INNOCENTS ABROAD
The pleasures and perils for US companies of going overseas.
By Don Durfee

A flood of smaller companies has rushed overseas from the US over the past two years, most sooner than they would have ten years ago. Some small businesses are expanding internationally before they’ve even established a solid base of operations in their home markets. “You used to see venture-backed companies going abroad after their C or D round of funding,” notes Larry Harding, founder and president of High Street Partners, a US consultancy that helps companies manage their international finances. “Now they go abroad during the A round.”

Many are unprepared for what awaits them. According to a recent study by Bain & Co, only a third of expansions overseas by US retailers have returned their cost of capital. “People are naturally enticed by growth,” cautions Ron Langford, managing partner at consulting firm Marakon Associates. “But they’re spending less time thinking about the bottom-line implications of their decisions.”

Contract First, Office Second

Bruce Ferber can attest to that. Ferber, now CFO at US-based technology consulting firm Digital Focus, was involved in overseas expansions with two previous employers. Neither fared particularly well.

At one, a division of General Electric called GE Capital Spacenet, managers spent millions of pesos building a satellite ground-services operation in Argentina. Customers were less than enthusiastic. Eventually, GE Capital spun off the struggling division. “‘Build it and they will come’ is way too risky from my perspective,” says Ferber.

Instead, the Digital Focus CFO advises small-business executives to sew up a contract in a foreign country before setting up a local office. Ferber stuck to that belief when management at Digital Focus began contemplating its own move overseas last year.

The planned expansion wasn’t optional. Digital Focus had recorded revenue growth of 300% in 2003. But business slowed dramatically the next year, with revenues up just 30%. Boosting sales meant opening in new markets. It wasn’t hard to decide which ones. European countries are deregulating their national telecommunications companies. Such a bust-up usually means technology chaos and big IT budgets – a good combination for tech advisers like Digital Focus. With this opportunity before them, the company’s managers okayed a scheme to set up an operation in London.

This time, however, Ferber was determined to match costs more closely to revenues — and London isn’t cheap. “The prices in London and New York are pretty much the same,” he says. “Just put a pound sign in front of the number instead of a dollar sign.” Rather than committing to an expensive lease and hiring a local salesperson, the company first sent president Erin Smith to the UK to drum up business. After a sales meeting and a few phone calls, Smith landed Digital Focus’s first overseas contract. The consulting firm’s team worked out of client conference rooms, hotel lobbies, and local coffee shops.

The cost-conscious approach helped the company turn a healthy profit in 2005. Digital Focus is using the revenues from the initial engagement to fund further operations in the UK, including, finally, the lease of an office in London. While that workplace is three times as expensive as the consultancy’s space in the US, the London office isn’t exactly the equivalent of a Park Avenue suite. “We could have gone someplace [fancy] like Covent Garden, but we wanted to reinvest our profits,” explains Smith. “There are coffee stains on the rugs, but our clients like that. They say, ‘At least we’re not overpaying you.’”

Getting Profitable Early

For those courting clients, not overpaying is crucial, particularly in the early days of a cross-border expansion. As Marakon’s Langford points out: “Companies that are the most successful with their expansions are often the ones that can be profitable early.”

That’s easier said than done. Setting up cross-border operations can strain a finance chief’s ability to control administrative costs. CFOs accustomed to dealing with one set of books and one set of federal tax codes suddenly find themselves dealing with several general ledgers and multiple tax regimes. Differences in accounting treatments only add to the complexity.

For larger operations, the answer is simple: hire more finance staff to master local issues and support each business location. A start-up with five overseas sales offices can’t afford that, however. Neither can managers at resource-strapped small-cap companies. “You want good data from your country offices,” acknowledges Stu Fuhlendorf, CFO of Isilon Systems, a manufacturer of clustered storage systems. “But you don’t want a huge international infrastructure, especially when you already have the burden of Sarbanes-Oxley.”

To some extent, advances in technology are easing the pain. “Ten years ago, you had to have someone in every country to create and load a payroll tape,” says Bob Cecil at EquaTerra, an outsource and insource advisory firm. “With self service and the internet, you don’t need that anymore.”

Letting someone else do the legwork is another option. Consider Isilon’s arrangement. The US company has offices in Tokyo, Seoul, London, and across continental Europe, yet it has no permanent finance staff in any of those spots. Instead, Isilon management hired High Street Partners to help it line up local accounting firms in each market. Every month, High Street collects the numbers from the firms, reviews the figures for accuracy and consistency, and then passes the data along to its client. This allows Isilon to tap into local expertise without incurring big fixed costs. “We are ramping up very quickly, and this makes it easier for us to get into new countries,” says controller Pearl Chan. “And if we have to ramp down, we can do that, too.”

The arrangement is helpful, given that the business-process-outsourcing industry hasn’t caught up with the needs of smaller global companies. Large BPO specialists often focus on more profitable accounts, meaning large corporations. And while finance-outsourcing boutiques such as Core3, Outsource Partners International, and Savista (owned by Accenture) do offer some overseas services, they tend to stick to certain countries or industries. Savista, for example, serves small- to mid-sized companies in the restaurant business.

Even with outside help, international business is undeniably harder on finance at smaller outfits. “Having overseas subsidiaries means doing more with the same resources,” says Don Pratt, CFO of Ellacoya Networks, which makes hardware and software to control broadband networks. “We effectively have a 24-hour workday. If you need to talk with someone at 9 or 10 at night, you just need to do it.”

Of course, executives at some small companies say they welcome the challenge of going global without the assuring infrastructure and resources of a big multinational. That appears to be true for Bruce Ferber. “As a former GE Capital finance guy, I’ve played in the international space before,” he says.

He adds: “But this time I’m working without a net. It’s exhilarating.”