There are various reasons for companies that choose international expansion. Most in the developed world have different reasons as compared to developing world companies. However, the aims are similar and all of them have gone international because of attraction by the in economic growth and disposable income in the international market, great competition at home, extra retained earning that needs to be invested, and many other factors.
The objectives of all companies worldwide are to maximize revenue. International expansion helps to develop new streams of cash inflows to companies. Many American companies producing Avionics have gone international for the opportunities that are available in that market, and take advantage for cheaper labor abroad, and international for a company like MNG has advantages opportunities like increase of market share, availability of cheap labor in some countries, increase in the streams of cash flows, an increase of innovation, and other factors. The American firm is facing competition from large firms who have lowered their prices and have market power that is, power to influence prices. This makes small firms either get out or go international.
Indian companies manufacturing software may have similar reasons but the issue of cheaper labor, which is abundantly available at home, is not considered. The other issue is that the market in their country is saturated. The major reason an Indian company specialized in the software of going abroad is the increase in cost, competition, and the nature of the aggressiveness of Indians. Therefore, to improve profitability and the continued survival of the company, international expansion becomes a necessary resort.
The international market has many hidden challenges that affect business therefore one company planning should recognize the path to international expansion may be strewn with obstacles, which may spoil the success of the company. This means that this company need not consider the same segments because when other firms come in and new products are introduced they will be forced out.
Theory of comparative advantages
The theory of comparative advantage involves a comparison of trade and relative competitiveness of countries and their products. We can use a trade model that implicitly assumes that the two economies of production possibilities are under governments. Assume the production of software in the USA and in India, this it is possible that India’s production and USA production are different; therefore, am viewing the comparison between two potential economies
Comparative advantage is the low relative cost of a good compared to other countries. Assume the production of Software in India is cheap as compared to the USA. This because of the availability of cheap labor. Unfortunately, the use of the software’s in the USA is greater than in India. This means the price ratio in India is better than in the USA. Comparative advantage, then, involves a double comparison, across both goods and countries, and that is critical both to understanding it and to why it works.
Because it is such a double comparison, for example, it is impossible by definition for a country to have a comparative disadvantage in every good. The worst that could happen would be that all of these ratios of costs be the same across countries, in which case the countries would have neither comparative advantage nor comparative disadvantage in anything. That would require an incredible coincidence. In practice, every country will have a comparative advantage in something. Assume there is the software is being sold in India at 54 rupees and in the USA at $ 500, which is more than 12times. But the demand for the product in the USA is high.
The market forces determine the rates of any currency. When there is demand for foreign currency for trade purposes or any other then their exchange rate goes up.
This can be expressed as follows in a diagram.
At point of equilibrium, the product is sold at both market and production is uniform. However, when there is high demand in the USA the Indian firm will produce and sell in the USA.
Using Purchasing Power Parity
We use the following formula
Expected spot in one year = spot (today) X 1+ domestic inflation rate/ 1+ foreign inflation rate
Spot (today) = $ 1.46 /e
Foreign inflation rate = 4%
Domestic inflation rate = 6%
Expected spot in one year = $ 1.46 /e X 1+ 6%/ 1+ 4%
= $ 1.488 /£
- For a risk taker this good opportunity to make some money since the calculated rate of exchange is equivalent to the expected spot rate.
euro borrowed 100million.
AMOUNT to be paid back using the dollars (100million x 1.49) /1.46=102.05 million
Under calculated spot rate 100million X 1.488/1.46=99.86577 million
The amount will be slightly lower than normal the expected spot rate.
- For a risk, averse person will not take up the loan since the amount borrowed will be an equivalent to a lower figure in future.
Dollars borrowed $ 100million.
Euro borrowing
AMOUNT to be paid back using the dollars (2/100 x k / 1.49) +k / 1.46=100
0.6986k = 100
K= 143.14m dollars.
Viewing international expansion, from a comparative advantage perspective, it does not matter much how production is organized across countries, whether exporters in one country are domestically owned or are owned by foreigners or by a large multinational enterprise. What matters is the relative cost of a product and its use within a country. For example, “one objection to multinational nationals is that by transcending national borders they also escape from national control of their operations.
Indeed, the larger multinational nationals are larger than many of the countries in which they operate, and they possess an inordinate amount of political and economic power compared to the governments that may seek to control them. This is a problem only if we believe that government control would have improved matters, and in many such countries, this is suspect. But it is understandable that the governments themselves see this as a cost to them, in terms of lost leverage over economic activity.
Even here, though, I see trade as a force for good, since it is a trade that makes these large multinational nationals compete with each other. Competition among firms, much more than anything governments could do, is what will curb the power of multinational nationals and constrain them to act in the world’s interest”. From the quote obtained.