Effects of a customs union on the global economy.

Customs Union is a form of regional economic integration. In a custom union, member

countries trade freely among themselves, but agree on a common form of trade barriers with nonmember countries (Sloman, Hinde & Garatt, 2010). The main impact of the customs union is that it

creates a single large market among the member countries with common trade laws but protected by

non-member competition. Thus within the customs union, there will be a improved business climate

for businesses to exploit new opportunities and make better use of available resources. In essence the

immediate effect of customs union are the trade creation an trade diversion effects as it combines

principles of free trade with protectionism.

Effect on businesses within the Customs Union;

Trade creation can be beneficial to some firms and disadvantage to others. Trade creation occurs

when consumption shifts from a high-cost producer to low-cost producer within the union bloc

(Sloman, Hinde & Garatt, 2010). The effect on businesses within the union depends on their situation

prior to the formation of customs union. Greater competition among domestic firms due to trade

creation will force the firms within formerly protected industries to improve efficiency or lose out.

Also if a firm which is dependent on importing from outside the union bloc will be at disadvantage if it

faces a higher import tariffs due to common external tariffs imposed by the customs union. But overall

the businesses within the union bloc will benefit from trade creations and market expansion.

Customs Union effects on businesses can be summarized as resource allocation,

competitiveness economies of scale and investment. Free trade within the union bloc improves the

efficiency of resource allocation (Oatley, 2010). With the removal of trade barriers between member

countries, the resources among member countries will be applied to activities for which they have the

lowest opportunity costs among the member nations, thus gaining comparative advantages. Businesses

are able to expand their products to all over the union bloc as they now have a bigger population to sell

compared to selling domestically. They can reduce a significant amount in costs by producing more and

attaining benefits through economies of scale. As market gets competitive, inefficient firms are forced

to improve efficiency and innovate. Customs Union provides an incentive to foreign direct investment

to locate and produce in the countries within the union bloc. Businesses will increase output growth

through investments in latest technology that enhances efficiency and productivity

Effect on Business outside Customs Union;

Customs Union adopts elements of protectionism causing market distortions. External trade

barriers created by the union will have trade diversion effects. Trade diversion occurs when

consumption shifts from a lower-cost producer outside the customs union to higher-cost producer

within the customs union (Sloman, Hinde & Garatt, 2010). The disadvantage or benefit to the external

firms is dependent upon the level of tariffs they were facing before the formation of the union. Being

outside the customs union will often mean that a business loses out through the trade diversion effect,

as they are hindered the most by tariffs or quotas. If the firms outside the union now faces higher

import tariffs, then they are not able to export as much, as their goods are priced higher. The firms

within the union are benefiting from the tariff because they are protected by foreign competition.

On the other hand, if the firms outside the bloc now faces a lower import tariffs due to adoption

of common external tariffs by the customs union, then it will see a benefit as goods by the external

firms exporting to the regional bloc gets cheaper due to lower import tariffs and also they can sell more

goods as they get access to a larger market.

Implication on the Global economy

• Disadvantages ;

Customs unions are characterized by discriminating trade arrangements. Any kind of

protectionist policy will only benefit some at the expense of others (Oatley, 2010). The tariff will help

increase the producer surplus within the member countries, but the consumers pay a higher price for

products, so their quantity demanded has decreased along with their consumer surplus. The countries

outside the union bloc suffer with lower demand as their export cost has increased due to tariffs. Lower

demand leads to lower gross national product (GNP) which in turn leads to more unemployment in

non-member countries. Thus the non-member economies suffer because of custom unions.

The tariff decreases allocative efficiency as the global market cannot move to an equilibrium

state, i.e the point at which supply meets demand. By giving preferential treatment to member

countries, the production of the goods will shift from the lowest cost producer to a higher cost

producer. This represents a shift away from comparative advantage and a less efficient allocation of

resources. Global economy will eventually suffer when resources are not allocated efficiently.

Another unintended consequence of protectionism in a customs union, is that it creates import

substitution with tariffs, then the non-member countries will have trade deficit and hence less money to

import goods from the customs union members. Now the export demand of customs union will

decrease. This occurs when the level of import tariffs remains suboptimal or in worse case tariffs are

increased then the effect of trade diversion will outweigh the benefits of trade creation within the union

members (Frankel, 1997). So over all global economy suffers when the customs union doesn't adopt an

optimal level of trade barriers.

• Benefits to Global Economy;

Customs Union are considered a stepping stone towards global free trade (Oatley, 2010). As

long as the trade diversion affect doesn't outweigh trade creation effect then customs union will have a

positive spill over effect on the global economy. As the countries within the customs union experience

rising living standards, increased efficiency, higher rates of economic growth and regional political

stability,it will stimulate trade by shifting world's aggregate demand and aggregate supply.

Poverty has negative effect on global economy. Customs union has advantages over getting

under developed countries out of poverty trap. Customs Union will promote employment of local

factors of production and resources. Without union blocs the resources in these under developed

countries will never get exploited and thus they continue to remain within the poverty trap. By creating

a large economic to attract trade and foreign direct investment, and by adopting protectionism policies,

the member countries will decrease imports and increase exports. Regional demand increase creates job

opportunity for people which in turn can get them out of poverty trap and the growth rate of the gross

national product (GNP) will rise. Thus the customs union will shift these under developed economies

from high dependency to self-reliance.

Conclusion;

The creation of a customs union has some positive and some negative effects for businesses.

The firms within the union bloc will benefit with trade creation due to larger market and trade diversion

due to protectionism. But it is important that the union adopts an optimal tariff policy against nonmembers so that trade diversion effects does not outweigh the net benefits of trade creation.

Customs union can increase economic output of the member countries, and especially bring

under developed countries out of poverty trap. As the economies in the underdeveloped countries

grows it will reduce negative effects of poverty on global economy and at the same time stimulate

global economy further. And it is possible for a customs union to affect the external terms of trade

through tariff reduction and gradual union expansion, thus increasing global economic growth

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CASE STUDY: SABMMiller Acquisition Strategy

Up until1990s, SAB was a regional player in South Africa. With the ending of apartheid a range

of new growth opportunities opened up for SAB. The 1990's saw SAB's strategic focus shift from

pursuing purely regional growth to towards globalization. It began expanding and growing

internationally by acquisition. SABMiller's acquisition strategy was based on three key trends ;

• Growth in emerging markets
• Increasing popularity of premium brands
• Industry consolidation

SABMiller 's strategic logic behind acquisitions can be viewed from its acquisition management in

emerging market and the acquisition management in developed markets.

• Acquisitions in Emerging markets;

SAB's first wave of acquisition started with acquisitions of small local breweries in the easter

european countries and continued within the other developing countries in Asia & Latin

America. Its growth during 1990-2000 has come through entering developing markets,

acquiring businesses and brands, and growing them. Its acquisition philosophy can be summed

up as;

• Acquire a local established brand, value-add by leveraging SABMiller's capabilities to improve local brewer's financial and operating performance.
• Use SABMiller's marketing efficiencies to increase the value of the local brand, then penetrate the local market further with efficient branding & distribution strategy.
• Once business in the local market is well positioned, then continue to make other local acquisitions, which adds further value by operational synergies.

During the 1990s, SAB expanded into Africa, Hungary, Romania, Poland, Slovakia, Russia.

When acquisitions was not possible it had pursued Joint Venture or partnerships in India,

Vietnam & China. Some of the joint ventures was later acquired completely by SAB.

SABMiller's has traditionally pursued growth with expanding into emerging markets,

however starting early 2000 onwards, it moved towards a balanced diversified portfolio by

entering developed markets. Emerging markets offer high growth but are very risky, where as

in a less risky developed markets, SABMiller can maintain margin and volume.

• Acquisitions in Developed market;

The next wave of acquisitions which began around 2001 onwards, was more about mergers of

larger & established brewing companies in developed countries in US & Western Europe. The

acquisitions from 2001 – today was motivated towards building a balanced brand portfolio

supported by a global operational consolidation, but at the same time taking advantages of

economic growth in emerging markets.

In 2001,SAB acquired Miller Brewing Company. Acquisition of Miller which was a

large company gave a significant market share in US, immediate visibility in developed market

and an opportunity to apply SABMiller's capabilities to improve Miller's operating performance

and increase economics of scale. It also gave new sales opportunities to position other

international brand from its brand portfolio to the US market.

In developed mature markets, beer consumption is declining and consumers are moving

towards “premiumisation”, the process where the consumers move from mainstream brands to

premium brands (Elliot, 2009). The premium beer segment made the industry attractive as it is

fast growing. SABMiller had to build a portfolio of international brands to be strategically

competitive. During 2003 onwards premiumisation had formed an important element of

SABMiller’s growth strategy (Annual report 2003).

SABMiller started acquiring brands in developed countries like Grolsch, Perroni, to get

immediate access to established market and also to enhance its market share in premium beer

markets. This strategic logic for the acquisitions in the developed countries acquisition can be

summed up as;

• Acquire a well established brand to get immediate market access,
• Renovate and relaunch the core brand and strengthen it. For Ex; Miller Draft & Miller Lite in US, relaunch of Perroni in UK.
• Broaden the brand portfolio to include international brands and leverage global capabilities to optimize both local and global brands.
• Introduce premium brand when the market gap for premium beer exists.
• From SABMiller's Ansoff Matrix analysis (Appendix E), SABMiller had exploited the brand extensions opportunities in both emerging and developed markets by product development and market development.

• Acquisition of Fosters in 2011;

Acquisition of Fosters' can be looked along the same lines as SAB's acquisition of Miller

to enter US. This acquisition will allow SABMiller an industry visibility in Australia. Foster is

an established company with a significant brand portfolio in Australia with 40% export market

(SABMiller Fosters Presentation, 2012). The acquisition of Foster also gives SABMiller the

turnaround opportunity to apply its capabilities to improve operating performance,improve

quality and gain further market share and Brand extensions.

Mergers and acquisitions has been the most important strategic choice for SABMiller to achieve

globalization. Emerging markets are important for SABMiller as developing countries have the high

growth potential, whilst the beer consumption in developed economies are declining. SABMiller

should continue building an international premium beer portfolio which is a growth segment in the

developed economies, but at the same time focus on emerging market expansion especially China and

India.

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CASE STUDY: SABMiller, STRATEGY ANALYSIS - 2006

As of 2006, SABMiller had presence in both developing countries as well as developed

countries. After the lifting of the international sanction against South Africa in 1990s, SAB was able to

capture new growth by expanding into developing countries, whilst at the same time consolidating its

existing regional market of South Africa and in 2002 entered developed market of US with the

acquisition of Miller.

External Analysis

SABMiller's business strategies are influenced by the forces in its external environment.

PESTEL and Porter's five forces framework are used to analyze these factors influencing the

firm's macro-environmental and industry sectors respectively (Johnson et al, 2008, p.55). From

SABMiller's PESTEL Analysis (Appendix A) and Porter's Five Forces Analysis (Appendix B),

the key external drivers of change affecting SABMiller are ;

•  Political Threat & Economic Threat;

SABMiller relies on markets in developing countries for its growth objectives. Hence it has to comply with diverse set of local regulations, tax laws that are unique to these countries. And it is dependent on political stability in these countries as any kind political turmoil can have a negative effect on SABMiller's operations and profitability. In the developed countriesSABMiller has to face and adopt to stricter alcohol laws along with growing anti-alcohol lobby.

•  Economic Threat;

SABMiller is subject to global economic cycles like GDP, exchange rates, oil prices, levels of

disposable income. When income level falls in emerging markets, beer consumption falls.

Fluctuation in local currency exchange rate will also have significant effect on its profits .

Increase in the prices of raw materials or transportation cost will effect its profits.

• Buyer Power ;

In developing countries, beer consumption increases as disposable income increase. However

buyers can easily switch from beer consumption to wine & other spirits due to changing

lifestyle. Anti-alcohol movement in western countries like curbing of bar/pub hours along with

smoking ban affects beer consumptions

• Competition;

Even though, SABMiller is the second largest brewing company by volume and it enjoys

competitive advantages in economies of scale and low prices, it still faces fierce competition

from the few large established brewing companies like Annheuser-Busch, InBev, Heineken, etc.

These competitors have entered developing markets and compete directly against SABMiller..

For Example; Anheuser-Busch in China.

Internal Analysis

In spite of being in a highly competitive industry, we can see from SABMiller's SWOT

analysis (Appendix C), that emerging markets is fast growing with huge potential and there is

an increase in demand for Premium beers in developed markets. SABMiller has been able to

successfully exploit these opportunities by entering both developing and developed markets and

then creating a sustainable market by using an optimized brand portfolio approach.

From External and Internal analysis SABMiller's success factors can be attributed to its unique

Resources and capabilities of ;

• Scanning Business Environment;

Throughout its history, SABMiller has developed unique capabilities of scanning business

environment and making strategic choices. When faced with growth constraint due to

international sanction during apartheid regime, SAB was willing to diverse away from its core

business of beer to maintain growth. For Example; Venturing into Hotel & Match business for

regional growth. After the lifting of sanctions, SAB was able to identify unique opportunities in

emerging countries of Eastern Europe and later into Asia and South America.

• Management Skills;

SABMiller's management has lot of experience conducting businesses in developing countries

and was successful in leveraging this skill in developed country also. When SAB acquired

Miller, the group had to move from their traditional practices of conducting businesses in

emerging economy to developed country which shows management's flexibility to adapt to

changes. SABMiller's Management are capable of developing sophisticated logistics in

developed regions of USA and Western europe, whilst capable of working with primitive

logistics in rural areas of Asia and Africa.

• Value-adding and Corporate parenting;

SABMiller has unique competencies of working well in different countries and possess valueadding

parenting capabilities to increasing operational efficiencies and transform acquired

businesses. One such example is when SABMiller used its management skills and corporate

parenting to turnaround Miller by bringing in its operational efficiencies and employee

performance practices.

• Acquisition & Takeovers;

SABMiller has unique competence in acquisitions and takeovers. Its growth has come through

entering developing markets, acquiring businesses and growing them. They are confident in

acquiring small companies in developing countries and also high profile acquisitions like Miller

& Fosters in developed countries.

Stakeholder Expectation;

SABMiller has made strategic choices to fulfill stakeholder expectations. One such

move is its acquisition of Miller. When SAB listed itself in LSE, it faced huge pressure from

investors and analysts to have a presence in western market and move away from over reliance

on emerging markets. In order to be establish itself as a global player, SAB acquired Miller

which gave it immediate access to US market and established itself as the world's second largest

brewing company by volume.

SABMiller has utilized its unique resources and core competences to address competitive

challenges and stakeholder expectations. From being a regional player in South Africa during the

1990s, it has achieved tremendous growth via globalization and as of 2006, it has annual revenue in

excess of US $18 billion, with more than 200 brands and has firmly established itself as a global

brewing company (Annual Report 2007).

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