Hoping to profit from a wave of investment in China by large multinationals, small and mid-sizedenterprises (SMEs) based in Germany flocked to that country in the 1990s. China’s government welcomed them: like many other countries, China was intrigued by Germany’s Mittelstand firms— usually stable, technologically sophisticated, family owned firm —and wanted to learn from them. But despite the welcome—or perhaps because of that desire to learn from the newcomers— China often required the newcomers to establish formal joint ventures with Chinese partners. This requirement did not diminish the German SMEs’ interest; indeed, many Mittelstand firms saw the joint ventures as a way to get acclimated in China.

Today, though, the partnership requirements have eased for the approximately 5,200 German firms invested in China. As a result, most German firms have decided to go it alone in the Chinese market. Turck Technology, a family-owned German industrial automation company with annual sales of around €500m, is a case in point. It established a wholly owned subsidiary in China rather than partner with a Chinese firm. Its aim was to maintain control, ensure consistent quality, and protect its designs. The firm’s Chinese sales are about €40m a year, “the same level as our competitors,” says Christoph Kaiser, Turck’s managing director.

By now, only 12% of the German companies invested in China use formal joint ventures, says Alexandra Voss, executive director of the German Chamber of Commerce in north China. “Where the former joint venture requirements no longer exist, German companies tend to purchase the joint venture shares from their former partner rather than extending the agreement,” she says.

JOINT-VENTURE “LIGHT”

Between the two extremes—a formal joint venture and a go-it-alone subsidiary—there is a wide range of looser partnerships possible between SMEs in different countries. Among the most popular such tie-ups are those involving licensing and technical co-operation agreements. The challenge for SMEs in these arrangements—as in full-fledged joint venture deals—is to preserve their proprietary information while benefitting from enhanced access to the local market.

For example, James Cropper, a family-owned UK paper maker, expanded internationally in recent years, to the point where around half of its £88m revenue now comes from export markets. In China, it signed a technical co-operation agreement with a local firm to design fibres for high-end carbon bicycles. Despite cooperating on adapting products for the local market, the agreement sets strict guidelines to protect James Cropper’s know-how. “We wanted to keep control of intellectual property,” says its CEO Phil Wild.

Licencing agreements are another way to boost foreign sales without requiring a formal joint venture. Under such agreements, a local company buys the rights to market (and sometimes produce and develop) the exporting firm’s brand or products. The local partner does not have equity rights, making such agreements popular among small exporters with limited capital.

Australian pharmaceuticals firm Suda and its Chinese partner Eddingpharm provide an example of a licencing agreement. Suda, with revenues of just A$6.3m a year, would have struggled to afford to expand into China in its own name, or to invest in a joint venture. In late 2015, it signed a licensing agreement with Eddingpharm to produce and sell its drugs in China. Among the sweeteners for Suda: an upfront payment of US$300,000 and another US$200,000 when its product is registered in China. For small companies, licencing can offer an immediate cash injection, as well as a way to enter new markets.

A “lighter” variant of a licencing agreement is a simple sales-representative deal, in which a local firm contracts to market, sell and distribute the exporting firm’s products in the target market. David Butler, CEO of the South African Chamber of Commerce in London, says many of his country’s food exporters take this approach in the UK, benefiting from the market reach of UK retail chains and specialist distribution firms.

Such arrangements can help to avoid the biggest danger inherent in full-fledged joint ventures: their high failure rate. McKinsey, the management consultancy, estimates that up to 60% of international ventures fail.1 Among the major problems: partners may have incompatible objectives, for example with one wanting to maximise long-term market share and the other wishing to make a quick profit. The US advisory firm Water Street Partners finds that around twothirds of joint venture CEOs say the owners are misaligned on long-term strategy and on budget issues.2 A more limited technical co-operation agreement can sidestep such fundamental issues.

MATCH-MAKERS

What all these partnerships—the full-fledged joint venture agreements and the “lighter” variants— share in common is the marriage of an exporting firm’s product know-how and a local firm’s market expertise. Regardless of the form that a partnership takes, the fundamental questions apply: how to find the right local partner, and how to structure the agreement to avoid common pitfalls.

“That’s the million dollar question,” says Mr Harris, the US lawyer. “[The answer] is usually based on the [specific] business involved. If you are an educational software company, you think about partnering with the top one or two companies in China that distribute or sell educational software. If you make high-end [technical] widgets, you may partner with the one or two best high-end widget companies in China—whose widgets, though high-end for China, are not nearly as good as yours, and therefore they could use your help. You find these companies yourself, or you hire a consultant to help you find them.”

The routes to finding foreign partners vary. James Cropper found its Chinese partner via the contacts it had made in the country by selling there directly. It sought out Chinese partners with expertise and complementary skills for its high-end fibres division. It also looked for Chinese firms with industry contacts and specialist expertise to sell to high-end bicycle manufacturers.

Indeed, the search for such partners is often mutual, with Chinese firms eager for foreign partnerships. Eddingpharm, the pharma company licensing products from Suda, first entered the business via licensing deals with multinational pharma companies Novartis and Baxter in the early 2000s. In 2012, backed by international investors, Eddingpharm established a US subsidiary to seek out other product lines for distribution in China, as well as deals to develop and market such products. Among its wins: an agreement with Suda to develop and market an insomnia drug which the small Australian company would have struggled to sell in China on its own.

Companies that lack contacts in a target foreign market often turn to consultants for help. Firms such as Prospect Chinese Services, which is staffed by Chinese nationals and has offices across the UK and China, advise clients ranging from hotels and universities to car manufacturers wishing to enter the Chinese market. It claims to offer a ‘one stop shop’ for UK companies, comprising market research and market entry strategy services, support with first contacts, and advice on negotiations.

Other match-makers include government export promotion agencies, which compile large databases of foreign companies and can put exporters in touch with potential foreign partners. Erin Butler of the US Export Assistance Centre says that US SMEs supplying the oil industry approached her for contacts in growth markets such as North Africa. Like James Cropper, the US oil industry suppliers also used their domestic sales forces to make initial contacts with potential foreign partners. The search criteria for finding the right local partners tend to be similar, across a range of businesses: that is, local partners who supply expertise, skills and contacts that are complementary to those of the exporting SME.

ACQUISITIONS-PLUS

Exporters making a long-term commitment to a foreign market often acquire a local company to establish a stable presence in that market. One example is Palfinger, an Austrian SME and construction-machinery maker, which bought companies across the world to access their markets and to diversify away from over-reliance on building mobile cranes. Its foreign plants gave Palfinger a lower-cost, more flexible production base to supply new markets, which in turn helped it to withstand a series of economic storms.

A buying spree was not Palfinger’s sole expansion tool, however. It also established joint ventures with local companies in some major export markets, particularly in China and Russia, using the partners’ local market dominance to boost its own sales. In 2012 Palfinger established two joint ventures with SANY, China’s biggest manufacturer of construction equipment. One of the ventures was established to sell Palfinger products in China, and the other to distribute SANY products outside of the country. In 2013 the companies agreed to a share swap, with SANY taking a 10% stake in Palfinger in exchange for an equal stake for Palfinger in one of SANY’s operating units. For Palfinger, this helped to cement a deep presence in China, while for SANY the deal boosted its own globalisation efforts.

In 2014, Palfinger set up two more joint ventures, this time with Russia’s largest truck maker Kamaz. One builds chassis to hold Palfinger’s mobile cranes, and the other produces cylinders for construction machinery. Under the deal, Palfinger agreed to invest in modernising the production plant. In return, Palfinger gained entry to Russia’s specialist construction machinery market. “We couldn’t buy them [SANY and Kamaz],” spokesman Hannes Roither says drily when asked why the firm chose joint ventures.

Significantly, the local ventures provided a buffer when local markets weakened, due to their strong local customer base. “There have been serious market crashes in both countries” in recent years, Mr Roither says. “But we were able to protect our own sales by increasing market share when foreign competitors withdrew from the country.”

Similarly, the German luxury hotel group Steigenberger set up a joint venture with a local company to accelerate its expansion into India. Steigenberger owns 116 hotels in 12 countries, generating 2013 revenues of €500m. In 2016 it announced a joint venture with MBD, an Indian hotel group, with Steigenberger retaining a controlling stake. MBD will manage the joint venture including sales, while the German company will manage international marketing, training and brand development.

The companies have complementary skills, with Steigenberger a leader in five-star hotel management and MBD an established player within India. Also, and equally crucially, they share the same aim: the rapid roll out of luxury hotels in India. The joint venture plans to open 20 hotels over the next 15 years. Managing Director Sonica Malhotra Kandhari says it would take between three and five years for either partner acting alone to open a single hotel.

KEYS TO SUCCESS

Structuring any type of partnership agreement with a foreign partner can be tricky, says Dan Harris, a founder of the US law firm Harris Bricken, which specialises in joint ventures in China. He advises clients to keep a majority stake in a joint venture, and to protect their intellectual property zealously regardless of the nature of the co-operation. He offers the cautionary tale of a US firm whose Chinese partner began to manufacture the US partner’s products under the Chinese firm’s name. Some remedies are simple: “Many times we find that the [US] company had not registered a patent in China,” Mr. Harris says.

Beyond that, a key to success is to look carefully at the fundamentals: ensuring that the partners’ skills and expertise are complementary to those of the exporting SME; establishing that the aims of both partners are aligned; and making long-term commitments to the target markets. These elements—complementary skills, similar aims, and long-term commitments—are as close as an SME can come to finding a recipe for success in forming international partnerships.

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A small or mid-sized enterprise (SME) establishing a presence in a new foreign market faces steep learning curves on several fronts. It must familiarise itself with the needs and preferences of a new market, ensure compliance with a new set of laws, find and train local staff, arrange financing, and sometimes learn a new language at the same time.

In the excitement of establishing a foothold in unfamiliar terrain, small firms can overlook a less glamorous aspect of the process, but one that is crucial to success: ensuring that components, raw materials and finished products reach their destinations on time, in good condition and at competitive prices. That task—establishing supply chains and distribution channels—falls to logistics managers; the quality of their performance can make the difference between a successful international expansion and an expensive disappointment.

Logistics pitfalls abound even in an SME’s home market, and can be compounded when using an overseas manufacturer. One typical example, involving underestimating shipping costs, is related by Entrepreneur magazine1, a North American publication focused on small business. A small California supplier of wedding-cake toppers, Younique Boutique, received an order to ship wedding toppers to a television production set. When the order ballooned unexpectedly to 280 toppers and the television production set was belatedly revealed to be in Hawaii, the SME’s founder and CEO scrambled to fill the order using a manufacturer in China. Under time pressure, and without accurate information on the shipment method to be used by the Chinese plant or the added price of a rush order, the owner guessed that the added shipping cost would be $5 per item—an underestimation that ultimately cost the firm $800.

HIRING DELIVERY EXPERTS

Mistakes made under time pressure are hard to avoid, but the main lesson here for SMEs is clear: Regardless of where they operate, attention to the nuts-and-bolts of logistics is an important aspect of successful entry into a new market. 

To avoid costly logistical problems, many newly internationalising SMEs outsource the logistics function, both for inbound components and returns, and for outbound finished products. They look for experienced logistics services providers, using either partners they already employ elsewhere, or local firms, or a combination of the two. This enables them to concentrate on their core business and leaves the details of deliveries to firms with distribution expertise in the new market. 

Consider UK-based Childrensalon, which sells high-end children’s clothing via its website and through a shop in Tunbridge Wells, UK. It increased its sales tenfold over the past five years (to £63 million in 2016) by selling internationally via its web site. This expansion required a heavy investment in logistics, including building up the firm’s packaging staff and warehousing capacity, as well as updating its IT systems. For deliveries, however, Childrensalon relies on five international freight firms including UPS and DHL. “We found that some companies were more efficient than others for deliveries in certain parts of the world,” says human resources director Denise Hamilton, adding that selecting providers for each new market was a process of “trial and error”. These outside providers manage the paperwork, such as customs clearance, as well as the actual deliveries.

Childrensalon is hardly alone in outsourcing freight services in new markets. Toby Gooley, editor of the US-based Supply Chain Quarterly, says that most companies, large and small, outsource distribution to avoid devoting time and resources to a non-core activity. While freight services provided by a third party come at a cost, outsourcing this function means an SME saves on dedicated staff to deliver goods and to ensure legal compliance with import and export regulations, as well as saving the direct costs of buying and maintaining delivery vehicles.

For a largely web-based company such as Childrensalon, outsourcing freight operations has allowed it to sell, and source, worldwide: it now offers more than 270 different brands and sells to more than 120 countries, fuelling rapid sales growth in recent years. Given that complexity, outsourcing freight operations was a must—even if that meant paying the costs of both initial deliveries to customers and return deliveries when customers do not want an item they ordered. The cost of return deliveries, in particular, cuts into the margins of an online retailer, but is an unavoidable cost since customers cannot physically see or try the goods they order online.

So, for example, Childrensalon pays freight services providers such as UPS or Fedex £9.95 per delivery to an address in the United States, and a similar amount if the customer decides to return the item. The firm pays freight providers £3.95 for delivery to a UK address. Ms Hamilton says that the higher US delivery charges are passed on to US customers (who must also pay return postage costs themselves), who pay them because the charges are relative low compared to the high cost of the high-end products involved. While this works for Childrensalon, high delivery costs in export markets could hurt companies in more competitive industry segments by pricing their products out of reach.

In general, experts say distribution and logistics services can add 10%-15% to the cost of goods.2 One concern highlighted by Childrensalon is that SMEs often fail to shop around extensively among alternative freight suppliers, even though the cost of freight services can dent competitiveness. Jim Edmondson, CEO of the UK aerospace company Gilo Industries, a privatelyheld group with 2016 revenues of £3.2 million, is one example among many. His company is about to expand from a specialised to a wider consumer market, but so far is relying on a single supplier, UPS.

Gilo makes a very lightweight engine which can be carried in a backpack to create a powered paraglider (avoiding many of the stringent regulations for conventional aircraft), among other applications. With sales of a few hundred units a year of products costing thousands of pounds apiece, logistics has not been a great concern. Gilo has hired UPS to deliver worldwide, and will pass delivery costs on to customers. This is a practical solution for the firm at a busy time. But with sales expected to increase to the thousands of units when the new product is launched, logistics costs may become more of a factor in the firm’s profitability.

KEEPING CORE LOGISTICS IN-HOUSE

While some firms outsource product deliveries, they also keep some mission-critical functions in-house. As noted above, for example, Childrensalon invested in a made-to-order IT system to manage dispatching of products from a warehouse in its home town. Due to the surge in sales and international deliveries that followed its online expansion, the firm recently added two warehouses on the same industrial estate. It also increased its packing and fulfilment staff to 90 people, nearly one-third of its total staff. Centralised distribution makes sense for a company selling to so many different markets: the cost of setting up warehouses abroad would have been prohibitive. More importantly, the in-house central warehousing function allows Childrensalon to retain direct control over a critical service—dispatching products as specified in customers’ orders—and to provide direct customer support when needed.

The use of Childrensalon employees to answer customer queries and provide comprehensive product information before purchase has paid off by keeping return rates very low, the firm says. According to Ms Hamilton, only around 10% of orders are returned. This compares to an estimated returns rate of 25% for women’s fashion items in the UK, according to an executive of retailer John Lewis.3 Cutting the rate of returns translates into an improved bottom line. The consultancy Clear Returns says that returned orders cost UK retailers £60 billion a year, a third of which is generated by online retailers.

Managing returns is particularly important for companies trading internationally, where the cost of deliveries from and to the home base are typically higher than for domestic deliveries. Raj Sandhan, managing director of UK distributor Metro Health and Beauty, experienced the difference first-hand when it sourced cosmetics in the US. He says that freight charges of 8-10% on US imports, on top of import tariffs, cut deeply into profit margins. “Together, freight and tariff charges can easily wipe out half of an exporter’s margins,” Sandhan says. Metro turned instead to cosmetics manufacturers in France to reduce both tariff and transport costs, and deals with suppliers there directly.

The heavy capital cost of setting up foreign logistics centres (such as warehouses) mean that companies expanding into new foreign markets generally outsource this function at first. They are more likely to invest in such centres when they are well established in the foreign market and therefore can predict demand, says Christopher Van Riet, managing director of Russian logistics provider Radius Group. Metro’s Sandhan agrees, saying that firms tend to use external distributors for the first two to three years in a foreign market.

Van Riet cites the example of John Deere, a large American agricultural machinery maker that started local assembly of its products to facilitate sales to Russian dealerships. Initially, it leased a turn-key assembly plant built by Radius, which bolted together a small number of components imported from the US. Over several years, John Deere built up its own manufacturing operation to take on more complex work; it also started to use more Russian suppliers of components. Although it needed to assemble locally to avoid Russian import tariffs, John Deere built up its manufacturing and logistics operations gradually, to avoid heavy upfront investment in an unproven market.

This approach is different from that of retailers, who—due to the fast-moving nature of their business—are more likely than heavy-goods manufacturers to see warehousing as mission-critical. “Retail stores can open and shut,” says Van Riet. “The key for supermarket chains is [control over] warehousing and distribution, so that they can maintain and deliver goods to stores reliably.” 

For example, Auchan, the French supermarket chain, said in October 2016 that it will spend over US$100 million on a big logistics and distribution centre near Moscow. It used Radius to develop the project but has kept direct control over the facility. Initially, it will service Auchan’s existing 50 stores in the region. But with capacity to load and unload more than 200 trucks simultaneously, 

the warehouse is expected to help with future expansion of the retailer’s store network in Russia. Like Childrensalon, Auchan regards control of warehousing and stock as too crucial to outsource. 

Similarly, Ted Baker, a UK fashion brand with 2016 turnover of £456 million, plans to consolidate warehousing and distribution after a period of rapid international expansion. Previously, the firm used three separate distribution centres, which it combined into a single large warehousing and fulfilment centre in Derby, UK in May 2016. Centralising distribution into a single, highly automated, location open around the clock will save money, as well as giving it extra capacity to serve a growing international market, the firm says. On the other hand, in contrast to Auchan, which will manage its warehousing function with its own personnel, Ted Baker outsourced management of its new logistics centre to a logistics supplier. The provider not only bore the upfront cost of setting up the consolidated warehouse, but also provided the IT systems to manage inventories and deliveries.

Given the diversity of SME approaches to balancing in-house control and outsourcing of logistics functions, warehousing and logistics providers are offering increasingly sophisticated menus allowing SMEs to pick and choose the services they want. Some services involve only freightforwarding— organising shipments from the producer to the final customer or distributor. Others are broader, and might encompass, for example, managing online sales, arranging transport including documentation, and delivering goods to customers. The Royal Mail, the UK’s privatised postal services provider, has agreed on such a comprehensive system for Alibaba, the Chinese e-commerce web site. Under this arrangement, the Royal Mail will establish a sales web site for British firms selling via Alibaba, and will deliver the goods to UK customers. 

Choosing a supplier requires research into each supplier’s specific expertise. Ms Gooley of Supply Chain Quarterly says that certain logistics providers specialise in particular industries, others have a certain geographic focus, and still others perform the whole gamut of logistics functions worldwide.

MIXING AND MATCHING

It remains for SMEs to decide on the best balance between controlling their own logistics and outsourcing some of those functions. Some creative mixing and matching of logistics functions— some in-house and some outsourced—may be required. Matt McInerney, vice president of global forwarding sales at the US third-party logistics provider C.H. Robinson, gives the example of an upmarket US kitchen equipment maker that wanted to expand into the UK. C.H. Robinson set up this company’s warehousing operations in the UK, sparing the client a heavy upfront expenditure. However, the kitchen equipment maker kept many operational functions in-house, for example running its own fleet of 18 trucks to deliver products to a network of more than 100 dealers.

The same principle—choosing what functions to outsource, and avoiding over-reliance on an external supplier—applies as well to outsourced manufacturing and product-assembly services. Supply chains begin with suppliers—of finished products or components or various functions such as freight services—and therein lies a risk for SMEs entering a foreign market. The risk is that an SME will over-rely on a crucial supplier that later fails, causing knock-on problems for the SME.

UK toy-maker Hornby, which had 2016 revenues of £56m and is best known for its model railways, found this out the hard way. The firm had largely relied since the 1990s on a single Chinese supplier of manufacturing services, Sanda Kan. After a series of ownership changes from 2000, the Chinese firm encountered financial difficulties and was bought by Kader Holdings (owner of one of Hornby’s main competitors, Bachmann) in 2009. From 2012, Hornby found that supplies of its products became erratic, with many containers arriving without needed products, as the supplier could not fulfil orders. That hit Hornby’s sales and its bottom line. Hornby paid £500,000 to sever its contract with the Chinese company. To avoid a repeat of the problem, and to diversify its supply chain and reduce risk, it replaced Sanda Kan with ten different Asian suppliers.

CONCLUSION: THE TECHNOLOGY ADVANTAGE

The cost of logistics—sometimes overlooked amidst the challenges of entering a new foreign market—can prove dangerous to an SME’s profit margin. Some SME’s take this risk in stride, choosing to work for thin margins as part of the cost of establishing their brands abroad. The lucky few with a unique market niche, such as Gilo Industries or Childrensalon, can keep margins healthy by passing freight costs on to customers. But whether margins are thin or not, SMEs must find the right balance between hiring outside experts to provide supply management and logistics services and performing these functions themselves in an unfamiliar new market.

The bigger picture related to the cost of logistics is that the logistics function itself is undergoing a profound change, as sellers of a wide range of goods shift from distribution through physical stores and warehouses to global sourcing and fulfilment of orders via e-commerce web sites. Added to this transformation are potentially revolutionary changes in the nature of transport, such as the use of delivery drones or self-driving delivery vehicles. These innovations all rely heavily on information technology; it follows that SMEs with sophisticated IT systems will have an edge in securing the best and most cost-effective logistics support.

As a first step, advances in communication technology can help SMEs both in researching potential logistics suppliers and managing providers once they are chosen. Information technology can also simplify logistics functions, and can aid SMEs in taking advantage of technological advances in distribution and delivery. Childrensalon’s web site, for example, streamlines the sales and fulfilment process, in part by detecting where a customer’s computer is located and automatically translating product data and pricing into the local language and currency.

But automation only goes so far; sometimes firms have to intervene manually to fill logistical gaps. “One of our staff once flew over to the US to deliver a very expensive dress on time,” when delivery otherwise would have been delayed by a holiday, recalls Childrensalon’s Denise Hamilton. That is a shoe-leather approach to logistics: doing whatever is necessary, including wearing out one’s shoes, to ensure that products reach their destination on time. It is the sort of thing that modern logistics, backed by sophisticated communication technology, is designed to avoid. “Many SMEs see distribution and logistics purely as a cost,” says Ms Gooley. “In fact it is an investment.”

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To a greater extent every day, information technology is levelling the playing field for small and mid-sized enterprises (SMEs). Export markets, in particular, are no longer the exclusive domain of large players with the resources to field global sales and production staffs. Today, even startups can use the Internet to sell abroad, and to commission foreign firms to produce their designs cheaply.

For some new firms, in fact, geographical boundaries hardly come into play at all: they market and sell to consumers worldwide directly, becoming global players almost from the start. A good example is Skype, an Internet phone service set up by two Scandinavian entrepreneurs in 2003. In short order, Skype grew from a start-up to a global player with US$2 billion in annual revenues.

Skype is a classic example of a ‘micro-multinational’, a phrase coined by Google chief economist Hal Varian to describe small firms that acquire a global presence by using technology. However, such instant international presence is more the exception than the rule. Most small companies have to build an international presence the slow way, by building up their brands and creating networks of international business partners. Information technology helps in this effort, but does not produce instantaneous results as it might with specialised communications services providers such as Skype.

Indeed, even technology companies typically need a certain scale and an established brand to expand beyond their home markets. A good example is IceMobile, a Dutch company that creates mobile apps and has launched a successful drive abroad. The firm did do so by first establishing its brand in the Netherlands, and then partnering with another Dutch firm with a complementary product—brand loyalty programmes—to expand abroad. Its experience illustrates that, for most mid-sized firms a certain initial size and heft in the home market is a prerequisite for export success.

Broadly speaking, technology has helped to foster three types of SME exporter. First, there are companies such as IceMobile with established brands at home, which can use technology to export their business models. Second, there are so-called ‘born global’ firms such as Skype, which sell products globally right from the start-up phase. And third, some mid-sized companies use technology to outsource and offshore a core activity.

VENTURING ABROAD

Although technology is fostering a new generation of smaller, export-focused companies, this development should be seen in perspective. Most SMEs remain focused on their home markets and have no plans to venture abroad anytime soon. This is particularly true of SMEs based in large markets such as the United States. US statistics show that 304,000 out of the country’s 5.8m companies—only 5.5% of the total—exported in 2014.1 Moreover, most of those exports went to neighbours Canada and Mexico. “The domestic market is big enough to grow sales in by itself, and small companies often lack the resources to export,” explains Erin Butler, a commercial officer of the US Commerce Department’s Export Assistance Centre in New Orleans.

Most European SMEs focus on their national markets, too, despite the advantages of the European single market. Only about one-fourth of continental European companies trade internationally, according to the Confederation of British Industry (CBI). In fact, the figure is driven upwards by Germany, where more than half (54%) of all manufacturing companies export, according to the Deutscher Industrie- und Handelskammertag (DIKW), an industry body. In the Netherlands, a big trading country, around 20% of firms export, often as suppliers to local multinationals, says the Dutch business federation MKB.

Similarly, France has comparatively few exporting companies, with foreign trade dominated by a relative handful of large firms. In a recent survey, United Parcel Service, the world’s largest package delivery company, found that only 10% of French companies export.2 French government figures show there are only 120,000 French exporting companies, a third of the number in Germany. In the UK, just 8% of companies export directly, and another 7% supply foreign markets indirectly as part of multinationals’ supply chains, the CBI says.

Yet there is evidence that the Internet is changing this picture, encouraging more SMEs to look abroad for growth. For example, Petit Bateau, a privately-owned French children’s clothing company with 2013 sales of €300m, now sells successfully to other European countries over a website launched in 2006. The web site built upon an international chain of shops started by Petit Bateau in 2001, which, in turn, built on a mail-order business the firm started in the late 1980s. The web site, in short, enhances the firm’s international offering, but is not the basis for it. The basis is a fashion business that was developed over decades in the home market, and then expanded through mail order and traditional bricks-and-mortar shops.

Similarly, the director of a successful UK fashion brand, which now earns around half of its £380m annual revenue in foreign markets, expects explosive growth from Internet sales—but sees this growth as building on the firm’s existing brand strength. “The Internet technology became available for us to increase our presence abroad around six years ago,” says an executive of 

the firm, who requested anonymity. The web site automatically detects where a user is based, enabling options such as home delivery or “click and collect” at a local store. 

As with Petit Bateau, these marketing channels complement, rather than replace, an established foreign presence. The UK firm opened its first foreign store in the US in the late 1990s, and then steadily built up a network of shops worldwide, as well as supply arrangements with foreign department stores. As these examples show, the companies that benefit most from leveraging their established brands via the Internet are often those occupying a specialised market niche, such as a fashion brand or a unique technology.

‘BORN—OR RE-BORN—GLOBAL’

Many ‘born global’ companies, in contrast, sell a high-technology product internationally right from the start. As noted above, Skype and social media platforms such as Facebook fit this description. Another example is Bausey Medical Solutions, a US firm marketing a medical diagnostic app. The firm says it has attracted interest from Europe as well as the US. In Germany, start-ups such as SoundCloud, a global online audio distribution platform, and the photo-editing and photo-sharing app EyeEm, have quickly built a global presence. 

In some cases, the growth afforded by Internet marketing is so rapid that a company is, in effect, ‘re-born global’. IceMobile, for example, built an established national presence by providing mobile apps for Dutch companies such as ABN Amro bank and the Albert Heyn grocery store chain. It then proceeded to build an international presence. In 2012 it merged with another Dutch company, BrandLoyalty, which produces loyalty programmes for retailers. Most of its revenues now come from foreign markets, as the combined company uses IceMobile technology to offer shoppers mobile access to their accounts. Clients include companies such as Lowes Foods (US), Dutch-owned SPAR China, and Danish retailer Coop, says its chief executive Jeroen Pietryga. “The possibilities are increasing fast,” he adds, pointing to the possible use of customer data to design and implement loyalty schemes.

Similarly, Globalstar, a listed US communications company, grew quickly in international markets after making major technology investments. “It cost us US$1bn to launch our satellite network,” says Jay Monroe, Globalstar’s chairman, with industry backers including Deutsche Aerospace and Vodaphone funding the launch of a system that supports satellite phone and data transmission. That investment enabled the company to occupy a niche selling global positioning and tracking devices, including satellite phones for individuals visiting remote regions. 

Mr Monroe talks of bringing the retail price down to US$100 (less than half of the launch price at the start of next year). “The potential market could be 500,000 units a year in time,” he claims, with interest from the major car makers (looking for reliable connectivity for their vehicles) as well as retailers. That would be a large increase for a company with 2015 revenues of US$90.5m. The potential is being factored into its share price: the company is valued at more than US$1bn. Like IceMobile’s, Globalstar’s experience shows that technology companies can tap into global markets to win rapid growth, but must have an initial scale and established technology to do so.

OUTSOURCING AND OFFSHORING A CORE ACTIVITY

Mid-sized companies can also expand abroad in a third way: outsourcing a core activity, such as manufacturing, to a foreign partner, using information technology to ensure close adherence to product specifications and guidelines. Mid-sized manufacturers based in Germany in particular have led the movement to move manufacturing to lower-wage partners in Asia and Eastern Europe. In many cases, such moves are in response to technology-driven offshoring of production by the SMEs’ key multinational customers.

This pattern is well established, and predates the Internet revolution. Many German mid-sized firms set up production in Asia as they followed their multinational customers there; leading automakers, for example, have been manufacturing in China since the 1980s. The German Chamber of Commerce says that more than 5,000 German firms now operate in China and that, with local production so well established, attention has shifted to exploiting the huge Chinese market. By now, 93% of German firms say that they are in China for its sales potential, while just 43% are there because of lower production costs.

The shift wrought by information technology is not that it allows firms to outsource or offshore core activities, but that it makes it much cheaper and easier for smaller companies to follow the lead of bigger companies in doing so. A good example is Bowers & Wilkins, a UK company that produces loudspeakers and other audio equipment. Three quarters of its £125 million annual revenue comes from a plant it opened in China to cut costs. That plant allowed it to market speakers priced at just a few hundred pounds, compared to the £35,000 price of some of its UKmanufactured systems (or up to £1 million for a bespoke stadium system). 

Beyond facilitating offshoring, the Internet combined with technologies such as 3D printing and automated manufacturing are changing the nature of manufacturing itself. A case in point is Local Motors, a US company that uses open-source online vehicle designs and then manufactures the vehicles through a global network of small plants, sometimes through 3D printing. The firm employs just 15 full-time staff, relying on an online network of 12,000 freelance designers. To date, it has produced about 50 off-road vehicles, and plans to produce another 1,500. Its combination of open-source design and distributed manufacturing allows this mid-sized firm to compete with automotive giants burdened with large fixed costs.

A LOOK AHEAD: CONSTRUCTIVE DISRUPTION

Examples such as Local Motors show how new technologies that benefit SMEs also disrupt established business models across a range of industries. In manufacturing, a shift to flexible manpower and online intellectual property is calling into question the old fixed-plant business model, which requires mass manufacturing to benefit from economies of scale. 

Moreover, highly automated production—for example, the use of robots—will eventually erode the cost advantage of basing production in low-wage countries, as labour becomes less important to costs, says Erik Brynjolfsson, a professor of management at the MIT Sloan School of Management and director of the MIT Initiative on the Digital Economy. This will allow mid-sized firms to shift production away from low-wage countries and into target markets abroad, or indeed back to their home markets to facilitate close monitoring of quality and product design.

Rossignol, the French ski equipment maker with 2015 sales of €243m, provides an example of ‘backshoring’—moving previously offshored production back to the home market—as the cost advantage of offshoring was eroded. The company said in 2010 that was moving production back to France that it had off-shored to Taiwan three years earlier. Its aim, it said, was to produce better researched products and react more quickly to changes in the ski equipment market. Modern manufacturing technology has helped to protect the company’s price-competitiveness despite its return to a higher-wage manufacturing base. 

Non-manufacturing industries also provide examples of business-model disruption driven by new technologies, which in turn opens new opportunities for SMEs to challenge established giants. In financial services, small players are building new markets in developing countries by offering basic, mobile-based banking services to previously under-served populations. An example is bKash, a mobile banking platform in Bangladesh. It launched in 2011 and had 11m accounts two years later. In retailing, small web-based shopping platforms such as Konga and Jumia in Nigeria are challenging the predominance of companies like US-based amazon.com, and have seen rapid growth in their customer bases as well. Jumia was launched by a German e-commerce investor, Rocket Internet, in 2012. It is losing money, but its sales have surged to US$150m a year.

Across manufacturing and service industries, then, technology is not just enabling leaps in efficiency. It is changing the very way that some sectors operate. For mid-sized firms, this opens the door to explosive growth, if they are able to spot and exploit new market niches, and use new technologies to leverage their success.

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