18 Dec 2017 18:27 IST

Why a wholly-owned subsidiary can be a prudent entry strategy for an MNC

Communication between the parent company and the subsidiary becomes almost flawless

With India rising in the Ease of Doing Business index, and the Make in India — for India and the world — initiative gathering traction, global firms that want to establish themselves in the country are looking at different entry strategies. There are many options — joint ventures (JV) (equal partnership, minority holding, and majority holding), wholly- owned subsidiary, mergers and acquisitions, licensing, contract manufacturing, and turnkey projects, among others — depending on the business models, products/services and the prevailing laws.

A model that has gained popularity among firms that want to expand geographically is the wholly-owned subsidiary. Some countries have severe restrictions on this model, requiring a local partner to have a specified minimum stake in the company, but in India it is fairly easy to establish one within a certain regulatory framework.

A wholly-owned subsidiary

When I advocated the opening of wholly-owned subsidiaries in India (auto-ancillary), some of the initial reactions from CEOs were: ‘We don’t know the Indian market as well as the locals’, ‘We want to have an evolutionary growth rather than a revolutionary one’, ‘We have JVs operating world over; why not one more in India’, ‘Can we not get a lead in the market with a partner on board right from start’, and ‘Wouldn’t the capital requirement be shared’. These are definitely important considerations. But what makes a wholly-owned subsidiary score more than other models, from my experience, goes beyond textbook or theoretical explanations.

Operational benefits

There are a number of operational advantages — competitive and strategic — for foreign companies who use this model. A new centre for diversification, a location for de-risking of the parent business, converting it to a global source for a product group, taking advantage of local competitive factors such as cost of labour, power, IT strengths, and location (being closer to the customer and supplier), and leveraging currency fluctuations, are some decisions that can be taken unilaterally and quickly by wholly-owned subsidiaries. There is only the management of the new subsidiary to be taken on board and that is already aligned with the parent company’s corporate goals.

Systems and compliance

Being connected seamlessly to the parent company enables proven and validated systems to be transferred. I particularly liked the financial discipline that most MNCs bring to the table in terms of reviews, controls and compliance. Global benchmarking processes that are followed in manufacturing operations is another creditable practice that allows the subsidiary to reach high standards quickly. And, of course, you have enterprise resource planning, programme management, new product development, supply chain management, to which the new entity can get connected thus avoiding fresh evaluations, tests and implementation costs.

Meeting statutory requirements

At the time of formation and even later, meeting the statutory requirements (at both ends) is painless. Documents, finance, and even plant and machinery can be transferred or exchanged transparently since the new entity is completely owned by the parent. Board meetings and annual general meetings of the new entity are carried on smoothly as most decisions are already part of the business strategy. Board meetings are more of a formalisation of decisions rather than debate and discussions.

Personnel

The managerial staff of the new entity get exposure to the global business scenario as their interactions with the parent company increase. As a result of this professional development, there is more scope for them to become global managers. Here, both parent company and subsidiary stand to gain as there is another talent pool built that is available for relocation to wherever needed.

Cultural alignment

Perhaps the most important yet underrated factor of this shift is the possibility to smoothly align culture, strategy and capability. Peter Drucker said, “Culture eats strategy for breakfast” and so, the value of culture to an organisation should never be underrated. Even a minor clash of cultures impacts the business in a negative way. A wholly-owned subsidiary will enable the parent company’s culture to be imbibed smoothly and easily. The vision, mission, and goals of the parent do not get diluted.

All this, viewed in the light of the fact that in a joint venture or another form of company involving two organisations, there will have to be a consensus built for every major decision, which is easier said than done. Disagreements, lack of trust, different perspectives of market, business processes, opinions, and more come up frequently. Sometimes, inability to infuse capital by either party becomes a growth impediment, or leads to a change in structure of the company again.

The benefits of a wholly-owned subsidiary are so many that it has become a sort of model for geographic expansion in some major companies.

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