The Knowledge series

The Knowledge series

A STEP THAT MADE ALL THE DIFFERENCE Maruti Suzuki was born as a Government of India company, to make a low priced car for middle class India. Sanjay Gandhi owned the Maruti Technical Services Limited, which ran into trouble and was liquidated. After the death of Sanjay Gandhi, Indira Gandhi government assigned a delegation of Indian technocrats to hunt for a collaborator for the project. Initial rounds of discussion were held with the giants of the automobile industry in Japan including Toyota, Nissan and Honda. Suzuki Motor Corporation was at that time a small player in the four wheeler automobile sector and had major share in the two wheeler segment. Suzuki's bid was considered negligible. But things fell in place due to sincerity in Suzukis bid and a little coaxing.

And Today
Maruti Suzuki is India and Nepal's number one leading automobile manufacturer and the market leader in the car segment, both in terms of volume of vehicles sold and revenue earned. Suzuki is Japan's 4th largest automobile manufacturer after Toyota, Nissan, Honda and the 9th largest automobile manufacturer in the world by production volume. This is how FDI made an impact.

Read on to find more about it

FDI occurs when an entity or investor from one country (home country e.g. India) obtains or acquires the controlling interest in an entity in another country (host country e.g. USA) and then operates and manages the entity and its assets as part of the multinational business of the investing entity. The FDI relationship consists of a parent enterprise and a foreign affiliate which together form a transnational corporation (TNC). In order to qualify as FDI the investment must afford the parent enterprise control over its foreign affiliate. The UN defines control in this case as owning 10% or more of the ordinary shares or voting power of an incorporated firm or its equivalent for an unincorporated firm.

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TYPES OF FDI: 1) GREENFIELD INVESTMENT: It is the form of foreign direct investment where a parent company starts a new venture in a foreign country by constructing new operational facilities from the ground up. In addition to building new facilities, most parent companies also create new long-term jobs in the foreign country by hiring new employees. Developing countries often offer prospective companies tax-breaks, subsidies and other types of incentives to set up green field investments. Governments often see that losing corporate tax revenue is a small price to pay if jobs are created and knowledge and technology is gained to boost the country's human capital. For example: Arcelor-Mittal, the worlds largest steel maker, has also signed a

memorandum of understanding with the Orissa state government to build an US$8.7 billion steel mill.
2) MERGERS AND ACQUISITIONS Transfers of existing assets from local firms to foreign firms takes place; the primary type of FDI. Crossborder 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. For example: Acquisition of Corus by Tata 3) HORIZONTAL FOREIGN DIRECT INVESTMENT: When a company invests in the same industry abroad as it operates in at home, it is called horizontal foreign direct investment. For example: A Japanese car maker building a factory in the United States, or purchasing a controlling interest in an American car maker 4) VERTICAL FOREIGN DIRECT INVESTMENT: It can take two forms: When a Japanese car maker builds an auto parts plant in the United States or buys a car dealer to sell its cars, the Japanese company has made a vertical FDI. Taking on the role of supplier refers to backward vertical FDI. Companies that become the distributor of their products in another country are practicing forward vertical foreign direct investment.

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FDI can also be categorized based on the motive behind the investment from the perspective of the investing firm: RESOURCE SEEKING: Investments which seek to acquire factors of production which are more efficient than those obtainable in the home economy of the firm. MARKET SEEKING: Investments which aim at either penetrating new markets or maintaining existing ones. EFFICIENCY SEEKING: Investments which firms hope will increase their efficiency by exploiting the benefits of economies of scale and scope, and also those of common ownership.

ROUTES OF FDI: An Indian company may receive Foreign Direct Investment under the two routes as given under: AUTOMATIC ROUTE FDI in sectors /activities to the extent permitted under the automatic route does not require any prior approval either of the Government or the Reserve Bank of India.

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GOVERNMENT ROUTE FDI in activities not covered under the automatic route requires prior approval of the Government which are considered by the Foreign Investment Promotion Board (FIPB), Department of Economic Affairs, and Ministry of Finance. Indian companies having foreign investment approval through FIPB route do not require any further clearance from the Reserve Bank of India.

FDI IN VARIOUS SECTORS IN INDIA: The government has framed FDI policies under which the percentage of FDI allowed in various sectors is specified. For example 26% FDI is allowed in insurance sector. This means that out of capital of Rs100 a maximum of Rs26 can be contributed by FDI in that company. As per the policy, FDI is not allowed in the following industries: Multi brand Retail Trading Activities / sectors not opened to private sector investment including Atomic Energy and Railway Transport (other than Mass Rapid Transport Systems). Lottery Business including Government /private lottery, online lotteries,etc Gambling and Betting Business of Chit Fund Nidhi Company Real Estate Business or Construction of Farm Houses Trading in Transferable Development Rights (TDRs) Manufacture of cigars, cheroots, cigarillos and cigarettes, of tobacco or of tobacco substitutes.

The percentage of FDI allowed in other sectors is as follows: S. No 1 2 3 4 5 6 7 8 9 Sector Agriculture & Animal Husbandry Mining Defence Power( Electric generation, transmission, distribution and trading) Airports (Greenfield) Private Sector Banking Public Sector Bank FM radio Cable network FDI Allowed 100% 100% 26% 100% 100% 74% 20% 20% 49% Route Automatic Automatic Government Automatic Automatic Automatic up to 49% and government beyond 49% till 74% Government Government Government

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10 11 12 13 14 15 16 17 18 Direct To Home(DTH) Development of Townships, Housing, Built-up infrastructure and Construction-development Credit Information Companies Industrial Parks Insurance Non-Banking Finance Companies (NBFC) Oil exploration Print Media Satellites Establishment and operation 49% 100% 49% 100% 26% 100% 100% 26% 74% Government Automatic Government Automatic Automatic Automatic Automatic Government Government Automatic upto 49% and Government beyond 49% upto 74% Automatic Automatic Government Government Automatic

19 20 21 22 23 24

Telecom Services Cash & Carry Wholesale Trading E-commerce activities Single Brand Retail Courier services for carrying packages and parcels Hotels and Tourism-related Projects

74% 100% 100% 51% 100% 100%

FOREIGN INSTITUTIONAL INVESTORS FIIs are Foreign Institutional Investors established outside India, who invest in the Indian capital market. Examples are pension funds, insurance companies, investment companies etc. They invest in Indian markets by buying Indian stocks. They generally buy in large volumes which leaves a huge impact on Indian stock markets. Much of the fluctuation in the Indian Equity market are because of FIIs as they anytime enter and exit from the market. FII investments are also called hot money, because at any time they can sell their shares and go away. They are like fair weather friends and leave you in the first sign of trouble.

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Foreign Direct Investment VS Foreign Institutional Investment
Foreign Direct Investment FDI are long term investments. FDI is an investment that a parent company makes in a foreign country. FDI cannot enter and exit that easily. FDI targets a specific enterprise and adds to its resources. FDI is more stable than FII Foreign Institutional Investment FIIs are short-term investments. FII is an investment made by an investor in the markets of a foreign nation. FII can enter the stock market easily and also withdraw from it easily The FII does not target a specific enterprise but helps in increasing capital availability in general. FII is highly volatile.

FDI flows into the primary market

FII flows into secondary market.

IMPACT OF FDI AND FII STOCK MARKET: When cap on FII is high then they can bring in lot of funds in country stock market and thus have great influence on the way the stock market behaves, going up or down. The FII buying pushes the stock up and heir selling shows the stock market down. INFLATION: The huge amount of FII fund flow creates the huge demand for Indian rupees. In that situation RBI print more money in the market. This situation could lead to excess liquidity thereby leading to inflation , where too much money chase too few goods and service LOCAL COMPANIES: When huge FII comes in any country there is much availability of fund for local company in this time local companies can expand their coverage. They can also get good technology from FDI partners at a cost effective price. CAPITAL FORMATION: If there is much FII inflow in the country will not borrow from other country or from international bank. If home countrys saving rate are not sufficient to meet its investment programmed but if FII inflow is well there is no problem. CURRENCY: The inflow of foreign currency influences the value of currency. If there is huge inflow of FDI and FII it will create more demand for rupee and this will lead to appreciation of currency. For example initially 1USD=50INR but with inflow of foreign capital it reduces to

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1USD=45INR. This is called appreciation of currency. But on other hand if there is less inflow of foreign capital it will lead to depreciation of currency.

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