Understanding the specificities of internationalization in emerging countries

Small and medium businesses are demonstrating stronger resilience in meeting the change in demand from international consumers as we come out of the pandemic. As things return slowly to normal, they start looking again towards growth and increased international revenue and the emerging markets might hold some financial promise, and not only. This is of relevance, as in many Western economies the recession is almost inevitable in 2023. In this article we will see how to prepare to enter emerging markets and why companies might choose to either prepare better or avoid some countries.

What is an emerging market?

Emerging markets are generally identified as countries with sustained market access, increase in middle-income levels, and greater global economic relevance. Different international organizations publish and update regularly their listing of emerging markets such as IMF, S&P, Dow Jones, Master Card, JPMorgan, MSCI etc.

Some investment related sources are identifying the emerging markets simply as fast-growing economies, since the main indicator taken in consideration is growth. This classification became relevant for investors as some of the new markets developed rapidly during the 1980s and 1990s and as a result they became more attractive to investors. These countries are supposed to provide greater potential for profit but also more risk from various factors.

The major index “S&P Emerging BMI“ which captures all companies domiciled in the emerging markets within the “S&P Global BMI“, identifies China, India, Brazil and Saudi Arabia as four major emerging markets in terms of total market capitalization in US Dollars. As mentioned, the status of an emerging market can be reviewed by these organizations. For example, in March 2022 S&P removed Russia stocks from indexes, stripping the country of “emerging market“ status as a result of international sanctions triggered by its invasion of Ukraine.

Also, a lot of attention has been paid to emerging markets since the introduction of the BRIC acronym which includes Brazil, Russia, India and China. Goldman Sachs economist Jim O’Neill proposed the denomination BRIC in 2001, as he estimated that by 2050 the BRIC economies would come “to dominate the global economy.“ South Africa was added later, though lots of controversy was generated following the addition of the S, especially due to the lack of growth delivery from this market. As we begin 2023, the term BRIC loses the R for Russia and a lot of doubts are still hanging over the Brazilian “promise“ and as China is emerging from its zero-covid policy, we are closely watching the dynamics of this economy. Moreover, after the global financial crisis the acronym BRIC is not really fancied by investors.

In this article, we will explore the advantages and the risks related to developing a presence in the emerging markets for small and medium enterprises from developed economies.

Advantages of developing in emerging markets

SMEs need to internationalize to grow, but they often struggle to expand outside their home market or to do so strategically. High-potential SMEs often don’t conduct in-depth market analysis before expanding into new export markets, instead following opportunities which hinders their growth potential. We recommend trading very carefully when choosing to work in emerging markets and know exactly the potential your company might aim for or other goals to be reached in some emerging markets. Below you will find key advantages we selected to put forward regarding the reasons why you should explore working in emerging markets.

Conquer new types of consumers

Emerging countries open the door to new types of customers. Companies from Western countries find out that surprisingly in many emerging economies, consumers buy premium-priced branded products and are sophisticated shoppers. In Eastern countries consumers research a lot regarding the products before the act of purchase. They would rather pay more for quality than risk a product failure as they know that customer service might be limited in their region.

Emerging countries consumers are careful and they take into account many factors other than price in calculating their final costs. The brand is important, but smaller and unknown brands have a chance in those countries and in some countries especially in Eastern Europe, the consumers will study the technical description in detail and analyze your brand image in different countries before taking the final decision.

We are living in an interconnected era and as of January 2022, China ranked first among the countries with the most internet users worldwide followed by India, USA, Indonesia and Brazil. Essentially, in many emerging countries there is a high tendency for a more relationship-based approach, and your new customers will often communicate their needs and ideas of improvement.

Source of innovation

Usually companies in mature markets assume that the only reason to develop in emerging countries is to find new customers. There is strong potential for innovation in the majority of countries as for example in e-commerce. Currently many companies understand that they can gain new market shares by providing pay-on-delivery services. These practices have been learned from emerging countries in Asia and Eastern Europe and currently used quite often in developed economies.

Another way to innovate is discover new local ingredients used in pharmaceutical, beauty or food industries. By adapting to local consumers we can also enrich our own offerings and propose to clients from developed markets new and more unique products.

Diversification

International development towards emerging markets can be a good diversifier for your existing portfolio of countries because economic downturns in one country or region, including the Western economies, can be offset by growth in another.

The Chief Economist’s Outlook published in August 2022 predicts small chances for recession during 2023 in countries based in the Middle East, East Asia and Pacific and South Asia. On the reverse, the Western economies, especially Europe are expected to perform poorly.

To apply the diversification technique and select your next international emerging market, perform an in-depth market analysis and know the risks that you might face compared to the opportunities you are planning to gather.

Risks related to presence in emerging markets

Building your presence in emerging markets brings new opportunities as stated above (new types of customers, innovation, diversification) nonetheless risks might be high. We recommend listing your weaknesses and measuring your capacity to manage the risks assumed in emerging markets. One of the key recommendations here is to approach your bank and see what protection measures can be put in place to avoid jeopardizing your company performance. We will list below the key risks we believe you should address when dealing with emerging markets.

Political risk

Emerging markets may have unstable, even volatile, governments. Political unrest can cause serious consequences to the economy and investors. While developed nations typically follow a free-market discipline with minimal government intervention, emerging markets often see more government involvement and even privatization of businesses. However, even in developed nations, political risk can still arise from factors such as tax increases, loss of subsidies, changes in market policies, inflation control measures, and laws related to resource extraction.

One of the most significant risks associated with political instability is the possibility of civil unrest or war, which can lead to a shutdown of industries as workers are unable or unwilling to perform their jobs. This can have devastating consequences for both local and international businesses, leading to significant financial losses and long-term damage to their operations.

In light of the potential risks involved, businesses need to be aware of political risk and take steps to mitigate it. This may include conducting thorough risk assessments, investing in political risk insurance, diversifying their operations across multiple markets, and establishing contingency plans in the event of unforeseen political events. Ultimately, businesses that are prepared and proactive in managing political risk are more likely to succeed in the global marketplace.

Economic risk

These markets may often suffer from insufficient labor and raw materials, high inflation or deflation, unregulated markets and unsound monetary policies. Exchange rates can be volatile and unpredictable, which can affect the cost of goods, prices, and profits of a business. Emerging markets can have economic instability due to factors such as political instability, natural disasters, or a lack of infrastructure. Such events can lead to market disruptions, supply chain issues, and revenue losses.

Regulatory requirements also vary from country to country, making it challenging to navigate the legal landscape. Failing to comply with local regulations can lead to fines, penalties, and legal complications. Protecting intellectual property can be challenging in some countries, and the lack of proper enforcement can lead to infringement and loss of market share. Access to financing can be limited in some emerging markets, making it challenging to secure funding for a new business.

Conclusion

Contact a Kompass expert to learn more.