Fewer than 10% of businesses in OECD countries trade internationally. In many other countries, especially in the developing world, it’s often a far smaller percentage. That may not seem like very many businesses trading across borders: but it is still business worth US$23trillion per year! (Source: OECD). Since 1980, global trade – an indicator of the globalisation of our economy – has grown twice as fast as the global GDP.
When you add to this vast amount of global trade the shifting balance of economic power within the world, the interest in internationalisation by people supplying goods and services becomes very understandable.
Wealth used to be strongly concentrated in the industrialised world (80% of global GDP compared to just 20% for the whole of the emerging and developing countries). Today, the emerging and developing countries are catching up very quickly. They have 57% of global GDP, according to IMF data (latest available, from 2015). The EU holds nearly 17%. This trend towards developing countries is expected to continue. According to PwC, in 2050 China’s share in global GDP will outstrip the EU27 countries (excluding UK): they project China to account for 20% of global GDP and the EU27 just 9%.
Add to all this the fact that small companies have proved that they are very capable when it comes to international business and it is easy to understand why so many small and middle size businesses are looking very actively at expanding their activities into other countries.
Some will choose to offer their products and services to international customers directly from their home base, with no staff or premises in another country. They will work online and by travelling from time to time to the countries where they are doing business.
Others see greater opportunity by being permanently present in the countries where they are doing business. Many of those that start by operating only from their home base later decide to expand their operations into the countries where they are doing business.
This guide is for this second group of people.
Is it necessary to “go international”?
For most companies, no. It is a choice.
Conventional wisdom is that globalisation is vital and inevitable.
For many companies, doing business internationally is no longer an optional extra but an absolute prerequisite for future growth. If a business is to survive in today’s modern, fast-changing world it needs to be able to continually reinvent itself, and observe the following motto: “Don’t wait for a miracle, make one!” FEB, Belgium – in association with ING & BDO
In this context, the internationalisation of activities is becoming increasingly vital in order to remain competitive as a company. This is confirmed by a survey of Belgian business leaders: more than 90% agree that doing business abroad is strategically important to their company; more than 95% think that it is even more important for a company to be internationally active today compared to ten years ago. In short, maintaining competitiveness is one of the main drivers for developing business activities abroad.” FEB, Belgium – in association with ING & BDO
This may be true for the world’s biggest companies but I doubt it applies to most smaller companies providing goods or services. Your local pizza restaurant will still compete successfully against the big multinationals. So will the local garage that fixes your tractor and most small service companies. Their growth will come in other ways such as by better understanding the specific needs of their local customers.
However – and despite this – many, many companies will want to extend their operations into foreign countries.
Clearly, this will depend upon the nature of your business and your aspirations. However, there are probably some candidates that are more attractive than others.
In my view, there are some countries where you simply don’t want to do business: where you are likely to be eaten alive. In these countries the potential gains need to be enormous to make it worth even thinking about starting to do business. The size of the potential profits, in itself, should make you think twice!
Which are these countries? They are countries where:
- The rule of law doesn’t work: If you have a legal problem or dispute there is no reliable legal system to sort it out.
- Property rights are not respected: Including intellectual property rights. Will your “partners” simply steal your designs and business?
- Countries that are fundamentally corrupt: This is related to the rule of law problem but slightly different. Are you going to have to pay bribes to get anywhere? If so, this is likely to be illegal in your own country – and puts both your business there and your liberty at risk.
- Countries that are politically very unstable: Political instability is a part of life and can create lots of opportunities but some places are so unstable – and likely to get so unpleasant if there is a change of regime – that they are probably best avoided by all but the bravest business.
- Countries where you are likely to get killed or taken hostage!: This puts me off, but I know of a number of people who have started successful businesses in such places. Doing so requires special skills and precautions.
Which structure should you adopt?
There are four basic models for doing business abroad. They vary somewhat from country to country and the terminology can change from place to place.
Operating solely from your own country
This is dealt with in our guide Doing Business Around the World.
Having a “representative office” in the overseas country
In many countries this is a great way of dipping your toe in the water. It allows you to open an office and employ a person or people in the country. You can do this without being completely tied up in the foreign country’s tax and administrative systems.
A representative office can carry out marketing activities for your company. In can research and make contact with potential new customers. However, it cannot carry forward the actual business of your company; if you are a law firm, they cannot give advice. If you supply and service agricultural machinery, they can neither deliver it not service it. In short, they are not allowed to do anything except “non-transactional operations”
Despite this limitation, a representative office can be useful. These are your people, reporting back directly to you – and, in most countries, they will be able to prospect for orders – though they are not allowed to process them for you. That has to be done back at your home base.
The great advantage of an representative office is that all of the expenses are paid for directly by your head office; salaries, rent, marketing costs, travel expenses etc. You do not have to have any separate accounting in the country concerned. Equally, you do not become engaged with the local tax system in respect of any customers generated by your team in that office. Off course, you have to pay tax back home in the normal way.
Generally representative offices are useful in a foreign country where a branch office or subsidiary is not (yet) warranted
Before deciding that this is the right solution for your business you need to make sure that you understand the rules – and, in particular, the tax rules – in each country. In some places representative offices are, in practice, denuded of many of these theoretical benefits.
Setting up a branch office in the country.
A branch office is an office of a company which is located somewhere other than the firm’s main office location. This could be in another country, another state or just another part of a city. Although a branch office is simply another location, it can still be involved in all the normal business activities of the firm.
A branch office located overseas will, almost always, be liable to pay all of the taxes and other operating expenses that it would have to pay if it was an ordinary business operating in the place concerned.
The requirement to register or pay tax locally normally arises where there is a fixed place of business (such as an office, factory or construction site) or where contracts are being negotiated and concluded in that country by individuals who are based there and representing the business.
In many cases, all of the income and expenses of the branch office will also be treated as the income and expenses of the main company – and any tax already paid overseas can be set off against the ‘home’ liability in respect of the same income and expenditure.
Setting up a subsidiary in the country concerned
A subsidiary is, in practical terms, similar to a branch office. It will have its own base in the country and, usually, some staff.
The difference between the two is that, from a legal point of view, the subsidiary is a separate legal entity (company) but directly related to the parent company – in essence, a child of that company. This will usually mean that, whilst it is a separate legal entity, it is owned by the parent company.
The branch office, on the other hand, is usually a division of the main company. It is no different from an office that the company might have in the next town.
Despite the similarity (in practical terms) of these two operations, they can be treated very differently for tax purposes. Choosing the wrong structure can cost you a lot of money. So taking good local advice is a very good idea.
A joint venture or other completely independent company
This would be a company – usually a company set up in the country in question – which is unconnected with the home company. It is not set up as a subsidiary of the home country.
It could, for example, be a joint venture where 50% of the shares are owned by a local partner and the other 50% by – perhaps – the individuals (or companies) that own the ‘main’ company.
This can be treated very differently for a number of purposes, including tax.
Of course, it’s all rather more complicated than this and making the right choice can save you a lot of money, especially when it comes to tax.
There is no single best way: different markets demand that you approach them in different ways.
As already mentioned, getting good local advice is, therefore, really important. Guides.Global’s contributors in the various countries we cover will usually be happy to help.
For an interesting piece about just how varied the right approach can be, see Lou hoffman’s article for Inc magazine.
Essential preparation for doing business abroad
There are some top tips for people opening a business in another country.