Dunning’s Eclectic Paradigm
Introduction
Dunning's eclectic paradigm is a model developed by John H. Dunning. The aim of the model is to explain the OLI-framework. The framework by Dunning serves as a guide for empirical examination of determinants of FDI. The framework offers a ground to research on factors affecting the development of multinational companies concerning expansion after engaging in foreign production and other expansion plans in the foreign countries. According to Dunning (2001), the assumption underlying the eclectic paradigm by Dunning is that three factors determine the FDI or specifically the return to FDI. The first factor is represented by ‘O'. It is the ownership benefit of a company. It explains the concept of who will produce abroad. The second factor likely to determine DFI is the location factor ‘L.' Location in Dunning's context means the place to produce. The last factor in the framework is the internalization factor ‘I'. Referring to Dunning, (1988) the ‘I’ factor emphasis on reasons why companies engage in Foreign Direct Investments. It explains why the firms fail to engage in other forms of international business entry strategies like franchising, licensing, direct exportation or strategic alliances. In this essay, Wal-Mart is the chosen organization to apply the Dunning’s eclectic paradigm on how in manages Foreign Direct Investment in an emerging market. Wal-Mart is one of the largest companies in the world as regards revenue. It is a company of American origin but currently has branches and subsidiaries in many parts of the world including India, United States, and Canada. It also has its operations in Mexico, UK, Argentina and Brazil. It is a retail corporation.
Literature review
The theoretical framework of this essay is the application of the Dunning’s eclectic paradigm to explain how Wal-Mart Company manages its FDI in its emerging market. The essay contains an elaboration of the determinants of Foreign Direct Investment as put forward in the work of John Dunning. Several authors have researched and written articles and book on matters relating to the Foreign Direct Investment made by Wal-Mart. Javorcik et al. (2008) explain the openness and response of Wal-Mart to the potential market. Helfat et al. (2012) outline the market entry strategies of Wal-Mart. Foreign Direct Investment is an example of the market entry strategies used by the company. Iacovone et al. (2009) carried out research on the impact of Foreign Direct Investment to Wal-Mart in Mexico. The framework of the Dunning’s eclectic paradigm enables comparison between different approaches and theories by providing a common base between the various theories. The model, therefore, clarifies several questions not answered by other theories. The limitation OLI model is that its application will vary in different industries, firms and geographical locations. The applicability of the Dunning’s eclectic paradigm depends on the ability and motivation of a firm to use FDI. The essay there will concentrate on how Wal-Mart manages its FDI with reference to OLI.
Ownership
Firms operating in foreign markets must be competitive to continue with its operations successfully. A competitive advantage is an aspect of ownership that enables the firm to possess an advantage that its competitors do not possess. Mubarak, (2011) argues that ownership advantage that is highly advanced regarding the application of modern technology can easily result in a monopolistic environment in the international market that is, one firm will dominate the market. A firm having ownership advantage can recover the extra costs associated with the Direct Foreign Investment. FDI involves a lot of investments, for example, purchase of land, setting up operation facilities, and research in a foreign country. A firm that fails to possess ownership advantage makes its operations in foreign market difficult and it can easily result in losses and finally closure.
A firm is considered to have ownership advantage if it has the ability and know how to incorporate modern technology into its operations. Technology lowers the cost of operations hence a higher return to the FDI. Other ownership advantages include having patents and trademarks. An experience in the international market and the ability to apply economies of scale results to a competitive advantage. Ownership advantage simply means that ability to have more tangible and intangible assets by a multinational firm than the competitors (Porter, 2011).
It is argued that Wal-Mart has emerging market in unreached parts of China, India and Japan (Adams, 2011). The ownership advantage motivates the company's decision to invest in these markets. The ownership advantage gives the company a competitive edge enabling it to penetrate in new international markets. FDI is a market entry strategy that Wal-Mart uses as a result of the confidence from its competitiveness in the international market. The example of ownership advantages of Wal-Mart is a vast experience in operations in the foreign market. The company started trading in the foreign market in the 1990s hence has gained a lot of experience in managing its foreign direct investment. The company is also able to manage its FDI in the international market due to its ability to apply economies of scale to its operations. In an emerging market, the company has adequate capital and infrastructure that enhances large-scale retailing. Large scale operations reduce costs and overheads. Consequently, the management of FDI is made possible by a reduction in costs of operations.
The adoption of modern technology by Wal-Mart is part of its ownership advantage that helps it to manage the Foreign Direct Investment in its emerging market. Adams, (2011) indicates that the use of modern technology like management information systems, electronic commerce and electronic business plays a significant role in the management of FDI. The adoption of new technology gives the company a competitive advantage in the international market especially in emerging markets where the customers are eager to consume the newly introduced products. To ensure that a proper management of FDI is put in place the company has maintained a price leadership in the market. The company sells quality and fresh product at an affordable price than its competitors. In the emerging market, the company uses cost-effective acquisition and use of assets. For example, the Wal-Mart Company makes decisions to either buy or lease its assets in a foreign market to reduce the cost of acquiring the assets.
The location of the multinational enterprise is very crucial. The location is concerned with ‘where’ the firm will invest (Rao 2012). A firm engaging in a foreign market seeks to combine the knowledge it uses in the production of good in its home country with other skills and knowledge used in the foreign market. The resulting product is a mean of products it offers in its home country and those produced in the foreign market. A location advantage that a multinational company can have is a favorable geographical factor based on the laws of the foreign country and factor endowment. Institutions regulating business and trade in the international business are a significant determinant of Foreign Direct Investment as they are examples of immobile factors in a global market. The attractiveness of a location in a foreign market is to a large extent determined by the administrative, legal and political systems. According to Demirbag and Glaister, (2010) it is crucial to investigate the impact to the operations of the firm or industry while choosing a location. Variables like salaries and wages will differ in different locations.
Wal-Mart Company has successfully taken advantage of its location advantage in its emerging markets. FDI involves a commitment of large sums of money and capital in a foreign country. The location in which the investment is made is, therefore, crucial. Wal-Mart has invested in emerging markets that offer a high demand for its products. A high demand results in an increase in sales. Increased sales reduce the payback period of the investment in the foreign market. For example, when China was an emerging market, the company invested using FDI strategy, and the investment became profitable due to high stock turnover. However, Wal-Mart Company failed in investing in Germany and in South Korea as its emerging markets because the sales made could not break even (Chuang et al. 2011).
The cost of transportation in Wal-Mart is minimal despite the many locations that the company carries out its operations. In the emerging markets like in India and Japan, the company employees cost effective transportation logistics. The use of economic order quantity and batch quantity minimizes the cost of ordering and transportation. Application of transportation models and assignment models helps the company manage its transportation costs. Effective management of costs is an important factor in the management of Foreign Direct Investment.
The emerging markets of Wal-Mart Company are large enough to motivate the company management to invest in them. The market size is a key factor in considering the location of a firm. Wal-Mart Company has potential markets in most parts of North and South America like in Brazil and Argentina (Adams, 2011). A large market size guarantees the company a going concern. That is, the market offers a favorable environment to enable the company to continue its operations in the foreseeable future. The heavy investment in the emerging markets drives the managers to put all necessary measures to manage the FDI. The economic stability of the foreign countries where Wal-Mart invests is of great importance. Economic stability offers an enabling business environment to the company hence ability to manage its investments in the foreign nations.
The legal framework and political policies of the emerging markets of Wal-Mart Company create an environment for carrying out business. The tax policies, importation and exportation regulations do not hinder the operation of the company in most of the markets. Stable political policies are vital in thriving in an international market. Cultural diversity is an important location factor to consider. Chuang et al., (2011) is in the opinion that Wal-Mart Company incorporates diverse cultures in offering its products and services. For example, the operation of the company has penetrated geographical locations to incorporate Indian, Chinese, Japanese, and European cultures. Offering the company product and services to these cultures creates a wider market base that helps the company to manage its FDI due to increases sales revenue.
Internalization
Internalization is the choice by a multinational enterprise between carrying its operations abroad or simply franchising and licensing other companies to exploit it ownership advantages (Verbeke, 2013). Internalization of ‘O’ advantages is the best strategy adopted by many MNEs when the foreign market is not the best place to sell intermediate products. The perceived cost of a market failure determines the willingness of a multinational firm to internalize its ownership advantage.
The Wal-Mart company operates in many countries bearing different business names. The company is at its best in creating and exploiting its main competencies in its operations. The company has continued appropriate and strategic planning to ensure that it does not internalize its operations. Internalization of operation is an indicator of market failure by a company. The management of FDI by the company in its emerging markets is improved by the company’s efforts to carry out a quality research before entering a new market.
The Wal-Mart Company carries its operation both in its home country and in the international market. At the start, Wal-Mart internalized its operation for several decades. After growing to a giant firm in the United States in the 1990s, the company entered the international market to diversify its market. The company less concentrates on internalization but rather, considers opening more and more branches in the foreign market. The company is less involved in purchasing foreign firms operating in its domestic market.
The company is, therefore, able to manage its Foreign Direct Investment in the emerging market by continued efforts to concentrate on foreign market. Internalization of a company’s operation is not the best decision to make. The Wal-Mart’s closure of operations in Germany and South Korea indicates a market failure. According to Verbeke (2013), failing to control the demand and supply forces in the market is a threat to the management of FDI. The benefit of going abroad by Wal-Mart Company outweighs the advantages of internalization.
Conclusion
The Dunning’s eclectic paradigm is a model explaining the ownership, location and internalization framework. The ownership advantages help a firm to face competition in the foreign market. Location deals with the geographical situation while starting a firm in an international market. Internalization involves giving up on foreign competition and paying much attention to the local market. Internalization is a form of market failure. FDI is the investments of an international company inform of physical assets in the foreign country. FDI is characterized by the purchase of capital assets such as land, buildings or simply through mergers and acquisitions in a foreign nation. Wal-Mart applies the Dunning’s eclectic paradigm in managing its Foreign Direct Investment. Management of FDI requires proper planning based on quality research in the international environment. Wal-Mart is one of the most successful multinational companies. The ability of the company to manage its foreign direct investments is the factors contributing to its success in the international market. Despite offering the useful framework of OLI, the Dunning’s eclectic paradigm is criticized as being unable to include emerging trends in the business environment like the E-commerce, E-business, and other information technological issues in business.
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