International Business Transactions

Question 1

MM is an affiliate company with the need to transact in the international business. The company reports a low capital outlay that can be used in the financing of the firms operations. MM Company operates in foreign markets through the contractual arrangements with the third parties (BB and SS Companies) as a middle man. For various reasons, however, the company may decide to set up its presence in the overseas either by a representative office (which does not carry on any business), setting up a subsidiary or a branch, or involvement in joint venture operations. These are the main structures of International business that MM can effectively articulate to foster its operations.  With the exception of the representative office, this other structures generally demand more capital in the form of investment and may be risky. The company needs to comply with the regulations and foreign investment laws that are imminent in the host country.

International Business transactions structures

Representative office

The structure is usually set up by an overseas company in order top carry out liaison and marketing activities. It cannot possess the authenticity of involving in a purchase or sale of commodities although it may be part of its promotional activities as authorized by the head office of the company (Chow et al, 2010). The objective of this structure in the international business transactions is to establish its presence in the host country. However, as it is an extension of the company, it is important to advertently ascertain the laws that encompass the operations in the host country. Obvious issues involve the liability to taxation on any income, visa requirements of the employees, employment laws and the lease or acquisition of premises by the company. A major concern arises in the determination of whether the costs of maintaining the business presence are justified as the representative office does not generate any income. For instance, it may be worthwhile for the company to generate a representative office in order to effectively have an access to the market before trying to invest the funds in the larger establishment.

Subsidiary or Branch

The other option that MM can use in operating in international business is by establishing a subsidiary or a branch of MM Company in the host country. This may involve taking over or buying the existing local company. It is apparent that the strategy involves high exposure to risk whether in the form of unfavorable political or economic conditions or to the unfavorable administrative and legal constrains that the parent or host country can articulate. Although the company may experience a low operating and establishing costs, the structure necessitates high investment capital in the long run. This makes the structure less flexible and difficult to wind up than any of the pure contractual arrangement. The company needs to comply with the local laws which affect the operations of company, property acquisition, employment, tax, revenue remittance, export and the import controls, anti-competition policies and the property protection (Ralph et al, 2009).

The company can benefit in many ways when it establishes a subsidiary in the host country. As such, a subsidiary is always taken as the separate legal entity and the parent company cannot be liable for any subsidiary’s debt that may arise from operations in the host country unless it provides for guarantee. In addition, the access of the finances for the business operations imminent in the host country can be effectively facilitated by either the subsidiary borrowing form the local banks or using the assets and shares of the subsidiary company as the collateral for the lending of funds. The subsidiary can act as an agent to the parent company, can also act as a distributor or a licensee of a given commodity. The additional control that may be seen when the parent company wants to acquire the ownership of a distributor may be easy and time consuming as the subsidiary will have to perform the operations in the host country.

Incorporated joint ventures

It denotes a company structure that is formed by the investors as the separate legal entity in the international business operations. It is normally regulated by the shareholder’s agreement or the joint venture agreement together with the provisions of the constituent documents and the articles of association. The structure imposes a relatively possibility of avoidance of the legal classification such as the partnerships; it has separate legal entity thus reduces the chances of financial responsibilities that may be imposed to the joint venture partners (Chow et al, 2010).  It contains accounting or tax attractions that adequately allows for an easier exit of the joint venture party in the form of transfer or sale of shares or equity. However, the joint venture parties cannot have direct control over the cash flow that is generated from the company’s activities.

Generally, the parties are not guaranteed any flow of income until when there is a declaration of dividends by the company which may not be achieved until the company experiences relatively high profits; depending entirely on the local legal requirements. Tax problems may also arise in relation to loss consolidation within the group as some countries may transfer losses within the corporate groups only when companies are 100% owned by the holding company.

Unincorporated joint venture

In this structure of the international business transaction the relationship between the trading companies is contractual; where the parties agree to work together in order to achieve the desired goals. In most cases, the use of contractual or unincorporated joint venture structure may be mandated by law. When selecting this option the company should put into consideration the implications of performing business transactions as partnerships because most of the jurisdictions consider unincorporated joint venture as a partnership. Therefore, each joint venture partner should bear joint and severally liable for the acts of partners and in division of income. As such, whether it is a partnership or not, the structure depends entirely on the local law, partner’s intention and the structure of the joint venture arrangement. For instance, an unincorporated joint venture structured so as the joint ownership of the assets will produce the joint receipt of income may be categorized as a partnership in law.

Partnership

This form of structure is governed by the partnership laws and partnership agreement that may be provided by each of the trading countries. The common concept of partnership is that each of the partners in the international trade transaction is jointly liable with other partners for the obligations and debts incurred in the process of operation. It is not recognized as a separate legal entity by the common law (Burnett et al, 2009). The partnership may have vital regulatory and financial advantages depending on the laws governing the company. For instance, allowing losses to be offset by each partner.

In the case of a limited partnership, the limited partners contribute to the capital of the partnership and share in the profits, but do not participate in management or have any liability for the losses of the partnership other than the capital contributions they made. In some jurisdictions, the limited partnership is usually incorporated. The structure possesses tax and other advantages for the limited partners but suffers from the disadvantage in the international operations that the partnerships and the limited status of the limited partners may not be recognized in other jurisdictions.

Unit trust joint venture

In this structure the unit holders are usually passive in regard to management. The deed of trust establishes a trustee to manage the interests of the unit holders. The common features associated with this structure includes the interests in the trust property are usually separated into units and heal like the company’s shares. It is governed by the principles of equity and the trust law by either corporate or contract law. The structure has the advantage of its simplicity in creation, operation and termination of the contract. However, tax ramification need to be clarified and it is vital to structure it in such a way that the manager’s suggestion on his or her control of the unit holders is avoided. In a foreign jurisdiction, the concept of trust should be ascertained in order to advertently determine its existence and mode or way of categorization.

Best way of structuring the transaction

MM Company should consider joint venture structure in order to incorporate the international business operations in its plans effectively. The strategy will enhance penetration to the foreign market and will be motivated by the many reasons that usually persuade an enterprise to embark on this strategy in its home market. MM Company need to expand and operate in the new area probes for additional resources and expertise that is provided by the company. It may need technology or access to the sophisticated distribution outlets. Such access will only be facilitated by the distribution agreement or licensing but the company needs to be assured of the continued cooperation through a joint venture.

The local law governing US that relate to the foreign investment or induced by the incentives offered effectively enhances the operations through the joint venture structure (Chow et al, 2010). It is desirable to spread the financial risk across the number of investors, especially as it involves steel company. It is apparent that the range of functions which the more sophisticated joint ventures can undertake is considerable than the unsophisticated ones. However, MM Company can ultimately loss control of an individual investor, even if it has a majority interest in the project; potential difficulty in selling an interest in the joint venture, since the joint venture agreement will almost certainly include provisions controlling transfers of interests; the need to coordinate with other parties in terms of control and management; and the inability to control the flow of the profits and dividends which will be subject to the terms of the joint venture agreement.

Contracts in International Business transactions

The main contracts that are commonly used in any international business transactions involve contract of agency, distribution agreements, licensing arrangements and franchising. The contract to be used will depend entirely on the type of structure that the company has selected in undertaking the international business operation (Burnett et al, 2009).

Agency contract

In the case where the exporter needs help in marketing its goods or services in a foreign country it may decide to use the services of a company or person whose main task is to look for the purchaser of the product by setting up an office in the foreign country. Agent acts on behalf of the principal and MM Company can undertake this contract as an agent of BB Company. Although the scope of the agent’s authority varies depending on the underlying agency contract, the agent is in a fiduciary relationship with its principle and owes a duty of care to the principal.

The agency contract can either be expressly created or implied. Implied authority requires the unveiling of proof of conduct between the parties or the holding position such as in the case of managing director; carries the rights and powers therefore making it possible to infer an agency relationship. In addition, it can also be apparent or ostensible agency where the principal acquiesces in the agent moving beyond the normal duties of an agent to conduct business of the principal. The duties of the agent as stipulated in the legislation are: the duty to follow the principal’s instructions, fiduciary duties, personal performance, and the duty to exercise reasonable care.

Distribution agreements

Although there are superficial similarities, an agency agreement should always be clearly distinguished from a distribution agreement. An agency agreement authorizes the agent to take action for or on behalf of the principal. In a distribution arrangement, the distributor buys goods from the supplier or principal and sells them on its own account (Burnett et al, 2009). The agreement will generally provide that the distributor is an independent contractor and is not the agent of the supplier.

The distribution agreement is created by contract between two parties who follows the mandatory laws of the jurisdiction imposed to the agreement. It is considered to be the master agreement between the independent principals- supplier and distributor. The agreement sets the framework under which the distributor is granted trading rights with respect to the enumerated goods or classes of goods which it agrees to purchase from the supplier. Under this agreement the distributor is buying the goods from the manufacturer as the principal. It possesses the title of the goods and on-sells them at a price from which it derives its profit.

In the case of the terms of payment, the two traders develop methods of payment as they are located in two different regions/countries. The methods selected depend on whether the parties have an established relationship which allows fro the payment of deferred credit terms. The repeated failure to render payments by the due date should ultimately be made a ground for termination of the contract.

Licensing arrangements

The need to license the use of intellectual property arises in international trade in a number of contexts. Setting up a distribution arrangement as an alternative to selling goods and services directly generally involves the licensing of trade marks and some degree of transfer of knowhow particularly where the distributor is required to provide after-sale services (Chow et al, 2010). A franchise agreement also involves a license of trade marks, copyrights, often patents and the technical knowledge. Similarly in the case of a joint venture, like that of MM Company, one or more of the joint ventures partners often license or transfer their intellectual property to the distributor or third party.

The major concern for the parties to a licensing agreement are whether the patent covers the products that are manufactured, whether the patent includes any improvements, and whether the relevant license is transferable or permits sub-licensing. In addition to this, the concern will also be on the termination date and registration in the host country. The issue of whether clauses restricting the use of patent by the licensee may breach the competition laws of the host country should be adequately addressed.

Franchising

According to the US law, franchise agreement involves a person (franchisor) who grants to another person (franchisee) the right to carry on the business of offering, supplying or distributing goods or services in US under a system or a marketing plan substantially determined, controlled and suggested by the franchisor (Ralph et al, 2009). The use of franchises have been prevalent in US with the survey carried out by the Franchising US 2008 estimating that the franchises constitute to 3.7% of all some business in US, employing more than 400,000 people.

As in the case of other structures for expanding a business into a foreign country, the structures employed will depend on factors such as the cost of setting up its own outlets and exposure to political and economic risk arising from having the presence in the host country. An international franchise will contain the key elements of a domestic franchise and one option for a trader with the established franchises in its own country. As such, the aim is to establish its own outlets in a foreign country and then look to franchise them.

The advantages associated with international franchise arrangement includes: adding new sources of revenue to the business, reducing dependency of the home market, improving business status and reputation, gaining ideas and improvements in the international market and utilizing the advantageous exchange rate. However, the major setback of this contractual strategy is that it is expensive especially on overseas expansion.

Question 2

Plan 1

The plan involves licensing of the production and sales to DK and NCF. This kind of arrangement imposed by KM manufacturers involves licensing of trade marks, copyrights and sale of rights to the constituents companies with an intention of acquiring 25 percent of gross sales of the dishwashers, plus $25 per chip. Any improvements in technology will result to KM benefiting directly but not the companies that have been licensed to undertake the sales.

According to licensing contract, the rights of the intellectual property like patents and trade marks are themselves territorial, and the ability of the KM to license manufacture of goods bearing its mark outside the territory of the registration is limited (Burnett et al, 2009). Restrictions which attempt to limit the rights of the licensee and others to sell goods inside and outside the territory may, however, present number of difficult issues. KM may hope to maximize its royalties and profits by making the grant of the technology that both DK and NCF want in condition to their take on additional intellectual property and products.

Provisions requiring production which consistently satisfies KM’s quality specifications are important to the licensor in an attempt to protect the reputation of KM’s brand and products. These are generally supported by contractual provisions which allow KM to inspect the goods produced under the license fro quality and conformity of specifications; particularly where the goods are sold under KM trade mark.

In addition the agreement must deal with payment by both the DK and NCF for marketing and technical assistance. This includes training programs, services performed by licensor’s personnel in the licensee’s facilities and the services provided by the licensor’s experts when supplying a give n commodity (Ralph et al, 2009). The three parties must come into agreement on whom to carry the costs associated with this service delivery in the operation. For instance, KM may decide to pay the salaries for its employees but expect DK and NCF to meet the costs of living expenses and accommodation expenses. Provisions that relate to medical expenses, visas and insurance will be incorporated effectively.

Although KM is generally reluctant to the provision of detailed warranties, DK and NCF will need to be assured that KM either owns the intellectual property or has the unrestricted right to license it so that the company can not be exposed to the risk of suit from the third party claimant. The agreement will also need to set out which party is responsible for defending such third party suit, and who will bear the costs, and provide that the other party will provide full information and cooperation in regard to such an action (Burnett et al, 2009).

In addition the licensee will want assurances concerning the performance of the company’s operations, while again KM will be reluctant to give an absolute guarantee on the technological advancement and the economic change. DK and NCF may wish that KM satisfy itself as to the quality of technology used in the production of its products or it may provide a warranty to the effect that it performs in a specified way in its own premises under the specified conditions.

It is important to consider that the commencement of the agreement is conditional on KM securing any necessary government permission to remit royalties. Tied to that issue is the need to clarify what controls (if any) the host government exercises as to the level of royalties and whether there rarer mandatory requirements which operate to allow the licensee to acquire permanent control over the technology. Another issue that will have an effect on the licensing process is the withholding tax.  Any double taxation agreement between the sending and the host countries should be checked to ascertain whether it allows the licensor to set off withholding tax against the tax otherwise payable (Ralph et al, 2009). In addition, it will be vital to analyze the local tax laws whether it allows the tax liability to be shifted from the licensor to the licensee. If not, the licensee should provide that the amount of the royalty will be increased or “grossed up” in order to ensure that the licensor receives the full amount of the royalty.

As in the case of the patents, it is necessary to keep a wary eye on the possible breaches of competition law. An important issue for trade marks is quality control, which is essential to the maintenance and further development of the owner’s brand, and must therefore be regulated in the contract and enforced in practice (Burnett et al, 2009). A further issue is the ownership and rights to any new trade marks that may be created for use on the same products issued or licensed. For instance, where the trade mark is licensed for use in US with the different language and different script, the licensor of the mark should take steps to ensure that it controls the creation and registration of the equivalent mark or has restricted right to use any new marks so created.

Consequently, the license should deal with the unauthorized use by the licensee. As with other types of intellectual property, the question of the extent of protection afforded copyright under the domestic law of the US must be clarified and parties must agree on which entity is to have the responsibility for the action to deal with the infringements. The impact of any competition law must be assessed. In the international context, copyrights issues should also be considered when the licensor of technology which includes copyright authorizes or approves the translation of instruction manuals or other publications. The licensor should ensure that it either owns the copyright when the item is produced or that it immediately receives an assignment or royalty-free license to use the new copyrights that have been created as a result of this process.

Plan 2

The second plan that KM will be vested on is acquiring DK. This will mean that the parent company, KM, will have a subsidiary in the foreign country known as KitchenMaid Deutschland (KMD). In the initial stages, the company would sell its products at an “introductory price” of 50% less than the normal prices charged in the other parts of the economy. In establishing a subsidiary in the foreign country, the company is established under the relevant law of that country and possesses a separate legal personality form the parent. Principally, the company has the same legal status as that of a local company. However, in some jurisdictions there may be a separate legal regime for foreign subsidiary companies. Despite the existence of that separate identity, a company is considered to be a subsidiary if the ownership, control and key areas of the management of the company are located in the parent company (Ralph et al, 2009).

As the subsidiary is based in the Northern Europe, local involvement is required. KM Company which proposes to establish a subsidiary rather than a joint venture should not consider such an arrangement unless it can maintain control of having the major shareholding and voting rights, or the right to control its operations through the managers and directors. For instance, in the case of market penetration strategies, the range of local laws impacting on the establishment and operations of the subsidiary need to be critically assessed. These includes laws in regard to the establishment and operation of the company, foreign investment rules that restrict investment in certain sectors or even through a wholly foreign owned company or enterprise. Conversely, it should offer privileges or inducement to encourage favored types of investment including structures that involves the transfer of technology.

KMD Company is a new entity which is formed from the acquisition of DK by KM. the advantages that underlies such an initiative includes the separate legality of the entity from the parent company hence KM Company will not be liable for KMD’s debts unless there is provision of guarantee by KM. in addition, KMD may be used by DK as an agent, distributor, licensee, manufacturer, service provider or sub-licensor of t\intellectual property. The additional control which owning the distributor provides to the parent gives additional comfort especially when licensing in that foreign jurisdiction.

Consequently, profits may take the form of dividends, sales to KMD as distributor, agency commissions or royalties arising out of the intellectual property licensing. As such, a minority partner can be admitted to KMD with minimal legal procedures in order to create a joint venture. Accessing to finances for the business operations in the Northern Europe may be facilitated either by having KMD borrow in local currency from the local banks, or by using KMD’s shares and assets as collateral; for a limited or non-recourse lending to fund the operations of KMD. However, the company should focus on the setbacks of this plan. The establishment of KMD would necessitate for the commitment of investment capital which will make the structure to be less flexible and more difficult to wind up than a purely contractual arrangement.