Learning to sell in new markets: A preliminary analysis of market entry by a multinational firm

• DOI: http://doi.org/10.1111/roie.12369
• Author: James R. Markusen,Ignatius J. Horstmann
• Date: 01 November 2018
• Published date: 01 November 2018

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wileyonlinelibrary.com/journal/roie Rev Int Econ. 2018;26:1040–1052.

© 2018 John Wiley & Sons Ltd

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INTRODUCTION

It is common for a multinational enterprise (MNE) entering a new foreign market to export to that

market from an existing production facility and to contract initially with a local distributor who serves

both as the importing agent and wholesale distributor. Nicholas (1982, 1983), for instance, notes that

among his sample of British multinational firms operating during the pre‐1939 period, 88 percent sold

their products initially under a contract with a local agent in the foreign country before converting to

direct sales or production branches. In instances where conversion to direct investment did occur, the

period of agency varied from 4 to 25 years. According to Nicholas, the historical record indicates that

the decision to terminate the relationship was a conscious one on the multinational’s part (as opposed

to being the result of business failure by the agent) based both on a desire by the firm to avoid agency

costs and on its having learned, through the agency arrangement, that information on local market

characteristics that made the agency contract valuable in the first place.

Nicholas, Purcell, Merritt and Whitwell (1994) provide survey data on direct investment by

Japanese multinational firms into Australia. Of the firms responding, 60 percent indicated that they

DOI: 10.1111/roie.12369

SPECIAL ISSUE PAPER

Learning to sell in new markets: A preliminary

analysis of market entry by a multinational firm

Ignatius J. Horstmann1

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James R. Markusen2

1Rotman School of Management,University

of Toronto

2Department of Economics,University of

Colorado, Boulder, Colorado

Correspondence

Ignatius J. Horstmann, Rotman School of

Management, University of Toronto.

Email: ihorstmann@rotman.utoronto.ca

Abstract

We consider the multinational firm’s decision on whether

to enter a new market immediately via direct investment

or to contract initially with a local agent and (possibly)

invest later. Use of a local agent allows the multinational

to avoid costly mistakes by finding out if the market is

large enough to support direct investment. However, the

agent is able to extract information rents from the multina-

tional due to being better informed about market charac-

teristics. We derive the optimal sequence of agent contracts

and discuss situations in which the multinational contracts

initially with a local agent and then converts subsequently

to an owned sales operation.