Individual Case Assignment: The F-18 Hornet Offset Executive Summary The export agreement between McDonnell Douglas (MDC) and the Finnish government outlines an example of offsets as they are applied to the military aircraft business. The case illustrates that although the selling price of the F-18 Hornets amounted to $3 billion, the offsets reached a total of $3. 345 billion by the end of the 10-year term. This signifies the added investment in offsets in excess to the sale price. Are offsets really worth the high costs in resources and time?
To answer this question, four perspectives were analyzed: the domestic government, the buyer government and industries, the seller company’s future growth, and competitiveness of the seller. Under each perspective, benefits and drawbacks were compared. In the end, the result showed that throughout all four spectrums, countertrading did serve a valuable purpose for the seller firm. It meant exporters were able to gain consumers internationally, while also allowing them to differentiate their value offering in comparison to competition.
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However, there are certain risks that need to be kept in mind, mainly the possibility of losing specialized technology and competitive advantages deriving from the seller firm’s specific production capabilities. To avoid these risks, exporters seeking to enter into countertrade agreements are advised to communicate effectively and clearly with their customers, setting realistic offset commitments, being proactive to take advantage of offsets serving as a marketing platform, and by better planning their technology sharing initiatives to maximize return for both parties.
Following these guidelines will ensure that exporters are well-prepared for participation in offset agreements, while maximizing the benefits gained from undertaking this long-term commitment. Table of Contents Executive Summary2 Background Information4 Key Issues4 Case Analysis5 Conclusion8 Next Steps9 Background Information The case is situated over a 10-year period from 1992 and 2002 between two trade parties – McDonnell Douglas (MDC) and the Finnish government.
MDC had faced significant obstacles in previous trade dealings, and was urgently seeking a contract to sustain the business. The Finnish government required an updated fleet of fighter planes, and saw a perfect match between their requirements and the specifications of the F-18 Hornet. A bid amongst potential sellers resulted in MDC winning the contract. Over a period of 10 years, MDC made significant offset investments – both, direct and indirect – contributing to offsets worth USD $3. 345 billion in sum.
These investments consisted of counter-purchasing goods, opening up a full-time office in Finland, marketing assistance, export development, technology transfer, team purchases, and investment financing. The final result was greater trade between the US and Finland, while enhancing relationships between MDC and its new suppliers, Finnish companies. Key Issues The case illustrates the wide-spread practise of countertrade agreements between nations around the world. Particularly emphasized in the military and aircraft industries, offsets are often mandatory requirements when making a deal.
In the case of MDC and Finland, the required offset agreement amounted to 100% of the sale price – USD$3 billion – however MDC had paid an additional 11. 5% ($345 million) by the end of the offset term. These high costs are in addition to the added risk and uncertainty of doing business globally. Companies such as MDC who are seeking markets to serve abroad may need to ask themselves: are countertrade agreements worth the investment? To answer this question, companies need to address a number of potential issues: ) What is the stance of the domestic government? 2) What is the impact for buyer governments and their respective industries? 3) What role do offsets play in the future growth of the company? 4) What implications does countertrade have on competition? This topic has been analyzed by further examining the F-18 Hornet case that took place between MDC and the Finnish government. Case Analysis Domestic Government Although countertrading is prevalent in countries all around the world, domestic governments are often against them.
The reasoning behind this is domestic governments see the offset agreements as investments made by local firms outside its domestic environment. Essentially, instead of investing profits from export sales in the domestic market, companies are now required to spend significant amounts for the development of other nations’ industries. The outflow of capital can be significant, especially for a military equipment firm (such as MDC), who was required to take out $3. 345 billion from the US towards financing its projects in Finland.
This may lead to trade balance issues or a loss of potential jobs in the domestic market. There is the added concern of a loss of specialized and advanced technology to the buyer country, thereby making domestic firms less competitive in the global marketplace. By sharing knowledge and training with firms abroad, companies will diminish their competitive advantage in the long-run. These concerns are partially counteracted due to the value-creating activities that follow offset agreements.
For example, the offset agreements fulfilled by MDC resulted in a lot of business between the US and Finland, which meant increased business for domestic firms. US became the 4th largest trading partner of Finland, meaning both parties were better off as a result. Therefore, from this perspective, countertrading can lead to significant value creation for both parties if done in a way that does not destroy domestic firms’ competitive edge. Buyer Government and Industries From the perspective of the buyer government, offsets offer substantial opportunities for future growth and development in the country.
Deals usually encompass a large time commitment (10 years in the case of MDC), which can be leveraged by the domestic government and industries to develop skills and infrastructure. Offsets are also seen to develop exporting capabilities of MNEs, allowing the firms and government to benefit from competing on a global platform. However, the seller firm must be aware of the relationships it builds with the host country’s companies. For MDC, Finnish companies expected that deals and money could be immediately acquired through contacting MDC.
The seller firm needs to play an active role in defining the terms of the offset agreement, and ensure that all parties are aware of future expectations. The commitment to fulfill the offset agreement is spread out to allow the seller to distribute its investment evenly and manageably. The relationship between both parties has to dictate that the seller is not an entity there to provide cash when desired, rather it is responsible for offering support, largely in the form of indirect offsets, to allow firms to improve their competitiveness and develop strategies for the future.
Under this viewpoint, countertrading is worth the investment due to the long-term relationships that are built with international governments and companies, while also helping to stimulate their economy. It needs to be noted that for successful offset contracts, sellers need to properly define and understand the terms of the agreement. Future Growth of the Company Although the F-18 Team loses resources such as money and time through the offset deal, there are significant gains that may counterbalance the losses.
These benefits, as previously mentioned, include the resulting long-term relationships and business deals that come out of offset agreements. There may also be the added benefit of gaining knowledge about international markets through working with firms in that market. The seller firm, like MDC, can also gain valuable suppliers in the host nation. Exporting the finished product versus producing parts of the product abroad has the added costs of transportation for larger shipments, and possible high costs of labour domestically.
Therefore, taking advantage of low-cost suppliers, relationships with firms, and possible market expertise could make offsets worth their high investment and time costs. Competition Apart from minimizing trade imbalance, countertrade agreements can serve another significant purpose for seller companies: marketing. By redefining the basic transaction of product for payment, companies have the opportunity to differentiate themselves and appeal to their target customer through a more personalized solution.
It is a value-added benefit to a product offering that is specifically tailored to meet the needs of your consumer. By countertrading solely for the purpose of meeting foreign government requirements, seller firms will miss out on an aggressive marketing tactic that can put the company ahead of its competitors, especially in deals involving military equipment where each contract represents a significant price and long-term commitment with customers. Therefore, as a marketing tool, countertrade may be a strategically significant investment for sellers to make, whether mandatory or not.
Conclusion Therefore, after considering each possible factor that could determine the effectiveness of countertrade agreements such as offsets, it can be concluded that with the proper planning and risk assessment, countertrading can be a very successful means of gaining customers internationally, while also serving as a platform to differentiate your value proposition from your competitors. Next Steps In order to ensure that seller companies are effectively applying the countertrade agreements to their benefit, a number of points need to be kept in mind. Ensuring agreements are well-defined and clearly understood by both parties involved (expectations on each side will be matched, and relationships will be more effectively built) * Greater penalties for breaking offset arrangements are being enforced on seller firms, and so only realistic and achievable commitments should be made * Instead of considering foreign governments’ offset requirements to be an obligation, sellers should try to take a more proactive approach and go above the required parameter in order to encourage the buyer to choose their firm * Sellers need to be aware of possibly losing their technological advantage, and need to be careful in defining what can be outsourced to the host nation (by sharing older knowledge that the company has already innovated upon, the seller will face lower risk in losing their competitiveness) * Partnering with firms in the host country may provide sellers with market knowledge that can be used to identify future opportunities Following these guidelines will ensure that exporters are well-prepared for participation in offset agreements, while maximizing the benefits gained from undertaking this long-term commitment. ——————————————– [ 1 ]. Willett, S. And Anthony, I. , 1998. ‘Countertrade and Offsets Policies and Practices in the Arms Trade’. Working Papers, no. 20, 1998. Copenhagen: Copenhagen Peace Research Institute (COPRI), 1998. [ 2 ]. “Countertrade – An Innovative Approach to Marketing. ” BarterNews #36 (1996). [ 3 ]. “Critical Factors Behind Successful Offset Strategies. ” BarterNews.