International expansion is smart but risky

It's hard enough to get a small business up and running in a local market but harder still to extend your reach and go international without getting burned in the process.

The benefits of looking beyond Canada’s borders to expand a business are obvious. Foreign suppliers can help cut costs. Opening a new office overseas can boost revenue. Inking a contract with a foreign partner can bring expertise and contacts to your business at minimal cost.

But the advantages are there only if the international move is managed properly. There are pitfalls waiting for unwary entrepreneurs.

"There’s an additional level of due diligence that’s needed with foreign operations, and by and large, smaller companies just aren’t doing it," says Peter Dent, a forensic accountant with Deloitte.

A recent Deloitte study on the issue found that 60 per cent of survey respondents said they had backed out of a foreign deal because of compliance issues. That could be anything from difficulties surrounding components that don't meet Canadian regulatory or safety standards, to improper paperwork and record-keeping, to outright fraud by new international partners and employees.

"Big companies do it well because they’ve been doing it for years. But the smaller ones get into trouble, usually accidentally, because they don’t understand the risks," Dent said.

A common problem that small businesses run into when they dabble with setting up international relationships, for example, is that they sometimes don’t really know who they’re dealing with.

"You’re not just taking over a company or setting up an office," Dent says. "You’re taking over employees, supply chains and subcontractors. You have to know who and what you’re getting into."

In his years pursuing fraud cases overseas, Dent has seen it all. He recalls the tale of a cement company that was supposed to be at a certain address, but when investigators stopped in for a visit, it was a bicycle stand. In another, he saw an office supply company whose address turned out to be a residential apartment building. One engineering firm listed a head office at an address that didn’t even exist.

Such examples are cautionary tales for small businesses that jump into foreign deals without doing their homework first. There’s no substitute for trusted local experience when thinking about moving into a new market, or setting up a relationship with a company already there, Dent says.

Major international firms are a good example of this. As Richard Bradeen, a senior vice-president at aerospace giant Bombardier Inc., told Deloitte recently: "We look to people on the ground to assess the business climate of the country we are looking at, and to investigate the past history of our potential target or partner."

With its population of more than a billion people, cheap labour force and booming economy, China is one of the most frequent targets for Canadian businesses looking abroad.

It can also be one of the most dangerous to do business in. The country has a reputation for lax regulatory standards, but frequently the problems small businesses run into in the country are tied to basic translation issues.

"In contracts, what’s written in English might not be what’s written in Chinese — but the Chinese one is the one that’s legally binding," Dent says, "If there’s any sort of discrepancy, the Chinese one will prevail."

Integrating China’s cheaper labour into a supply chain can be another good way to internationalize. But that, too, is sometimes easier said than done for small businesses trying to cut deals with suppliers used to dealing with big multinational clients.

That’s what Cassandra Rush, owner of Sassy Cassy’s Boots Inc., found when she went looking for a more affordable supplier. Her company sells high-end women’s boots with customizable calf sizes, marketing its products internationally.

"I’m up against massive companies like Michael Kors, so my challenges have been trying to reach the minimum order quantity in order to get a good price," the Langley, B.C.-based entrepreneur says.

She’s struggled to find the right balance for her small, nimble operation — buying enough to get a good price, while making sure she doesn’t buy thousands of boots she lacks the capacity to sell or store.

She has tried to outsource some production to Mexico, where the minimum orders are lower. But the tradeoff there is higher prices.

"It’s hard to find good manufacturers that create high-quality boots and that don’t believe in sweat-shop labour," she says.

She’s still trying to find the right international strategy for her firm, and her experiences illustrate that offshoring production isn’t always the cost savings panacea it’s made out to be.

Dealing with regulatory hurdles can also be a nightmare, because the way things get done with foreign bureaucracies and corrupt officials can be nebulous at best.

"Foreign government employees often prey on smaller companies because they know they can be swayed," Dent says.

The line between paying what you think is a genuine paperwork fee, for example, and handing someone an envelope stuffed with cash to pay a bribe is blurrier than you might think in some countries. You may think you’re playing by the rules, when really you’ve been suckered into breaking them.

Once a small business has invested time and effort in establishing a foreign beachhead and seems to be getting close to a deal, it can also be hard for them to walk away, Dent says. Few ever go in with the intention of bribing a foreign official, but incremental decisions and expenses add up and an entrepreneur who is heavily invested in trying to broker a deal may not realize when it’s time to or try a different route or call it quits.

"It starts off with maybe a dinner," Dent says. "Then maybe it's [buying someone] a computer to process the paperwork. The requests get larger and larger. Where does that slippery slope end?"

Not every expansion requires a major investment in partnerships or infrastructure. Sometimes, going international doesn't require anything as formal as a bricks and mortar foreign office. The internet has helped some entrepreneurs go global with a relatively small investment, but success depends largely on what you’re buying and selling.

Toronto-based Wave Accounting found success by seeking customers overseas, for example, but it’s in the somewhat unique position of being a small business with a flexible product that caters predominantly to other small businesses.

The company, which makes accounting software, launched its service in November 2010 and already has 60,000 customers in 192 countries across the globe. Their advantage? Wave does business entirely online. The company didn’t have to focus solely on the local market, since their target customers were everywhere, according to founder Kirk Simpson.

"We’re going after the nine-employees-or-less market, which evidence suggests is dominated by spreadsheets and shoeboxes [of receipts]," he says.

The global reach of the internet allowed Wave Accounting to quickly reach a worldwide network of potential users, without ever having to set up shop anywhere other than their Toronto offices. This allowed them to reap the benefits of a global customer base without the risk of setting up global offices.

"People always ask me when we might hire an internal sales force," Simpson says. "I say: never."

Wave's business model has a few advantages that might be transferable to any small business trying to go global. For one thing, the company’s technology is designed in such a way that regional foibles are left in the hands of users.

"We built it specifically so there were no geographic limitations," Simpson says. Users can tailor the system to be as precise or as vague as they want with regard to the financial realities of where they operate. They input the local tax rates within 30 seconds of registering, for example. And they can integrate as much or as little of their banking information as they're comfortable with; the system is able to aggregate transactions from 10,000 banks across the globe.

"We didn't want to have to stay on top of every tax regime around the world," Simpson says, "so we let our users be the experts on that."

Wave schedules improvements to the system based on how many users have written in and asked about a particular update. If there's a critical mass of interest, they'll change the system. If not, they'll just design a simple workaround for the individual user.

They're also nimble and adept at staying on top of what their customers want. At launch, the system could only process the dollar symbol. But within three months, it was updated to include all the currencies of the world once it became clear there was a demand for it.

Wave is an example of how to leverage the international marketplace to boost business. But they've had their successes mainly because they did their homework. The company was founded in July 2009 and staff spent more than a year developing their complex, customizable system so they'd be ready to meet the needs of clients everywhere.

Not enough small businesses think so long-term. Blinded by the lure of short-term gains, many small businesses go global with a basic awareness of the risks, only to discover their strategy wasn't the right one.

As Dent puts it, "Even if you’ve gotten lucky and have had a largely positive experience abroad, that’s no excuse for a business to not be thinking seriously about these issues."