Characteristics Of The Small And Medium Enterprises Economics Essay
In the modern world economy, business transactions can be conducted within the same city, the same country, or even between two countries. The term of internationalization has been adopted by many researchers, for instance Bell (1995):
“A firm’s engagement in a specific foreign market develops according to an establishment chain, i.e. at the start no export activities are performed in the market, then export takes place via independent representatives, later through a sales subsidiary, and, eventually manufacturing may follow.”
Internationalization has become a significant research topic for business academics in the past forty years. A substantial amount of research has focused on multinational enterprises (Dunning, 1973; Markusen, 1995; Kogut and Zander, 2003), with a growing interest in the internationalization of small and medium sized enterprises (SMEs) (Oviatt and McDougall, 1994).
Meanwhile small- and medium-sized companies (SMEs) have been believed to be significant in supporting economics improvement within a country (Mazzarol, Volery, Doss, and Thein, 1999). For example, in the Netherlands, SMEs account 98.8% of all private-sector companies, contribute 31.6% to Gross Domestic Product (GDP), and employ 55% of the total workforce (EIM Business & Policy Research, 1999). Growth by international diversification is an indispensable strategic option for both small and large firms. Furthermore, obtaining sales outside their own domestic market is a goal of many small and medium-sized enterprises (SMEs) and their governments (Economic Development Board, 1993).
The research objective is to examine SMEs and their opposition to grow their business to the global market. To be more precise, the research will be concentrated on the process of internationalization, and especially the barriers and motivations. In fact, SMEs are able to develop abroad since nowadays countries all around the world have become almost indistinguishable in terms of cultures and institutional settings (Johanson and Vahlne, 2003).
1.2 Problem statement
According to problem indication, this there for leads to the following problem statement;
“What are the barriers and motivations of internationalization with regard to small and medium sized enterprises?”
1.3 Research Questions
The following questions will be posed in order to draw conclusions with respect to the problem statement:
What are the characteristics of the small and medium enterprises?
How is the process of internationalization?
What are the challenges and drivers of internationalization?
1.4 Research Methods
This research will use a literature study as the method of research. To be able to answer the research questions, the research method that shall be used is the literature study. To develop a theoretical framework, exploratory studies are used in this research. It is the most ideal type of research for obtaining a clear understanding of the phenomena of interest (Sekaran, 2003). Additionally, academic search engine such as Wiley InterScience and JSTOR will be used to access journals and articles in the field of Organization Behavior. Online sources also will be used to gain more relevant information. As the foundation for this research, significant findings from earlier studies will be used in order to answer the main research question by logically combining all relevant information.
1.5 Structure of the Thesis
In the remaining chapters the structure will be as follows:
Chapter 2 shall review and analyze some of the theories about small and medium enterprises and their characteristics, referring research question Q1.
Chapter 3 will examine the theories and the process of internationalization.
In chapter 4, I will investigate the opportunities and barriers to internationalization
In the final chapter, conclusions will be drawn and the problem statement will be answered.
2. SMALL AND MEDIUM ENTERPRISES
2.1. Definition of SMEs
Even though there is no uniform definition of SME the idea that SME play a vital economic and social responsibility seems to be fully accepted (OECD, 1982; Acs, 1999). I will describe some definitions which are exceedingly depending on criteria such as the number of employees and turn over.
In 1971 Bolton Report (Dawes and Haydock in Frank, 1999) devised an economic” and a “statistical” definition. Under the economic definition, a firm is regarded as small if it meets the following three criteria: they had a relatively small share of their market place; they were managed by owners or part owners in a personalized way, and not through the medium of a formalized management structure; they were independent, in the sense of not forming part of a large enterprise.
The Committee also formulated a “statistical” definition to be used in three main parts: Quantifying the size for the small-firm sector and its contribution to economic aggregates such as gross domestic product (GDP), employment, exports and innovation; comparing the extent to which the small enterprise sector’s economic contribution has changed over time; and applying the statistical definition, this allows a comparison to be made among the contributions of small firms in one country with that of other nations.
On the other hand, Wynarczyk et al (1993) identified the characteristics of the small firm other than size. They claimed that there are three ways of distinguishing between small and large firms. The small firm has to deal with uncertainty associated with being a price taker, limited customer and product base; and uncertainty associated with greater variety of objectives as compared with large firms.
European Union also categorized macro, small and medium businesses based on number of employees. According to the European Union (2003), SME are defined as enterprises which have at most 250 staff members and an annual turnover not exceeding 50 million Euros. Further there is the difference of small enterprise; they have less than 50 employees and fewer than 10 million Euros of turnover and micro-enterprises (less than 10 persons and 2 million Euros of turnover). However, this is not the only quantitative definition of SME: other sources define SME as businesses with less than 500 employees (Audretsch, 1999) or even give different values for different sectors (Marwede, 1983; p. 45); an industry firm is small when it has 50 employees, however a trade business is medium-sized with more than 2 employees. There are also definitions based on qualitative aspects like legal form, the role of the firm’s owner, their position on the market, the organizational structure or economic and legal autonomy (Marwede, 1983).
2.2. Characteristics of SMEs
SMEs are always one of the remarkable subjects for the researchers. It may be distinguished from larger firms by a number of key characteristics. Researchers have drawn some characteristic for the SMEs. Characteristics often discussed as typical of SMEs are as followed:
Limited resources (Welsh and White, 1981). A small and medium enterprise generally has limited resources. This is extremely true for new starts-up due to an absence or lack of track record on the firm to entice potential investors and bankers. Hence, it is highly dependent on the capability of the owner to generate resources.
Informal management style (Kotey, 1999 and Slade, 2005). For small and medium enterprises, the management is usually informal. The owner has to do almost everything and employees are normally expected to be able to duty as generalists as there is no clear division of tasks.
Flexibility (Aragon-Sanchez and Sanchez-Marin, 2005). The enterprise has more flexibility to adapt to changes in the environment due to its size and informal structure. It is also vulnerable to grow in the enterprise environment. For example, any changes in government policy or technology might have a strong influence on the firms since instant changes require additional resources or capital. This might become a constraint to the firms to compete and sustain itself in the market.
Dependence on individual decision makers (Feltham and Barnett, 2005). The firms are managed and operated by the owner. The entrepreneurs of the business lead the company and play a role as both employee and employer. The growth of the firms is determined by the owner. Decision making is commonly done by the owner.
3. INTERNATIONALIZATION
According to Bell, it appears that internationalization progresses through a number of steps; for that reason, internationalization cannot take place with one action only. There will be some stages required for a firm to participate in the international market, and this process is explained by the some of the theories of internationalization. Business scholars have focused on specific theories with respect to how a company goes global. There are four theories by previous researchers will be reviewed: the Uppsala Model, the Economic view, and the Network View.
Uppsala Model (Johanson and Vahlne, 1977)
In Uppsala Model, they make the distinction between state and change aspect of internationalization variables. They argue that the present state of the firm is the important factor in explaining future changes and subsequent stages. The state aspects are represented by the firms “market commitment” to the foreign market and the “market knowledge” about foreign market and operations. The change aspect is seen as “commitment decision” and the performance of “current business activities”.
The concept of market commitment is assumed to be composed of two factors: Firstly, the amount of resources committed, for example, the size of investment in the market (marketing, personnel, organization etc.); Secondly, the degree of commitment, for instance, the difficulty of finding an alternative use for the resources and transforming them to practice.
Market knowledge is seen as information about markets and operations which is somehow stored reasonable retrieval in the minds of individuals inside the firm, in computer memories or in written reports. International activities require both general knowledge about market operations and market specific knowledge.
Current business activities are the prime source of experimental knowledge for the firm. It could be argued that experience could be gained alternatively through the hiring of the personnel with experience or through advice from persons with experience.
Commitment decisions depend very much on experience since they are a response to perceived uncertainty and opportunities on the market. Decisions to commit further resources to specific foreign operations will more often be taken if experimental knowledge increases. This implies that additional market commitment as a rule will be made in small incremental steps because its takes time to gain experimental knowledge about foreign markets.
The Uppsala model concentrates on the gradual acquisition, integration and use of knowledge about foreign market. According to this model, lack of knowledge is an important obstacle in the development of international operations and such knowledge can be acquired mainly through operations abroad. The gradual acquisition of knowledge increase foreign commitments.
Economic View (Dunning, 1977)
This theory proposed the configuration of the “eclectic paradigm” with regard to the main advantages of internationalization: ownership, location, and internalization. The method with regard to how to manage internationalization is based on the eclectic paradigm and is determined by decisions in terms of location that affect the ability of the company to produce overseas, or simply to export its goods. This theory actually provides strong reasons for internationalization.
Network View (Johanson and Matson, 1988)
This view concentrates on non-hierarchical systems where enterprises invest to support and monitor their role in international networks. Referred to as the network perspective, this research draws on the theories of social exchange and resource dependence, and emphases on firm performance in the context of a network of interorganisational and interpersonal relationships (Axelsson and Easton 1992). Such relationships can include customers, competitors, suppliers, private and public support agencies, and friends, family and so on. Organizational boundaries therefore incorporate both business and social relationships.
The theory suggests three methods of internationalization: International extension, explains how a company initially establishes connections with networks in other countries; Penetration, the firms develops the relationships that arise from those networks, which is described as the penetration method; International integration, the time when the company integrates the networks in different countries.
Based to this research, internationalization determined by on an organization’s set of network relationships rather than a firm-specific advantage. Therefore, externalization (rather than internalization) occurs. The network approach offers a complementary perspective to FDI theory given the latter does not account for the role and impact of social relationships in business transactions (Granvetter 1985). Also, internationalization decisions and activities in the network approach appear as patterns of behavior influenced by various network members, while FDI theory assumes coherent strategic decision-making. The network perspective introduces a “more multilateral element” to internationalization (Johanson and Vahlne 1992, p.12). Interestingly, this perspective has evolved from Johanson and Vahlne’s early work, and reflects their ongoing research exploring the management of foreign market entry. For example, their (1992) study of internationalization in the situation of exchange networks found that even if foreign market entry is the gradual process (supporting the Uppsala model), it follow from interaction, and the development and maintenance of relationships over time. These findings support Sharma and Johanson (1987), who found that technical consulting firms operate in a network of connected relationships between organizations, where relationships become “bridges to foreign markets” and offer firms with the prospect and incentive to internationalize. Related to this, Johanson and Mattsson (1988) suggest that a firm’s success in entering new international market is also dependent on it interactions within present markets than on the market and cultural characteristics.
3.1 Process of Internationalization
There are six steps that have been used for understanding about the internationalization of the small and medium enterprises. This process is not mattered only for the small and medium firms but applied in larger firms as well (Moberg and Palm, 1995 in Jennie and Zetterwall). These steps involved respectively, why internationalization (motives), company situation (SWOT), what (product and service), where (market selection), how (entry modes), and when (point of entrance).
3.1.1. Find out motives for internationalization.
When a company goes internationalization it is often driven by certain stimuli or stimulus. Sometimes external and internal pressure such as competition, excess capacity of resources and a small and decline home markets put pressure on the company for becoming international. Other time firms go international because they want to. They have a unique product that is not widely available from international competitors or a technological advance in a special field (Czincota & Ronkainen, 1995).
3.1.2. Clearly define the current situation of the enterprise (through conducting a SWOT analysis).
To enter a foreign market does not mean new opportunities, but also a totally new situation with new environment and cultures. To find out whether a firm is ready to meet and handle this new situation or not, a complete analysis of the company situation has to be done by using SWOT analysis (Thompson & Strickland, 1995, in Jennie & Zetterwall). Company’s economy, production, personnel, marketing, international experience and language capabilities are some factors those must be analyzed into SWOT analysis (Moberg & Palm, 1995 in Jennie & Zetterwall). Potential markets and marketing environment have to be analyzed to find attractive opportunities and avoid environmental threats.
3.1.3. Decide on the product or service enterprise wish to integrate in this process.
The success of the firm depends on its products offered and on how well the firm is able to differentiate the product or service from what the competitors offer. When a company enters in a new market it should start with a small share of the assortment, mainly quality products or already established products.
3.1.4. Select the right market to penetrate.
When firm decides to enter foreign markets, the customers and market conditions are quite different from their home market. That stage firms need to enhance international marketing strategies considering different aspect of the marketing such as product, price, promotion, place, logistics, competition, and so on. The firm’s strategies decided, whether use to the existing product or develop a new product to serve the foreign market. A firm operating the international marketing should not only identify the product for different markets but should also develop suitable strategies for growth such products. Whether a single standardized can be offered worldwide or a customize product need to be develop for each market is the most significant product decision that firms has to do while operating in international markets. In the international market, decision related to quality, packaging and labeling of product require specific attention and consideration. Product strategy of the firm in international markets is often influenced by cultural context (Joshi, 2005). Therefore, it is a responsibility of the manager/owner to know the taste and preferences of the customer in a target market, and formulate the product strategy according to the marketing conditions. Sometime color, size, and packaging of the product play vital role in the success of the firm (Joshi, 2005).
3.1.5. Decide on mode of entry.
After the selection of the market has been done, the company has to decide how to approach the foreign market. A firm can, for example choose to sell directly to the final consumer, to sell indirectly through distributors and/ or agents, or to produce locally in foreign countries. The choice depend on factors such as, resource of the exporting company, the characteristics of the product, the goal of the internationalization, the distribution culture in foreign markets, and the number and demand of the customer (Czinkota & Ronkainen, 1995).
3.1.6. Find the right moment to do it.
Furthermore, a company has to determine when to enter the foreign market. The company must be sure that market is ready, that the company has enough resources and the right market channel and product for specific market (Moberg & Palm, 1995 in Jennie & Zetterwall).
3.2. The Models of Internationalization
Tookey (1969) developed an early example of modeling progression through various steps, pre-dating the Uppssalla model; this involved the advancement of the firm from exporting, to international marketing and finally international business The behavioural approach of the Uppsala views internationalization as having four stages (Johanson and Wiedersheim-Paul 1975, Johanson and Vahlne 1977) while Bilkey and Tesar (1977) identify six steps, Aijo (1977), Cavusgil (1980) and Reid (1981) identify five, while Czinkota (1982) identifies six.
Johanson and Wiedersheim-Paul (1975), Johanson and Vahlne (1977)
Bilkey and Tesar (1977)
Stage 1: Management not interested in exporting; Stage 2: Management willing to fill unsolicited orders but not effort made to explore feasibility of actively exporting; Stage 3: Management actively explores feasibility of active exporting; Stage 4: Firm exports experimentally to psychologically close county; Stage 5: Firm is now an experienced exporter; Stage 6: Management explore feasibility of exporting to psychologically distant countries.
Cavusgil (1980)
Stage 1: Firm sells only in domestic market; Stage 2: Pre-export phase, the firm searches for information and evaluates feasibility of starting to export; Stage: Experimental involvement, firm begins exporting to psychologically close country; Stage 4: Active involvement, exporting to more new countries, direct exporting and increase in sales volume.
Czinkota (1982)
Stage 1: The completely uninterested firm; Stage 2: The partially interested firm; Stage 3: The exploring firm; Stage 4: The experimental firm; Stage 5: The experienced small exporter; Stage 6: The experienced large exporter.
Reid (1981)
Stage 1: Export awareness, problem of opportunity recognition and arousal of need; Stage 2: Export intention, motivation, attitude, beliefs and exporting about exporting; Stage 3: Export trial, personal experience from limited exporting; Stage 4: Export evaluation, results from engaging in exporting; Stage 5: Export acceptance, adoption of exporting or rejection of exporting.
4. DRIVERS AND BARRIERS TO INTERNATIONALIZATION
There must be some objectives behind the decision to go international. Leonidou, Katsikeas and Percy (1998) determine that organizations are typically willing to market themselves internationally for four reasons: First, it may be due to slow growth in the domestic economy as evidenced by a reduction in the number of the home market opportunities. Consequently, an organization will look for other opportunities by entering new international markets (Chandra, Styles and Wilkinson, 2009). Second, there may be a trade deficit followed by currency devaluation and a number of export restrictions. Third, the world trading system may become more liberalized leading to a minimization of international market entry barriers. Forth, it might be more intensive global competition in the global business environment.
All these trends have developed the dynamic of exports. The creation of exports is not only due to the self-initiative of a company, but also by the government. This is also confirmed by Gripsrud (1990) who suggests that the government of a country may believe their firms to think globally by expanding their service areas to foreign markets, due to the expectation of an increasing volume of exports from the country. Thus, it will help the economy of that country.
Improved technology and communications have made it easier for firms of all sizes and in various locations to do business with each other. The globalization of large firms and service providers has provided increased opportunities for SMEs to participate in different parts of the value chain of those companies (OECD, 2004). New and innovative corporate approaches, including more network-oriented operating models, provide more opportunities for SMEs to conduct business with larger firms. Better dissemination of management education and business tools has enhanced the competitiveness and quality of businesses across the spectrum. The reduction of language barriers and lower cost of travel have also facilitated internationalization.
These factors provide substantial international opportunities for entrepreneurial SMEs, which often have greater flexibility and are better able to internalize market information than large firms (Liesch and Knight 1999). Certainly those firms which are growth oriented can benefit tremendously from pursuing larger and new niche markets, exploiting scale and technical advantages, upgrading of technologies or lowering and sharing costs, including R&D costs. Pursuing international opportunities is also a way of spreading risk and can also improve access to finance. Substantial knowledge and capabilities are also gained in the process, greatly enhancing the competitiveness of the firm.
In order to identify the term ‘internationalization’ with the main focus of the thesis, Coviello and McAuley (1999) stated that not only large organizations, but also small and medium sized organizations, can become global. In addition, they also state that the international expansion of an SME is certainly useful when it comes to contributing to the economic growth and prosperity of a country. However, one thing that should be remembered is that not every SME is ready to expand into international markets. Despite the fact that they have small or medium sized organizations, there must be some factors and limitations in terms of finding global market opportunities. Such factors have been explained earlier, and some limitations such as insufficient financial, human or production resources on the part of an SME, might minimize the chances of internationalization (Leonidou, 1995). All of these factors and limitations will affect the decision whether or not to go international.
The preview literature on internationalization has discovered a number of barriers that SMEs face in their attempt to enter foreign markets. These include both endogenous and exogenous factors. Endogenous factors consist of lack of knowledge of foreign language, cultural familiarity, poor knowledge of foreign market information, and fear of foreign market risks and so on. Meanwhile exogenous inhibitors include of financing problems, technical barriers, and slow export procedures (Moini, 1997 in Rutashobya and Jaensson, 2004). In an attempt to explain the existence of large multinational companies, Dunning (1981) cites ownership advantages as one among the facilitating factors. Such benefit is lacking in small firms. Small firms lacking in financial resources, management and marketing skills, previous export experience and so on (Dunning, 1981, in Rutashobya and Jaensson, 2004). There is a growing literature suggesting that small firms may have to rely on networks and relationships to overcome their size disadvantages as they internationalize (Madhok, 1997 in Rutashobya and Jaensson, 2004). Small firms may also have to rely on networks to overcome their separation in the current globalize market.