3 Reasons Why Foreign Firms Keeps Investing In India.

Project submitted to- Prof. Sulekha Munshi.

Subject:-International Business

Semester:- 8

L.J. Institute of Management Studies (Integrated MBA)

Project report submitted by Krishnapalsinh Virpara [51]

Chhatrapalsinh Zala [53]

Raghuvirsinh Chauhan [58]

 TABLE OF CONTENTS

SR.NO. PAGE NO.

1 Introduction 3

2 Foreign Direct Investment in India 5

3 Types of FDI 6

4 Methods of FDI 8

5 Investment routes for FDI in India 9

6 FDI policy in India 11

7 FDI promotional initiatives 13

Reasons for Global Firms should keep

8 15
investing In India

Bibliography 19

2
1. INTRODUCTION

A foreign direct investment (FDI) is an investment in the form of a controlling

ownership in a business in one country by an entity based in another country.

Broadly, foreign direct investment includes "mergers and acquisitions, building new
facilities, reinvesting profits earned from overseas operations, and intra company
loans". In a narrow sense, foreign direct investment refers just to building new
facility, and a lasting management interest (10 percent or more of voting stock) in an
enterprise operating in an economy other than that of the investor. FDI is the sum of
equity capital, long-term capital, and short-term capital as shown in the balance of
payments. FDI usually involves participation in management, joint-venture, transfer
of technology and expertise. Stock of FDI is the net (i.e., outward FDI minus inward
FDI) cumulative FDI for any given period. Direct investment excludes investment
through purchase of shares.

FDI, a subset of international factor movements, is characterized by controlling

ownership of a business enterprise in one country by an entity based in another
country. Foreign direct investment is distinguished from foreign portfolio investment,
a passive investment in the securities of another country such as public stocks and
bonds, by the element of "control". According to the Financial Times, "Standard
definitions of control use the internationally agreed 10 percent threshold of voting
shares, but this is a grey area as often a smaller block of shares will give control in
widely held companies. Moreover, control of technology, management, even crucial
inputs can confer de facto control.

Another observation made by Hymer went against what was maintained by the
neoclassical theories: foreign direct investment is not limited to investment of excess
profits abroad. In fact, foreign direct investment can be financed through loans
obtained in the host country, payments in exchange for equity (patents, technology,

3
machinery etc.), and other methods. The main determinants of FDI is side as well as
growth prospectus of the economy of the country when FDI is made. Hymer
proposed some more determinants of FDI due to criticisms, along with assuming
market and imperfections.

1) Firm-specific advantages: Once domestic investment was exhausted, a firm could

exploit its advantages linked to market imperfections, which could provide the firm
with market power and competitive advantage. Further studies attempted to explain
how firms could monetize these advantages in the form of licenses.

2) Removal of conflicts: conflict arises if a firm is already operating in foreign market

or looking to expand its operations within the same market. He proposes that the
solution for this hurdle arose in the form of collusion, sharing the market with rivals or
attempting to acquire a direct control of production. However, it must be taken into
account that a reduction in conflict through acquisition of control of operations will
increase the market imperfections.

3) Propensity to formulate an internationalization strategy to mitigate risk: According

to his position, firms are characterized with 3 levels of decision making: the day to
day supervision, management decision coordination and long term strategy planning
and decision making. The extent to which a company can mitigate risk depends on
how well a firm can formulate an internationalization strategy taking these levels of
decision into account.

4
2. FOREIGN DIRECT INVESTMENT IN INDIA

Foreign investment was introduced in 1991 under Foreign Exchange Management

Act (FEMA), driven by then finance minister Manmohan Singh. As Singh
subsequently became the prime minister, this has been one of his top political
problems, even in the current times. India disallowed overseas corporate bodies
(OCB) to invest in India. India imposes cap on equity holding by foreign investors in
various sectors, current FDI in aviation and insurance sectors is limited to a
maximum of 49%.

Starting from a baseline of less than $1 billion in 1990, a 2012 UNCTAD survey
projected India as the second most important FDI destination (after China) for
transnational corporations during 2010–2012. As per the data, the sectors that
attracted higher inflows were services, telecommunication, construction activities and
computer software and hardware. Mauritius, Singapore, US and UK were among the
leading sources of FDI. Based on UNCTAD data FDI flows were $10.4 billion, a drop
of 43% from the first half of the last year.

India has already marked its presence as one of the fastest growing economies of
the world. It has been ranked among the top 10 attractive destinations for inbound
investments. Since 1991, the regulatory environment in terms of foreign investment
has been consistently eased to make it investor-friendly.

The measures taken by the Government are directed to open new sectors for foreign
direct investment, increase the sectoral limit of existing sectors and simplifying other
conditions of the FDI policy. FDI policy reforms are meant to provide ease of doing
business and accelerate the pace of foreign investment in the country.

5
3. TYPES OF FOREIGN DIRECT INVESTMENT

Green Field Investment direct investment in new facilities or the expansion of

existing facilities. Greenfield investments are the primary target of a host nation’s
promotional efforts because they create new production capacity and jobs, transfer
technology and know-how, and can lead to linkages to the global marketplace.
However, it often does this by crowding out local industry; multinationals are able to
produce goods more cheaply (because of advanced technology and efficient
processes) and uses up resources (labour, intermediate goods, etc).

Another downside of greenfield investment is that profits from production do not feed
back into the local economy, but instead to the multinational's home economy. This
is in contrast to local industries whose profits flow back into the domestic economy to
promote growth.

Mergers And Acquisition occur when a transfer of existing assets from local firms to
foreign firms

takes place, this is the primary type of FDI. Cross-border mergers occur when the
assets and operation of firms from different countries are combined to establish a
new legal entity.

Cross-border acquisitions occur when the control of assets and operations is

transferred from a local to a foreign company, with the local company becoming an
affiliate of the foreign company. Unlike greenfield investment, acquisitions provide no
long term benefits to the local economy-- even in most deals the owners of the local
firm are paid in stock from the acquiring firm, meaning that the money from the sale
could never reach the local economy.

>Horizontal Foreign Direct Investment: is investment in the same industry abroad as

a firm operates in at home.

>Vertical Foreign Direct Investment : Takes two forms:

6
1) Backward vertical FDI: where an industry abroad provides inputs for a firm's
domestic production process

2) Forward vertical FDI: in which an industry abroad sells the outputs of a firm's
domestic production processes.

The first type of FDI is taken to gain access to specific factors of production, e.g.
resources, technical knowledge, material know-how, patent or brand names, owned
by a company in the host country. If such factors of production are not available in
the home economy of the foreign company, and are not easy to transfer, then the
foreign firm must invest locally in order to secure access.

The second type of FDI is developed by Raymond Vernon in his product cycle
hypothesis. According to this model the company shall invest in order to gain access
to cheaper factors of production, e.g. low-cost labour. The government of the host
country may encourage this type of FDI if it is pursuing an export-oriented
development strategy. Since it may provide some form of investment incentive to the
foreign company, in form of subsidies, grants and tax concessions. If the government
is using an import-substitution policy instead, foreign companies may only be
allowed to participate in the host economy if they possess technical or managerial
know-how that is not available to domestic industry. Such know-how may be
transferred through licensing. It can also result in a joint venture with a local partner.

The third type of FDI involves international competitors undertaking mutual

investment in one another, e.g. through cross-shareholdings or through
establishment of joint venture, in order to gain access to each other's product
ranges. As a result of increased competition among similar products and R&D-
induced specialisation this type of FDI emerged. Both companies often find it difficult
to compete in each other's home market or in third-country markets for each other's
products. If none of the products gain the dominant advantage, the two companies
can invest in each other's area of knowledge and promote sub-product specialisation
in production.

The fourth type of FDI concerns the access to customers in the host country market.
In this type of FDI there are not observed any underlying shift in comparative

7
advantage either to or from the host country. Export from the companies' home base
may be impossible, e.g. certain services, or the capability to request immediate
design modifications. The limited tradability of many services has been an important
factor explaining the growth of FDI in these sectors.

The fifth type of FDI relates to the trade diversionary aspect of regional integration.
This type occurs when there are location advantages for foreign companies in their
home country but the existence of tariffs or other barriers of trade prevent the
companies from exporting to the host country. The foreign companies therefore jump
the barriers by establishing a local presence within the host economy in order to gain
access to the local market. The local manufacturing presence need only be sufficient
to circumvent the trade barriers, since the foreign company wants to maintain as
much of the value-added in its home economy.

4. METHODS OF FDI

The foreign direct investor may acquire voting power of an enterprise in an economy
through any of the following methods:

-By incorporating a wholly owned subsidiary or company anywhere

-By acquiring shares in an associated enterprise

-Through a merger or an acquisition of an unrelated enterprise

-Participating in an equity joint venture with another investor or enterprise

8
5. INVESTMENTS ROUTES FOR FDI IN INDIA

The entry of Foreign Direct Investment by non residents into India is regulated
through two routes –automatic route and approval route. The automatic route is
aimed for those sectors and levels of investment that are less restricted. On the
other hand, in the case of approval route, government agencies regulate and
scrutinises foreign investment while approving it.

The automatic and approval routes are aimed to have monitoring over the
investment activities at the same time to avoid wasteful procedural delays. In most
cases, FDI up to certain limits (in Rs crores) and with certain conditions can be made
through the automatic route. In the same sectors, FDI beyond a limit (in terms of
percentage of investment made in a business venture) and that generally have
critical importance need approval from the relevant agencies.

Automatic route

The automatic route stands for less restricted or more liberalized regulation. Under
the Automatic Route, the foreign investor or the Indian company does not require
any approval from the Reserve Bank or Government of India for the investment. The
approval route FDI is allowable in all sectors and activities specified under the
consolidated FDI policy.

Approval Route

Under the approval route or government route, the foreign investor or the Indian
company should obtain prior approval of the Government of India agencies or bodies
specified.

Proposals for foreign investment under approval route as laid down in the FDI policy
are considered by either Foreign Investment Promotion Board (FIPB) or Cabinet
Committee on Economic Affairs or Cabinet Committee on Securities. In certain

9
cases, the Department of Economic Affairs (DEA) or Department of Industrial Policy
& Promotion are also assisting the above approving agencies. The FIPB considers
those investments up to Rs 5000 crores for approval. Above this limit, approval will
be made by CCEA.

Which body or agency has to give the approval for a specific FDI proposal depends
upon the sector and nature of investment specified under the consolidated policy on
FDI. For example, as per the new FDI policy on defence sector, FDI more than 49%
and also that involves more than Rs 2000 crores investment is to be approved by the
Cabinet Committee on Securities.

10
6. FDI POLICY IN INDIA

under automatic route permitted in Teleports, Direct to Home, Cable Networks,

Mobile TV, Headend-in- the Sky Broadcasting Service

FDI up to 100% under automatic route permitted in Up-linking of Non-‘News &

Current Affairs’ TV Channels, Down-linking of TV Channels

In case of single brand retail trading of ‘state-of-art’ and ‘cutting-edge technology’

products, sourcing norms can be relaxed up to three years and sourcing regime can
be relaxed for another 5 years subject to Government approval

Foreign equity cap of activities of Non-Scheduled Air Transport Service, Ground

Handling Services increased from 74% to 100% under the automatic route

100% FDI under automatic route permitted in Brownfield Airport projects

FDI limit for Scheduled Air Transport Service/ Domestic Scheduled Passenger
Airline and regional Air Transport Service raised to 100%, with FDI upto 49%
permitted under automatic route and FDI beyond 49% through Government approval

Foreign airlines would continue to be allowed to invest in capital of Indian

companies operating scheduled and nonscheduled airtransport services up to the
limit of 49% of their paid up capital

In order to provide clarity to the e-commerce sector, the Government has issued
guidelines for foreign investment in the sector. 100% FDI under automatic route
permitted in the marketplace model of e-commerce

100% FDI under Government route for retail trading, including through e-
commerce, has been permitted in respect of food products manufactured and/or
produced in India

11
 100% FDI allowed in Asset Reconstruction Companies under the automatic route

74% FDI under automatic route permitted in brownfield pharmaceuticals. FDI

beyond 74% will be allowed through government approval route

FDI limit for Private Security Agencies raised to 74% (49% under automatic route,
beyond 49% and upto 74% under government route)

For establishment of branch office, liaison office or project office or any other
place of business in India if the principal business of the applicant is Defence,
Telecom, Private Security or Information and Broadcasting, approval of Reserve
Bank of India would not be required in cases where FIPB approval or
license/permission by the concerned Ministry/Regulator has already been granted

Requirement of ‘controlled conditions’ for FDI in Animal Husbandry (including

breeding of dogs), Pisciculture, Aquaculture and Apiculture

12
 7. FDI PROMOTIONAL INITIATIVES

Drive economic growth and improve the quality of life of citizens by enabling
industrial and urban infrastructure development

Industralization and Urbanization

1. Industrial Corridors and 21 new nodal Industrial Cities to be developed:

o Delhi-Mumbai Industrial Corridor (DMIC)

o Chennai-Bengaluru Industrial Corridor (CBIC)
o Bengaluru-Mumbai Economic Corridor (BMEC)
o Vizag-Chennai Industrial Corridor (VCIC)
o Amritsar Kolkata Industrial Corridor (AKIC)
These 21 new nodal cities will be having advantages like; Large land parcels,
Planned communities, ICT enabled infrastructure, Sustainable living, Excellent
connectivity- Road, Rail etc.

Delhi-Mumbai Industrial Corridor is a mega infra-structure project of USD 100 billion

with financial and technical aids from Japan, covering an overall length of 1,483 km.
Dedicated Freight Corridor (DFC) of 1504 km as the backbone, DMIC will intersect 7
states namely Delhi, Uttar Pradesh, Haryana, Rajasthan, Madhya Pradesh, Gujarat
and Maharashtra.

2. Doubling of Network of Roads by 2020 and Construction of 15,000 km new roads by

2017 is targeted under various projects

3. Railway projects such as Setting up of New Railway Stations, Mordernisation of

Rolling stock, High Speed Railways, Port Mine connectivity etc. have been initiated
for Modernising and better connectivity of Indian Railways.

4. Eastern Dedicated Freight Corridor of 1840 km length and Western Dedicated

Freight Corridor of 1504 km length is under construction as well as many projects
are under planning stage.

13
5. Sagar Mala project is started by the Govt. of India to modernize India's Ports and
Inland waterways so that port-led development can be augmented and coastlines
can be developed to contribute in India's growth, providing a project outlay of US$ 10
billion

6. The Smart Cities Mission having a project outlay of US$ 7.69 billion is progressing,
with Special Purpose Vehicles for 19 cities already set up.

7. Aviation industry with target of becoming 3 rd largest by 2030 and to cater

international and domestic traffic.

14
8. REASONS FOR GLOBAL FIRMS SHOULD KEEP
INVESTING IN INDIA

A major debate has unfolded around India’s economic prospects. On the one hand,
you have Prime Minister Modi declaring at the 2018 World Economic Forum that
India’s economy, already the fifth largest in the world, will double, to $5 trillion, by
2025. On the other hand, you have the media pointing out the country’s shallow
middle class, growing inequality and joblessness, and a trail of multinationals
frustrated by the lack of China-like success in India.

While India remains a challenging market, there are at least three reasons global
firms cannot overlook the country without consequences.

1. INDIA HAS SEEN GROWTH IN INFRASTRUCTURE SPENDING.

The country has been increasing its spending on infrastructure such as airports,
cities, hotels, ports, roads, bridges, hospitals, and power plants. During the past
three years, for instance, the newly formed Andhra Pradesh State has made
massive investments in building out its infrastructure. India has expanded its solar
generating capacity eightfold since 2014 and achieved the target of 20GW of
capacity four years ahead of schedule. India plans to catalyze $200–$300 billion of
new investment in renewable energy infrastructure over the next decade.

Industrial companies like JCB, Cummins, AECOM, and General Electric and
investors like Brookfield have successfully capitalized on India’s infrastructure
investments. In fact, JCB makes half its global profits in India. It’s been estimated
that India needs $5 trillion in infrastructure investment to sustain its economic
growth, but local Indian companies lack the competencies needed. This means
significant growth potential for multinationals who have core competencies in high-
tech infrastructure solutions such as jet engines, turbines, CT scanners, and satellite
communications.

15
2. INDIA’S EMERGING MIDDLE CLASS IS STRONG.

It’s true that India’s business environment poses challenges for all companies in the
consumer economy. All the same, some global consumer companies, such as
Unilever, Xiaomi, Suzuki, Hyundai, Honda, LG, Samsung, and Colgate, have been
able to overcome challenges and constraints to do spectacularly well in the middle of
the economic pyramid.

Consider two success stories in India’s consumer economy: Amazon and Renault’s
ultra-low-cost Kwid car. Amazon entered India in 2013 when two local Indian
companies, Flipkart and Snapdeal, had already established themselves as market
leaders in e-commerce — and still rose to become the number one online retailer in
India. The country has added new customers at the fastest rate for Amazon in its
history of operations across the world, including the U.S.

Similarly, when Renault entered India and introduced Kwid in 2015, Maruti and
Hyundai had almost 70% of India’s large and fast-growing subcompact car market.
In a short two years, Kwid gained 15% of the market. More important, Renault has
taken Kwid to many other markets, including South America.

Three things allow firms like Amazon and Renault to succeed in India’s consumer
market. First, their CEOs have a strategic and long-term commitment to the market.
Amazon CEO Jeff Bezos and Renault CEO Carlos Ghosn are in India for the long
term, as a hub for middle-of-the-pyramid innovations that can serve all emerging,
and even developed, markets. Second, they build strong local teams in India and
shift resources and decision-making authority to India. Amazon’s India CEO Amit
Agarwal and Renault’s India CEO Sumit Sawhney have considerable autonomy to
innovate in India. Third, they evolve their business models and make products that
are appealing, affordable, and accessible to the emerging middle class. Renault’s
Kwid and Amazon’s e-commerce model are totally customized for the needs of the
Indian middle class.

For comparison, this is the opposite of what Apple is doing in the world’s second-
largest smartphone market. Apple’s iPhone has a 2% market share, while Samsung

16
and Xiaomi lead the market with 23% each. One reason why is that Apple seems to
be waiting for Indians to get wealthier and fit its business model, while competitors
Samsung and Xiaomi are offering products and pricing customized for Indian
consumers.

Challenging as India is, the bigger challenge for most global companies is learning to
adapt their approaches to other markets rather than copying and pasting their
developed market models across the world. To succeed in India, companies must be
willing to take a clean sheet of paper and start designing to the middle of the
pyramid.

3. THE COUNTRY IS IN A TECH STARTUP BOOM.

The biggest reason why India should continue to matter to global firms is not the size
of the market per se, but the opportunity to participate in one of the richest tech
startup innovation ecosystems in the world. The startup ecosystem, now the world’s
third largest, is maturing rapidly and is no longer dominated by copycat e-commerce
companies. In fact, tech startups have attracted over $20 billion in the past three
years.

Three factors are driving this boom. The first is India’s investment in its technology
infrastructure. Government agencies and tech volunteers have come together to
create “India Stack” — a set of APIs giving governments, businesses, startups, and
developers a common digital infrastructure on which they can build and deliver
presence-less, paperless, and cashless services. For example, telecom
companies and banks are now able to open new accounts in five minutes without a
single paper document. Digital payments using a free API called UPI (Unified
Payment Interface) have already exceeded all credit card transactions in little over a
year. Internet wireless access has dramatically increased recently, especially
after Reliance Jio’s 4G rollout (Reliance alone added 160 million new users in a
year). Aadhaar, a 12-digit unique identity number issued to Indian citizens based on
their biometric data, has 1.2 billion enrollees and was used to authenticate 9 billion

17
transactions in 2017. The country has over 350 million smartphones, and this
number is growing 25% CAGR.

The second factor is India’s vast number of consumers and its large, highly
educated, and young talent base. In sheer numbers, India is hard to beat.
India’s 10,000 engineering institutes produce more engineers than China and the
U.S. combined, and India adds 10–12 million youngsters to its workforce every year.

The third factor is that India’s problems cannot be solved without leveraging
technology. For example, India has a huge shortage of hospital beds and medical
professionals relative to its population base of 1.2 billion. The education sector
similarly suffers from too few teachers and universities. And in the legal system, it
might take 30 years to clear the backlog of pending legal cases. Financial services,
education, health care, justice, and several other services can only be delivered by
effectively leveraging technology. This means huge opportunities for tech startups in
these sectors, and we’re already seeing innovative tech companies enter the Indian
market.

In conclusion, India is a paradox: mega opportunities and mega headaches. The

mega headaches include: bureaucratic rules and regulations, strong labor unions,
corruption, underdeveloped institutions, inadequate physical infrastructure, and
difficulty in acquiring land. But if a company can overcome the challenges, the prize
is huge. We’ve given several examples of multinationals that have cracked India’s
code. More should follow their lead.

18
BIBLIOGRAPHY

https://hbr.org/2018/02/3-reasons-global-firms-should-keep-investing-in-india

https://www.investindia.gov.in/foreign-direct-investment

http://www.makeinindia.com/policy/foreign-direct-investment

http://www.makeinindia.com/eodb

http://www.makeinindia.com/policy/new-initiatives

https://www.investindia.gov.in/why-india

https://www.investindia.gov.in/foreign-direct-investment

19