Strategy and Execution for Emerging Markets

image:thestudentlawyer.com
culled from: Winning in Emerging Markets: A Road Map for Strategy and Execution

How can multinationals, entrepreneurs, and investors identify and respond to new challenges and opportunities around the world? In this Q&A, HBS professors and strategy experts Tarun Khanna and Krishna G. Palepu offer a practical framework for succeeding in emerging markets. Plus: Book excerpt with action items. Key concepts include:

    The ambition level of large, fast-growing emerging markets around the world rivals that of companies in the United States in the late 19th and early 20th centuries.
    Khanna and Palepu outline how to identify and respond to institutional voids in product, labor, and capital markets.
    Investors and entrepreneurs can respond to niches in institutional infrastructure in the private sector, such as the need for information analyzers and advisors, aggregators and distributors, transaction facilitators, and more.
    A useful starting point for managers is to construct an institutional map to identify institutional voids—which may themselves present business opportunities.
    Western multinational companies as well as local entrepreneurs are innovating products to attract the emerging middle class. Such innovations could potentially benefit consumers living in mature markets.



Emerging markets such as the BRIC countries—Brazil, Russia, India, and China—entice and intimidate. When managers are asked what is special about emerging markets, they typically point to rapid economic growth, potential competitors, and vexing problems including but not limited to corruption, financial crises, and weak intellectual property rights.

HBS professors Tarun Khanna and Krishna G. Palepu, authors of the new book Winning in Emerging Markets: A Road Map for Strategy and Execution (Harvard Business Press), offer an actionable framework to help potential entrants answer the following key questions:

    In this particular market, which market institutions are working, and which institutions are missing?
    Which parts of our business model can be adversely affected by these institutional voids?
    How can we build competitive advantage based on our ability to navigate institutional voids?
    How can we profit from the structural reality of emerging markets by identifying opportunities to fill voids, serving as market intermediaries?

For Khanna and Palepu, an emerging market is anyplace where buyers and sellers cannot easily and efficiently do business with each other. The scholars therefore focus their research worldwide, not just on the BRICs.

    “Often the main prize today is the emerging middle class, which aspires to consume world class products at lower price points.” -Krishna G. Palepu

"We have been studying emerging markets for about 15 years," explains Palepu in our interview. "We've wanted to learn about the challenges of the process and the challenges of companies in those markets trying to compete on a global platform. We are also curious how international companies have been able to intimate themselves into the conditions of those markets."

Palepu, whose current research and teaching activities focus on strategy and governance, is the Ross Graham Walker Professor of Business Administration and Senior Associate Dean for International Development. Khanna, the Jorge Paulo Lemann Professor at Harvard Business School, has studied and worked with multinational and indigenous companies and investors in emerging markets worldwide.

Palepu and Khanna joined forces for our Q&A.

Martha Lagace: Why study emerging markets?

Krishna G. Palepu: Emerging markets are the growth engine for most Western companies today. They also present a great opportunity for entrepreneurs in these countries to build the future. And from an intellectual perspective, emerging markets provide a lab for scholars because everything we know about management needs to be reexamined in a new context: Are ideas about management still robust when you change the institutional context? If not, how should we modify ideas about management in general?

While the work that Tarun and I have done focuses on strategy, the same set of challenges exists in other parts of management thinking, too, such as organizational behavior, marketing, finance, and so on.

Tarun Khanna: Everyone agrees that firms should create value wherever they are. But when we ask what kind of value and for whom, who are the relevant stakeholders, how is work actually going to be implemented on the ground, there are different answers in different circumstances. That's the intellectual puzzle we have been trying to wrestle with for 15 years.

There's also the sheer energy in emerging markets, the excitement and enthusiasm that people there and now thankfully people everywhere feel about emerging markets. This too makes it possible to take a long view.

Q: Which emerging markets are most exciting?

Palepu: Each set of countries has its own fascination. That's why we prefer to think about a cross section of countries and understand what is similar and different. We focus on many different emerging markets to develop a theory that spans all emerging markets as opposed to a particular geography. In particular, we study Brazil, India, China, Turkey, Indonesia, and Mexico. They—and others—fascinate us because their ambition level is reminiscent of ambition in late 19th- and early 20th-century United States. Their companies and entrepreneurs are literally trying to build future great companies while dealing with the challenges of scaling up as well as huge opportunities in managing rapid growth. These countries also provide an innovation platform to justify tailoring and inventing products and services just for them.

Khanna: Think about Chile. Chile is not by anyone's reckoning a large market, but it is a very interesting laboratory. Free market principles were introduced initially under the authoritarian regime. Compared with other emerging markets anyway, Chile has since become a paragon of reasonably good governance. Its process of change is ultimately an economic process that is nonetheless embedded in societal norms and political realities.

Palepu: Yes, Chile—just like Israel, South Africa, and South Korea—is crossing over from an emerging market to a more mature market. Learning about Chile helps us predict the future of other markets. We are interested as well in the Middle East, Malaysia, and African countries. Eastern European countries have their own set of challenges, potentially benefiting from the EU yet not large enough and therefore getting crowded out.

Q: What are "institutional voids," and how should managers around the world think about institutional voids as problems as well as opportunities?

Khanna: Here's an example. Let's think about the sourcing of talent. A business school in some sense is an institution that, in addition to training and teaching people to think about their role in society, serves a variety of functions from the standpoint of a potential employer. It helps screen talent and certifies that it is of high quality. In the United States there is a rich ecosystem of similar business schools that compete and, through the process of competition, need to remain honest. Executive search firms also complement this process.

By institutional void, we refer to the situation in most emerging markets when specialist institutions and intermediaries—such as executive search firms and business schools—are either completely absent or not functioning as well as they might. So, in this example, buyers of talent can't get together as easily as they might, with sellers of talent (such as graduates of business schools). For managers, if their business growth is predicated on hiring appropriate amounts of talent—as it invariably is—what do they do to compensate for the absence of support services that they might take for granted in the United States or in other more mature markets?

In the book we discuss at length how companies adapt to these missing institutions. We also describe different kinds of institutional voids and give many examples of companies trying to adapt.

    “A useful starting point for managers is to construct an institutional map and see what the institutional voids are.” -Tarun Khanna

A useful starting point for managers is to construct an institutional map and see what the institutional voids are. It's important to have the right kinds of conversations and identify the problems that need to be resolved over and above the core function in a business of making anything from widgets to washing machines to life-saving drugs. McDonald's sells burgers worldwide, but the way it does so has to change from location to location, adapting to the institutional voids in each location.

Palepu: The organization Li & Fung fills a void by making the market between, on the one hand, thousands of producers of goods and services and on the other, big-box retailers and many others in the United States that want to source from emerging markets. Li & Fung took advantage of the need for intermediaries and created a big business out of it. It is fair to say that without Li & Fung, the sourcing function for most major retailers in the U.S. would come to a grinding halt.

Our framework for institutional voids captures what is common to all emerging markets and explains the distinction between emerging markets and more mature markets. It could help managers audit any given emerging market and its different institutional voids. Managers can then tailor-make their strategy to a particular market, given that different elements are missing in different places and economies.

Here's another example. Vizio is a U.S. company created within the last five years that produces the number one flat-panel TV brand in the U.S., beating Sony, Samsung, and Panasonic. It created a brand and financed itself to grow fast despite a limited number of staff—because of the institutional infrastructure in the United States. Vizio relies on Costco as a distributional partner, which adds credibility as well as helps to the brand without overspending on advertising. A logistics system allows Vizio to import televisions from a manufacturer in China in just-in-time fashion and deliver them to Costco without much capital. But if the founder wants to take that model and replicate it in Brazil, for example, he needs logistics and financing infrastructure. Even if the demand for flat-panel TVs exists, he can't just go and do the same thing.

The Vizio example highlights the power of institutions to support entrepreneurship, but also shows how nontransferable certain business ideas are when you take them to contexts without key institutions. In fact, part of Vizio's global strategy is to only go to those markets where Costco is going. In our taxonomy, Costco is an important institution because it facilitates business between producers and customers in an efficient manner.

Q: How can intermediaries grow as businesses in their own right?

Khanna: Emerging markets can't mandate intermediaries into existence. Entrepreneurs must first recognize an institutional void and deem it in the best interest to create a business model and compete.

Palepu: When we say that emerging markets have institutional voids, it almost sounds as if they are backward and not good enough. Actually there is a flip side. The more institutional voids there are, the more niches there are for entrepreneurs to fill. That is why growth in these economies is so high. There are all kinds of opportunities for entrepreneurs to develop markets in the private sector. According to some estimates, about half of U.S. GDP is due to business done by intermediaries in the private sector.

Government institutions are necessary in terms of the rule of law, regulatory framework, and adjudication capability; but in the private sector there is also the need for a tremendous number of institutions and intermediaries such as information analyzers and advisors, transaction facilitators, adjudicators, credibility enhancers, aggregators and distributors, and so on. Managers can understand how to think about the list of institutions and a framework of enumerating them.

Q: You describe "emerging giants" as "a small but growing set of companies that have built world-class capabilities to challenge global rivals in their home countries and even in developed markets." What is an example of an emerging giant?

Palepu: The Tata Group in India is probably well on its way to becoming a giant. When markets in India opened, the Tata Group had been in existence for more than a hundred years. Yet as a sprawling, diversified business group spanning 80 or 90 businesses, each of which was not performing up to its full potential, it was uncompetitive.

The chairman of the group, Ratan Tata, creatively reorganized the business to make it survive in the new open global economy, and then challenged his group of companies to innovate. They designed the Tata Nano, a vehicle at the $2,500 price level to address the needs of the emerging middle class in India. At the same time, Ratan Tata has challenged his companies to think globally. They have done a large number of acquisitions around the world, the most notable being Corus steel, as well as Jaguar and Land Rover and many others.

The Tata Group is a great example of a company that transformed itself from a successful company in a closed, local environment to a fairly aggressive player that has fostered innovation and globalization in almost a trendsetting manner in a completely different, globalized environment of rapid growth and extreme competition.

Khanna: In our book we also discuss Haier Group in China, which has a major presence in the U.S.; Garanti Bank of Turkey, one of the most efficient banks anywhere; Cosan, in the sugar business in Brazil; and many others. We discuss in depth some strategies that have worked and some that haven't.

Q: How does the business of multinationals change in emerging markets?

Palepu: Often the main prize today is the emerging middle class, which aspires to consume world-class products at lower price points. Multinationals may stumble when they enter emerging markets while addressing a very limited group of people who can afford global quality at global price points.

The emerging middle class wants goods and services at global quality with local price points. It's a big challenge. If multinationals want to compete in emerging markets, they need to innovate to provide global quality, which is their forte using their resources and innovation capacity, but at a local price point. And often customers equate lower price points with lower quality. How can you actually produce global quality while charging price points at 50 percent lower than global prices? Only if you understand local customers and strip away unnecessary features of the product.

It is also a challenge for local companies because local companies usually reduce price by reducing quality. For local companies the challenge is to upgrade quality, while for global companies the challenge is to understand local customer needs and produce localized products.

In our book we discuss companies including GE, which has been innovating in the medical sector, and cellphone companies such as Nokia that reach large groups of customers by producing phones comparable to better phones but at lower price points.

Q: What products from emerging markets could cross over to the West?

Palepu: With the economy in the West coming under more financial stress—incomes stagnating, entitlement costs rising, governments facing deficits, and people more value conscious—high-quality products at reasonable prices are in demand. One example: In health care, GE is producing a computerized tomography (CT) scan machine that is functional without a lot of bells and whistles. It was designed originally for the Chinese market where patients without insurance pay for CT scans themselves. In the U.S., given the increased focus on containing health care costs, perhaps those machines could supplement more advanced equipment used for initial screenings or at community hospitals. There is great possibility for similar innovations wherever there is a need.