OLI framework and McDonald’s style
One way of analysing whether to engage in FDI is by using the OLI framework, also referred to as the eclectic approach, developed by John Dunning. His research led him to conclude that there are three conditions that will determine whether FDI is the most appropriate method of engaging in international business. These conditions are:
- Ownership advantages.
- Location advantages; and
- Internalisation advantages.
The following sections examine these three areas in greater detail.
1 Ownership advantage
Ownership advantage refers to certain firm-specific advantages that generate a profit or competitive advantage to the firm, allowing it to overcome liabilities of foreignness. These firm-specific advantages must be transferable across borders, which allows the MNE to become competitive despite the challenges it may face when competing in a foreign country. Examples of ownership advantage include:
- The ownership of firm-specific assets and technology that can be used abroad.
- The company brand, which is transferable across borders.
- Managerial knowledge and experience.
- Company culture, such a creating a learning environment; and
- Organisational structures, including the capacity to innovate and change.
For example, the unique technical knowledge and managerial structures of Volkswagen (VW) have allowed the firm to successfully compete abroad by supplying cars that are popular in different continents and countries. IKEA’s unique style of flat-packed furniture has also proved to have global appeal, allowing it to compete in foreign markets where it is at a natural disadvantage due to liabilities of foreignness.
2 Location advantage
Location advantage refers to advantages that can be gained from combining the resources of the firm (ownership advantages) with the resources available in the host economy. Thus, FDI allows firms access to profitable resources or skills they would not have access to within their home market. Location advantages can include:
- Access to skilled labour.
- New or rapidly expanding product markets.
- Natural resources; and
- Government incentive schemes designed to encourage FDI.
Locating operations in a foreign market can allow a firm to overcome several obstacles, including government protectionist policies and transportation costs, while also giving it the advantage of being close to the customer base. The location of these unique advantages will determine where the firm chooses to establish operations abroad. For example, Apple has fragmented its supply chain to take advantage of low wages in China.
Agglomeration as a form of location advantage:
Agglomeration refers to the clustering of similar businesses or industries in the same location. Agglomeration is considered a location advantage for several reasons. Firstly, agglomeration results in knowledge spill overs and the clustering of a skilled labour force in one region. The region may also develop a group of specialised suppliers who can service competing businesses. This has been the case in San Francisco and Silicon Valley, which have become regional hubs for the technology industry.
3 Internalisation advantages
Internalisation advantages occur when it is more beneficial for a firm to establish its own production and sales operations in a foreign location as opposed to exporting or licensing their products to the host economy for instance, a firm may have acquired the necessary capital and assets that makes it profitable for them to control and manage the entire production process instead of outsourcing production to local manufacturers. Internalisation, therefore, allows a firm greater control of firm-specific knowledge and management skills, replacing external market relationships with internal supply processes. Nevertheless, to understand the advantages of internalisation, it is necessary to understand the importance of transaction costs. This section will first examine the importance of transaction costs and the cost of using the market, before examining the advantages of internalisation. Finally, this section will investigate some of the disadvantages of internalisation.
Transaction costs can vary, but include the costs of:
- Searching for appropriate trading partnerships.
- Policing, and ensuring contracts are enforced.
- Establishing terms, specifications, and prices; and
- Due diligence.
Transaction costs are a critically important factor to consider for firms exploring whether to go global. Cross-border trade can lead transaction costs to dramatically increase, because it becomes more difficult for a firm to ensure contracts are complied with, and that productions standards are met.
The cost of using the market
As has been mentioned, engaging in cross-border market relationships can result in high transaction costs. These costs often result from the need to protect transactions from opportunistic behaviour that occurs when local partners attempt to leverage their position. The greater the possibility of opportunism, and the more difficult it is to write a contract protecting the transaction, the more likely it is that a market solution will not be chosen, and the firm will choose internalisation strategies such as FDI. Nevertheless, firms that wish to establish market relationships with local suppliers in foreign countries should be aware of potential contractual problems that can arise.
The risks associated with incomplete contracts, and the fact that these risks are often difficult to avoid, demonstrate the high transaction costs involved in pursuing market relationships abroad. These high transaction costs can lead to distrust and under-investment in specific assets, and high costs of writing and enforcing contractual terms. When these costs exceed their benefits, a firm will either:
- Pursue long-run contracts.
- Establish joint ventures.
- Create strategic alliances.
- Vertically integrate with local producers; or
- Pursue FDI.
Majority ownership is chosen over joint ventures (where two or more parties agree to cooperate and share resources to pursue a new business activity) when the costs of negotiating agreements that protect strategic assets are higher than the benefits provided by a foreign partner, for example from their greater knowledge of the local business environment.
McDonald’s is one of the famous global brands in the world. The brand has about 34,000 outlets worldwide, trading in 118 countries and serving around 70 million customers in a day (Rosenberg, M. ,2018). licensing their products to the host economy -as one of the OLI frameworks advantages- used by McDonald’s has allowed it to achieve rapid growth and accomplishment in the world.
McDonald’s internationalisation strategy has allowed it to reach success in the North and South of America, as well as, China, India, the United Kingdom, and other markets. McDonald’s has addressed the needs of the local population in large as well as emerging markets (Business Teacher.org, November 2018).
Macdonald considered the best illustration of how the adoption -as one of Ghemawat’s AAA global strategy framework- can increase firms’ local relevance and market share, besides reaping the benefits of global integration. For McDonald’s company, this happened by applying the methods of optimising adaptation.
McDonald’s Focus on minimum adaptation by contained many items such as Paneer Salsa Wrap, the Veg McCurry Pan to suit Indian customers instead of hamburgers made of beef, etc. which are less preferred by Indian consumers (Gupta,2015). As well as, In England, the layout of the webpage has a British theme
Also, McDonald’s attempts to Share costs with local firms. When McDonald’s enters a new market, it first imports its suppliers, but with an increase in market understanding and experience, McDonald’s tries to source locally. For instance, in India, McDonald’s built from scratch a massive supply chain from farms to factories. Also, the company divided India into two areas: the north and east, and the south and west. Then it created collaborative projects with Indian entrepreneurs (The Open University of Hong Kong, 2012.p39).
Moreover, McDonald’s Encouraged local innovation and used research and development to improve its products to meet the requirements of the host economy and has already achieved great success in developing products appropriate for the local culture (The Open University of Hong Kong, 2012.p40).
The key method for McDonald’s to optimise adaptation is a flexible business with its franchise model (Tic, Mathew.2020). For that, McDonald’s has successfully distinguished its products based on variations in cultures. This reflects that its flexibility has made it easier to adopt the requirements of different cultures. (Business Teacher.org, November 2018).
To sum up, as we have seen from the start of this course, one of the most economic significances of globalisation is the rising of multinational and transnational corporations. Also, in unit 2, we have been proven that MNCs have become the main drivers of global growth.
As Saul Estrin suggested in MacDonald is one of these multinational corporations that have responded to the (economic, political and cultural) changes imposed by global integration, by using the Ghemawat’s AAA global strategy framework, which is one of the strategies that “bringing together the need for global integration and local responsiveness”.
Furthermore, the AAA framework is a tool that lets a firm decide which strategy best suits their business model. MacDonald focuses on just one “A” adaptation and the company reaches great success by creating global value by changing one or more elements to meet local requirements (The Open University of Hong Kong, 2012.p37). Through trial and error and after many experiences, McDonald concluded that some degree of adaptation methods is important or required for virtually all products in all parts of the world (The Open University of Hong Kong, 2012.p37) and its burgers sandwich is no exception to this rule.
-BusinessTeacher.org. November 2018. International Management of of-McDonalds McDonald’s, [online], Available In: https://businessteacher.org/reports/international-management-of-mcdonalds.php?vref=1
-Gupta,Parshvi.2015,AAA Framework-What Are Your Globalisation Options?, Linked In[website],Available In : https://www.linkedin.com/pulse/aaa-framework-what-your-globalization-options-parshvi-gupta
-Rosenberg, M. (2018). How Many McDonald’s Restaurants Operate Worldwide? [online] ThoughtCo. Available at: https://www.thoughtco.com/number-of-mcdonalds-restaurants-worldwide-1435174
-Tic, Mathew.2020, Insurgence: How Established Incumbents Can Operate Like Nimble Insurgents in Fast Changing and Volatile Markets, first ed, New York, Routledge.
– The Open University of Hong Kong.2012, Fundamentals of Global Strategy A Business Model Approach,[Pdf],Available in: http://www.opentextbooks.org.hk/system/files/export/26/26783/pdf/Fundamentals_of_Global_Strategy_A_Business_Model_Approach_26783.pdf