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Executive Summary
This consultation considers the risks and strategic options for bringing Culligan bottled water and home filtration systems to the Brazilian market in 2007.  Included in the study is a company analysis, analysis of business conditions, infrastructure considerations, and cultural considerations. 
The research indicates that Culligan should make immediate small-scale entry to the market via an exporting strategy, focusing on cultivating a Brazilian branding of their product.  Additionally, the firm should begin FDI through joint venture or acquisition of production facilities as soon as possible, since this will provide long-term cost savings and alleviate export uncertainties.  Culligan should raise capital outside Brazil and develop hedging strategies to reduce exposure to interest rate and exchange rate risk.

Company Analysis

Product

Since its founding in 1936 by Emmitt Culligan, Culligan Water has been dedicated to improving people’s water quality both at work and at home.  To achieve this, Culligan constantly strives to find new ways to treat hard water and rid water of contaminants.  Culligan offers the best quality through its commitment to research & development, as well as through personal contact and local expertise, which they provide through franchises around the world.  Culligan trains local representatives to be experts on the water conditions for their particular location.  Culligan’s feature products are bottled water and water filtration systems.

Strengths

Culligan has extensive experience in developing new markets for both their filtration systems and their bottled water.  Through the use of their well-established franchise system (an indication of the firm’s international strategy) Culligan maintains a network of local dealers to overcome its lack of local responsiveness in product and marketing.  The firm offers a durable, effective, low-cost product that improves the taste of drinking water.  Most Brazilians are likely to distrust the benefits of filtered water, but Culligan has experience in educating potential customers about the benefits of water filtration systems.  Culligan is backed by a large MNE with substantial cash and credit resources available to support its projects.

Weaknesses

Brazil presents a difficult and varied marketplace for Culligan’s products.  The firm faces stiff competition on the bottled water front and will find it difficult to differentiate this product.  Therefore, the firm will be face high cost pressures.  Distribution chain maintenance costs may put Culligan at a disadvantage in this market.  In filtration systems, Culligan has a product that limits its potential market to customers who already have purified drinking water available to them.  The market will expand as the local drinking water infrastructure improves, because consumers will become more particular about water taste.  However, the home filtration system may be priced too high for lower and middle class customers in Brazil.  Adapting to this highly competitive market will be demanding regardless of the timing or location.

Competitiveness

Culligan has achieved brand identity as a leading producer of water filtration systems in the U.S.  In addition, Culligan is a well-known name for large bottled drinking water in the U.S. and throughout the world.  Expertise in training local staff constitutes a strong competitive advantage for the firm.  Culligan’s experience economies in production quality combined with its method of developing a local sales force make it a competitive company in any market it enters.

Competitors

Culligan’s primary competitors in the Brazilian marketplace will be Coca-Cola and Pepsi, both of which already sell bottled water there.  These firms mainly target individual consumers.  There are several other well-established firms that produce bottled water at facilities within Brazil, such as Ambev, Panamco, and Nestle.  These firms will compete with Culligan for corporate customers.  Aquafilter, H20 International, and many other international water filtration system manufacturers recently participated in an international exposition in Brazil.  Many of these companies already compete in Brazil.

 

Business Conditions:

Economy

Brazil’s mixed economy allows for privatization of most industries, including the bottled water and filtering industries.  Brazil has the largest economy in South America and a GDP per capita of $7,625.  The richest 20% of Brazilians control 64.1% of the wealth, while the poorest 20% control only 2.2% of the wealth.  This separation between incomes of the rich and poor splits the Brazil water market into distinct upper and lower class segments, which may make it easier for Culligan to target their products.

Government

Political System

Twenty-six states and over seventeen political parities make up Brazil’s political system.  Though the system contains democratic voting rights for citizens, the current president is a member of the workers’ party and the government is organized as a Social Democracy.  Therefore many of the future policies will be influenced by Social Democrat ideologies.  Because of this, Brazilian the government will be more likely to take action in the interests of “the greater good” in some instances, rather than promoting individualism.  Although President Luiz Inacia da Silva, often referred to as “Lula,” heads up the country, much of the power still resides with the state governors who can adapt the central government’s policies to their own liking.  Lula’s administration is continually pushing Brazil towards economic and political unity and stability.
Traditionally Brazil has not provided protection for trademarks within the country’s borders, but the legal system is now cracking down on trademark infringement.  Even a few foreign firms have won court cases against domestic infringement.  Copyright law supposedly conforms to world standards, yet in 2000 losses from the illegal sale of pirated videos, music and books totaled over $800 million.  Although infringement and piracy persist in Brazil, Culligan will not fear risks to intellectual property if they establish a subsidiary in Brazil.  Due to domestic presence of Culligan’s subsidiary, any potential infringement will be discouraged.  In addition, there have been no reported infringements upon bottled water and filter trademarks or copyrights in Brazil, to date.

Trade Barriers

Even though Brazil belongs to WTO, the average tariff imposed in 2002 stands at 11.8% and import licenses are difficult to acquire.  Also, Brazilians adhere to a “buy national” policy, which encourages Brazilians to choose domestically produced goods over imports.  Considering this, Culligan may be able to reduce transportation costs and avoid distribution problems by producing within Brazil. 
FDI Requirements/Barriers
Public policy and regulatory reforms within Brazil, Brazil’s membership in MERCOSUR and Brazil’s stable property rights entice foreign firms to engage in M&A transactions with Brazilian firms.  Risks and costs relating to Greenfield investments remain high in Brazil.  Firms with Brazilian subsidiaries must be wary of corruption and crime as well as the possibility of Argentina’s instability tRickling into Brazil.  Tariffs average 14% and max out at 35%.  As far as licensing goes, Brazil uses the first-to-file principle for trademarks.  Due to the high tariffs and improving conditions for FDI, it may be best for Culligan to establish a foothold within Brazil via joint venture, merger, or acquisition.

Competition Policy

Water provision is a competitive industry in Brazil as shown by the powerful water companies already in Brazil.  Culligan will not encounter any government resistance as they increase competition within Brazil’s water filtration and bottled water sectors.

Labor Laws

As a result of strong support for unions (25% of Brazilian workers are union members), Brazil has strong labor laws to protect workers’ rights.  Labor laws in Brazil require businesses to provide 13 months of pay each year and 30-day vacations where the worker earns one-third their normal salary.  Also, firms are required to give 30 days notice for firing workers and severance pay, if they are not dismissed for good cause.  Additionally, employers must pay a “13th salary” in December, which is known as the “Christmas bonus.”  Finally, if the work is considered hazardous under law, payment of a hazard bonus of up to 40% of minimum wage is required.  Though the minimum wage is low, Culligan should expect to pay benefits and provide ample vacation days for Brazilian employees if they choose FDI in Brazil.

Membership in Multi- and Bilateral Organizations

Brazil’s membership in the WTO will lower the costs of exporting to Brazil over the long run due to removal of trade barriers.  Brazil has membership in MERCOSUR, as well.  MERCOSUR is a free trade pact between Argentina, Paraguay, Uruguay and Brazil.  If Culligan chooses FDI over exporting to the Brazilian market, the firm will be able to export throughout MERCOSUR while avoiding the hefty tariffs that exporters normally pay to MERCOSUR members.

Currency Issues

As of June 2, one US dollar trades for around 2.980 Brazilian Reals, continuing a two month period of improvement for the Real.  Copom, the Brazilian Central Bank, is taking steps to manage the money supply in order to strengthen the Real against foreign currencies.  The Bank has raised reserve requirements for Brazilian banks, which restricts capital available for loans.  Also, the current short-term government interest rate (known as the Selic Rate) has been set at 26.5% by Copom to curb inflation.  Currently, inflation is 10-13% in Brazil, and is expected to rise to 16% by summer, but government intervention is expected to have a stabilizing effect on inflation, bringing it down to about 4% by the end of 2004.  As a result of these measures, the Real is strengthening against the dollar.  Renewed investor confidence is evident in the success of a recent international bond issuance by the government.  This means that invested capital in Brazil will appreciate, as the Real grows stronger.  If borrowing is necessary to fund FDI, Culligan should seek sources outside of Brazil, since the rates are substantially lower elsewhere.

Risks

Political Risks

Politically speaking, Brazil continues to move towards stability.  Regulatory agencies are a new phenomenon in Brazil.  In the short term, the ongoing development of regulations lends uncertainty to returns on FDI.  However, regulatory agencies will contribute to increasing legal stability over time.  The main political risk involves working with politicians who often require bribes of 20-30% of regular fees for allowing companies like Culligan to attain permits for zoning, sales, production, use of pipes etc.

Economic Risks

Economic risks can deter companies from entering the Brazilian market.  Currently, the public debt stands at $250 Billion, which is 56% of the county’s GDP.   This high level of public debt signifies an unhealthy economy.  This debt combined with the potential for rising interest rates spells out economic instability for Brazil and high risk for any FDI.  However, IMF loans and strict monetary policy is having a stabilizing effect on the Brazilian economy and optimism has risen further with the close of Gulf War II.

Legal Risks

Brazil’s legal system lacks the consistency and reliability Culligan and other foreign firms require for low risk investments.  For instance, Culligan may have contracts with firms in Brazil.  The firms could break these contracts and Culligan would be left without recourse due to the weak legal system.   On a positive note, property rights are secure.

Ethical Considerations

Human Rights

Human rights as well as benefits and entitlements to laborers are supported in Brazil.  Culligan can feel secure about treatment of employees in Brazilian franchises and partnered firms.

Environmental Conservancy

The environmental situation in Brazil is complex.  The logging industry, for example, cuts down the forests by the millions of acres, yet the Brazilian government supports the use of environmentally progressive products, like ethanol-powered cars.  Culligan will not need to compromise environmental standards to do business in Brazil and may find government assistance in efforts to provide eco-friendly products.

Corrupt Practices

Doing business in Brazil involves significant bribes to politicians and government workers.  Exporting to Brazil does, as well.  Under the U.S.’s Foreign Corrupt Practices Act, Culligan cannot offer bribes to foreign officials for circumventing local law for the firm’s benefit.  Nevertheless, bribes to acquire permits to establish a business, lay down piping or trade between states are not prohibited by the Act.
Infrastructure Condition

Suppliers and Distributors

There are partners and allies available to Culligan in Brazil. Due to high cost pressures in the bottled water industry and fairly high pressure for local responsiveness for both bottled water and water filters, an alliance or partnership may be crucial to Culligan’s success in Brazil.
The Brazilian government intends to sell its water assets and it is possible that Culligan can form a strategic alliance with a firm such as SABESP.  SABESP has a 30-year agreement with the state of Sao Paulo and a water supply that meets World Health Organization standards.  An alliance such as this one could provide guidance for Culligan on political and economic issues in Brazil. 

Market Research Services

There are many market research resources available to Culligan. The Department of Commerce and many other government agencies make trade information available for companies interested in exporting to foreign countries such as Brazil. There are also private firms which will perform research services specific to Culligan’s needs.

Trade and Investment Financing and Financial Services

The Brazilian government has been working over the past few years to curb inflation and stabilize the economy. These efforts have led to very high (26.5%) interest rates in Brazil. Culligan should choose against raising capital within Brazil at this time. There are many alternatives available for debt or equity financing in other markets. Interest rates in the United States have been at historical lows. The strong Euro makes borrowing in Europe and particularly France, the home of Culligan’s parent company, attractive too.

Utilities, Transportation and Port Services

The Brazilian government has invested $4 Billion in water infrastructure recently and is making efforts to improve all aspects of Brazil’s infrastructure countrywide.  Even with the attempts at improvement by the government the roads are in very poor condition, with only 10% of them currently paved. The Brazilian ports are in substandard condition and lack resources.  The delays and costs of shipping to Brazilian ports reduce the attractiveness of exporting.  The state of Sao Paulo does have a substantial rail system and may be the best option for transportation of Culligan’s product within Brazil.

Demographics and Labor Resources

Brazil has good labor resources available.  Over 65% of the population is between 15 and 65 years old, but productivity may be an issue. The Brazilian workers have a fear of failure that may lead to decreased motivation. The country does see a very low turnover rate in its work force due to high loyalty and uncertainty avoidance factors.  Placing workers in groups may be the best solution to low productivity, as the Brazilian workers do tend to work well together.

Production Facilities

Culligan has become skillful at establishing itself in foreign countries through franchising, and through arranging distribution partnerships. Finding success in Brazil may require a similar strategy and this would require either setting up production facilities in Brazil or exporting to marketing and distribution partners or subsidiaries in Brazil. The water and labor resources are available in the more populated areas of Brazil and Culligan should be able to establish or acquire production facilities with relative ease.

Location Factors

Brazil’s infrastructure is improving and the outcome of improvements will guide location decisions for companies looking to do business in Brazil.  Culligan should work closely with the government to select production facility locations while taking steps to influence infrastructure planning.  Culligan will want to build in locations where infrastructure contributes cost reductions to its supply chain.
Cultural Issues

Social Stratification

Social mobility in Brazil is low and the people tend to stay within the strata into which they are born. They also exhibit signs of class consciousness (as reflected in Hofstede’s power distance rating for Brazil) and this shapes their relationships with coworkers and managers.

Religion

Eighty percent of the Brazilian population is Roman Catholic.  Brazilians do not identify with the “Protestant Work-Ethic,” so Culligan may have to adjust its management style to accommodate the Brazilian worker’s indifference toward wealth accumulation.  However, though religion is important to Brazilians, it does not appear to impact worker productivity to a material degree.

Education

Brazil as a whole has an 83% literacy rate and in southern Brazil that rate is even higher.  This fairly low literacy rate will make it somewhat difficult to build a workforce.  Combined with the high job loyalty of the workers in Brazil, this will be an impediment to attracting quality workers.

Language

With 97% of the population speaking Portuguese it will be critical to have native Portuguese speaking managers for Culligan’s Brazilian operations.  It is common to conduct business negotiations in English in Brazil, but a company whose representatives can communicate in Portuguese will have a competitive advantage in building relationship networks within Brazil.

Workplace Culture

According to Hofstede’s four dimensions of workplace culture, Brazil scores fairly high on power distance and uncertainty avoidance.  High power distance implies that for Brazilians, inequalities in physical and intellectual abilities lead to high disparity of wealth and power.  High uncertainty avoidance implies that Brazilians tend to avoid uncertainty and resist change, seeking job security and clarity of rules instead.  Therefore, Culligan’s managers must keep tight control of Brazilian workers and clearly communicate expectations to them.  Brazil scores low on individualism, which means that Brazilians tend towards a collective society and group work.  Brazil scored in the middle for the masculinity vs. femininity dimension, which means that differentiation between men and women in the workforce is fairly low, even though “machismo” culture is still a powerful force in Brazilian society.

Employee Management Practices

Culligan as a company takes pride in being an equal opportunity employer and claims that they hire the best person for a particular job. For them to be successful in Brazil it will be even more important for Culligan to hire the right people. Brazilians tend to be very loyal and they have a strong sense of national pride. Though Brazil espouses a “Buy National” philosophy, these factors could mean that hiring Brazilians will help Culligan overcome the “foreign company” stigma to find success.

Marketing

Culligan offers standardized advertising for its franchises in the US and other markets, but this may not be the best approach in Brazil. It is important for Culligan to attach a Brazilian feel to its products.  The marketing campaign must be targeted for Brazilian middle-to-upper class and the product priced to differentiate Culligan bottled water and filtration systems on the basis of quality. Finding Brazilian celebrities and sports teams to sponsor and promote Culligan will help the firm gain a Brazilian identity.
Conclusion
                As stated above, market conditions in Brazil will accommodate a successful FDI project by Culligan.  Critical success factors will include transportation/distribution costs, pricing, cultural awareness and financing decisions.  The proper choices will result in positive returns for Culligan.