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7.2 Wholly Owned Subsidiary or Joint Venture with Local Companies

In this chapter, we discuss the options of establishing a wholly owned local subsidiary and creating a joint venture with a local company. In joint ventures, the influence of the local partner on management varies in terms of the share of investment. As a general rule, if the parent company is the majority investor (i.e., 51 % or more of the total investment), it can control the operations for those matters that can be decided by the majority vote. However, critical management issues sometimes require a two-third vote or an agreement of a super majority, during which the company cannot ignore the influence of a minority partner on the management.

Furthermore, in emerging countries, companies must exercise caution because government regulations often cap the level of investment by foreign firms. For example, in China's automotive industry, foreign firms are limited to hold up to a maximum stake of 50 % in a joint venture. Toyota and Volkswagen have entered the Chinese market through joint ventures with local companies: Toyota partnered with the FAW Group and the Guangzhou Automobile Group Co., and Volkswagen partnered with the FAW Group and the Shanghai Automotive Industry Corp. In emerging countries, private companies are not adequately mature, and joint venture partners are often government owned. Toyota's and Volkswagen's joint venture partners are government owned. Therefore, in such cases, companies negotiate joint ventures with governments, making it difficult for companies entering the market to firmly negotiate conditions. In this book, we discuss the cases of Hitachi Construction Machinery (Chap. 8) and Shiseido (Chap. 10), and their entry into the Chinese market, as well as Suzuki Motor Corporation's (Chap. 14) entry into the Indian market. In all of these cases, the governments in the host countries requested the companies to enter their markets as joint venture partners. Investment regulations for foreign firms have recently begun to relax in emerging countries; however, even in cases where companies enter a market via a wholly owned local subsidiary, it is best to maintain good relations with the governments in the target countries.

We now summarize the strengths and weaknesses of wholly owned subsidiaries and joint ventures with the assumption that companies entering a market can freely choose either form. One advantage of a wholly owned subsidiary is the freedom of management toward the local entity. In particular, when entering via a globally integrated management as per I-R grid (i.e., “I”-type management) covered in Chap. 2, a company must ensure that the local entity is given a certain degree of discretion in management. On the other hand, when entering via a joint venture, companies can mitigate their market entry risks. Suzuki Motor Corporation entered India in 1982 via a joint venture with Maruti Udyog with a total investment of 26 % in the venture. This was the first case of a foreign company entering India's automotive industry, thereby placing Suzuki in a high risk situation. This is why Suzuki decided to limit their level of investment. The Indian government, in fact, offered Suzuki to make a 40 % investment; however, Suzuki was adamant about maintaining the lowest possible share, sufficient for the company to exercise veto rights for important management-related decisions (where a three-quarters vote was required).

In addition, when companies expand overseas via joint ventures, their likelihood of having a smooth local launch increases. In the case of production facilities, such as factories, companies do not have much to gain technically from companies in emerging countries, but local sales necessitate the creation of customer relationships and retail and distribution channels, which can be difficult without support from local partners. Partnering with companies with already existing local channels enables the rapid launch of operations. Furthermore, when government-owned companies are joint venture partners, companies can make allies of the government, which is necessary in running operations in emerging countries. This model has many advantages for local operations.

When deciding between a wholly owned subsidiary and a joint venture, companies must weigh the advantages of “freedom in managing the local entity” versus “local risk factors.” In other words, companies must balance between the expected profit from the management resources of their joint venture partners (e.g., distribution channels or local government relationships) and the costs related to those resources. For example, companies may discover that the retail stores and other parts of the distribution channel held by the joint venture partner are inefficient, and the benefits of using existing channels are low. In that case, local entities must create new distribution channels and strengthen their sales capability, despite the possibility that the company cannot establish new sales routes as was hoped because of opposition from existing retail stores. On the other hand, if a joint venture partner has a powerful distribution channel, they are likely to demand more in return. How should companies respond to joint venture partners that predicate cooperation on receiving high-level product technology? Although this process is rather difficult to achieve, entering companies must clarify the joint venture partner's management resources and the conditions of forming a joint venture, while both parties attempt to disclose information to each another during negotiations. This is particularly true for companies that speak different languages with different business environments. Accordingly, entering into a joint venture with a local company can be an effective means of reducing investment risks in the target country when a company signs a joint venture agreement. However, companies must be careful of the increased risk as compared with entering a new market as a wholly owned subsidiary.

The company's ability to manage such an increased risk is significantly dependent on its global business experience. The business environment, government relations, and the types of risks that are manifest are different in target countries. Therefore, management style undertaken by the company in China should differ from the one undertaken in India. Risk analysis in each country should not only utilize various information sources and the advice of consulting firms, but also create a knowledge base of experiences of companies to create an infrastructure that makes the most of new project formulation.

In Chap. 2, we stated that Japanese companies often use a “globally integrated” form of organization, compared with their European and US counterparts. However, as a result, Japanese companies often enter markets as wholly owned subsidiaries rather than create joint ventures. For example, according to the results of a 2005 survey on mediumto large-sized foreign manufacturing firms in China, the percentage of foreign subsidiaries was approximately 60 % among Japanese companies, and only approximately 40 % among Western companies (Motohashi 2011). Japanese companies lack the ex post risk management ability required for joint ventures, resulting in a higher percentage of wholly owned subsidiaries and increasing the likelihood of companies not enjoying the benefits offered by joint ventures. Typical Japanese companies striving for a transnational form of management organization must strengthen their local orientation, for which reinforcing the management capability of joint ventures with local companies becomes critical.

 
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