service illustrates how emerging market-based companies can differentiate themselves by filling voids.

Although emerging market-based companies do not have as straightforward an exit option as multinationals, these firms can choose to emphasize opportunities elsewhere. A prospective emerging giant choosing among sectors in which to invest in its home market might opt to wait before moving into a particular sector because the institutional context is not conducive to its development. Some emerging giants have exited their home markets relatively early in their corporate histories. Indian software and IT consulting firms developed strong capabilities in talent markets— identifying, training, and managing talent—but the customer market in India was simply not developed enough to reward those capabilities. Early on, these firms sought out customers in the United States and other developed markets.

The institutional contexts of emerging markets shape the globalization journeys of emerging giants in other ways, as we discuss in chapter 6. We describe how emerging giants can build global businesses by extending their home market models in markets having similar institutional contexts—replicating in other emerging markets—or transcending their origins by adapting to developed markets. Zain has developed into a telecommunications giant by targeting emerging markets, where it exploits its ability to manage voids and reach customers in underdeveloped product markets. The company’s investments in hard and soft infrastructure in sub-Saharan Africa facilitated its growth in much the same way Haier built competitive advantage in China. After initially targeting customers in developed markets—like other Indian IT firms— Tata Consultancy Services replicated its ability to manage and fill labor market voids in emerging markets, as in its operations in Latin America.

Emerging giants have gained prominence in the developed world in large part through headlines of their entry and acquisitions in developed markets. The examples of Haier, Teva Pharmaceutical Industries, and ICICI Bank illustrate the challenges for emerging market-based firms in adapting to developed market contexts. Somewhat like developed market-based multinationals entering emerging markets, these firms are operating outside their comfort zone when they enter developed markets. Learning about these markets, though costly, can serve prospective emerging giants in their home markets by equipping them to compete against multinationals more squarely and meet more demanding customer needs as their home markets develop. Overseas listings and acquisitions are two critical tools of globalization for prospective emerging giants, but—as we describe in several examples—securing and instilling global standards and capabilities throughout an emerging market-based organization is a difficult, long-term task.

Emerging Market Action Items

The frameworks and examples in this book point to several key action items for companies operating in and out of emerging markets.

Experiment to Fit Business Models to Emerging Markets

Institutional voids can frustrate, stifle, and undermine the business models and operations of any company doing business in emerging markets. In light of these contextual challenges, some companies choose to exit or avoid emerging markets. Those companies that decide that the opportunities in emerging markets are too great to pass up or delay need to appreciate and respond to the challenges posed by institutional voids.

Emerging markets are so tough to crack that companies are highly unlikely to get their strategies right the first time out. Companies of all stripes need to experiment to fit their strategies to the unique contexts of emerging markets—and instill in their organizations an organizational openness to experiments. Zain’s One Network and Microsoft’s FonePlus are only two examples of successful emerging market experiments.

Position Your Business as a Partner in Progress

Foreign as well as domestic companies have found success in emerging markets by positioning themselves as partners in progress—building businesses that also advance market development. Initiatives along these lines can take a number of forms—from advancing traditional corporate social responsibility to filling institutional voids—in service of businesses or as stand-alone projects.

Microsoft’s investments in the development of China’s software industry facilitated the development of its own business in the country. The job creation and tax revenue produced by Zain’s business in African countries facilitated its government relations and operations. Similarly, the employment Tata Consultancy Services brought to Uruguay enabled the company to receive fast-tracked visas for employees traveling from India. At home, Tata Group filled voids in social services for employees in Tata Steel’s company town Jamshedpur. Metro Cash & Carry’s primary business filled voids in the food supply chains in emerging markets, reducing waste and bringing more transactions into the tax net, although this argument could not overcome entrenched opposition in Bangalore. Nonetheless, working to be—and to be seen as—a partner in progress can help companies in emerging markets, particularly multinationals coming in from more developed markets.

Balance Ambition with Humility in Emerging Markets

Multinationals based in developed countries as well as emerging market-based companies face a tension between ambition and humility. Multinationals want to exploit the tremendous opportunities in emerging markets, but they need to carefully evaluate the extent to which they have the local knowledge and capacity to fully exploit those opportunities. Segmenting these markets and carefully aligning ambitions and capabilities can help multinationals avoid costly mistakes. Multinationals need the humility not only to gauge their own capabilities in relation to the institutional context of emerging markets but also in terms of their position in emerging markets. As one multinational executive explained, “Most emerging markets are highly sensitive. They’re emerging because for years, they’ve been colonized. That has left its own suspicions, distrust, et cetera of foreigners. It’s certainly true in China. It’s certainly true in India. It’s probably true in many other places. So people want the benefits of globalization and development, but they want to know that they’re not being exploited.”¹

Emerging market-based companies also need to weigh their ambitions with their capabilities, particularly as they consider approaches to globalization. Teva Pharmaceutical’s “billion-dollar theory” exemplifies emerging giant audacity. As one company executive explained, “Many companies pass the same way in Israel. The difference is really not personal. The difference is in the recognition that going the path that history wrote for us, we will remain a small Israeli company that will not have any influence on anything. If you want to do something, try to do something very different. What we did was something that, at that time, was very different.”²

India’s Tata Group, among the most audacious emerging market-based globalizers, has faced organizational strains in its globalization, as one company executive described:

Just as any company operating in an emerging market needs to audit its institutional context in relation to its own capabilities, multinationals and emerging market-based companies need to audit their management capabilities and bandwidth as they weigh how far they can go in emerging markets and, in the case of emerging giants, how ambitious they can be in their globalization. As the example of TCL shows, audacious moves into new market contexts and attempts to integrate widely different corporate cultures through acquisitions can be particularly challenging.

Appreciate the Inherent Risks of Emerging Markets

To many observers, the emerging market story is largely one of growth and opportunity. This euphoria can quickly end when companies are burned by corruption, abrogation of contracts, wanton expropriation, or other risks in these markets. These risks are inherent in emerging markets, but in light of them, what should firms do? Companies can exit these markets, limit their ambition so as not to encounter them squarely, limit their exposure by operating through an agent or other party, or build in mechanisms, such as audits and internal vigilance, to deal with corruption.

Infosys and Tata Group set high standards for their organizations in light of corruption in India. As illustrated by the experience of Siemens— which agreed to pay $1.36 billion to U.S. and German authorities in 2008 to settle corruption charges—not maintaining such high standards can impact not only a multinational’s business in an emerging market but also its wider business.⁴ In mid-2009, it was reported that more than 120 companies were under investigation by the U.S. Department of Justice for potential violations of the Foreign Corrupt Practices Act.⁵ Specialized antibribery compliance firms—credibility enhancers, in our taxonomy of market intermediaries—have sprouted up to help firms manage these issues.⁶

The chief executive of one emerging giant active in many emerging markets described how his firm has managed the corruption issue:

The Emerging Future

The story of emerging markets presented in this book is incomplete. These dynamic economies—and the strategies of companies operating within them—continue to evolve. One ongoing question and avenue for future research is the extent to which models built for emerging markets will migrate to developed markets, either through multinationals based in developed markets or through emerging giants becoming even more significant players in developed markets.

The growth in emerging markets has made them prime grounds for innovation and experimentation, as many of the examples in this book illustrate. Ideas and models born in emerging markets will continue to shape industries in the developed world. Indian automotive company Mahindra plans to bring low-cost diesel pickup trucks into the United States by 2010.⁸ The Tata Nano might arrive in the United States not long after.⁹ Partnerships between developed market-based multinationals and emerging giants are also a key vehicle for the transfer of ideas between market contexts. GE and Garanti Bank, for example, are learning a great deal from each other.

Another key question is how emerging giants can manage the strains to their organizations as they manage growth, go global, and try to move up the value chain. Instilling global mind-sets through their organizations, managing talent, creating leadership pipelines, developing and managing innovation, and integrating acquisitions are all key challenges for these companies.

In the wake of the financial crisis and recession of 2008–2009, emerging markets have, in the eyes of many observers, taken on an even more important role in the global economy. Some emerging markets have been havens of growth and opportunity as many developed economies struggle. Other emerging economies have been hit hard by the crisis, their trajectories of growth seriously disrupted. The persisting importance of emerging markets behooves executives, policy makers, and citizens to better understand these markets. The frameworks and examples in this book are intended to offer a start.