Liberalization of World Trade

Foreign Direct Investment (F.D.I) Jatin Vaid

FDI
An

FDI is one that gives the investor a controlling interest in a foreign Co. It is a Co. controlled through ownership by a foreign Co. or foreign individuals. Most important component of International business and plays a crucial role in factor mobility.

Factor Mobility

Short term Capital is most mobile Factor of Production. It is tfr by Co. or individuals because of difference in expected returns. STC is more faster to tfr, investors feel more certain about S.T political & eco conditions. Reasons: Return on Capital, Govt. aid & loans, NGOs donate funds, Remittance by individuals to family. Mobility of people tourist, students, retirees; Incur high cost of transportation; learn language; adjust to culture; For work (temp or permanent);

Effects of Factor Movements

i. ii. iii. iv.

v.

Human capital adding to base of skills; making countries competitive; develop infrastructure and natural resources. Transforming labor-intensive economies to capital-intensive, high wage economies with capital accumulation. Helps in generating higher world-wide output and lower prices. Substitution: Factors (Lab / Cap) move from countries where they are abundant to countries where they are scarce to command a better return. Complementary: a) 1/3rd of exports amongst controlled entities (parent to subsidiary; S to P; S to S of same Co.) b) Export capital equipment as part of investment while building a facility abroad. c) Domestic units export materials to foreign facility for use in finished products.

FDI and the concept of Control

In FDI, Investment must be accompanied by control, else its only a portfolio investment. A 100% share may not guarantee control, whereas incases where ownership is widely dispersed, even a small % of holdings may be sufficient to establish ctrl on management decision making. Defining FDI is difficult, Govt.s have Estd. Ownership minimums for statistics: At least, 10 or 25% of voting stocks in a foreign enterprise makes the investment direct.

.
Governmental

concern: Host countrys national interest may suffer if MNC makes decision on the basis of its global or national objectives. Investor Concern: Control is important for foreign Co. because they want to do what is best for their global operations, rather that what is best for a specific country. Control in FDI lowers a Co.s operating cost and increases its rate of technology transfer.

Companys motive for FDI

The three major operating objectives are: 1) To expand their sales 2) To acquire resources 3) To minimize competitive risk 4) Political motives.

Sales Expansion - Factors

a)

b) c) d) e)

Transportation Cos. Must produce abroad to sell abroad. Transportation costs add to TC, which makes pricing uncompetitive. Excess capacity Scale economies & Product Alterations Trade restrictions Inspite of WTO and REG, there are restrictions on Import. Country of origin Effects (Nationalism or bias to few nations)

Acquisition of resources Factors

a) b)

c) d) e)

Vertical integration Co control of different stages of mfg its product. Rationalized production Co may produce different components of their product lines to take advtg of lower labor cost, capital, raw material & currency fluctuations. Access to knowledge Govt. investment incentives PLC Theory Intro one industrial country Growth more industrial countries Maturity emerging economies

Risk Minimization Factors

a)

b)

Following customers many cos. customers are other cos. If customer makes FDI, supplier follows to get business. Preventing competitors advantage.

Resources and Methods for making FDI

1.

Assets Employed FDI is an international capital movement that crosses borders when anticipated return is higher overseas. Other assets that may be transferred are: Managers, cost ctrl sys, etc. Other means of acquiring foreign investments (non capital movements): use of funds earned abroad to estd investment; or Co. may borrow funds to make investment.

2. Buy V/S Build Decision:

BUYING - Reasons:

BUYING Advantages:

Difficult tfr of resources to foreign operations. Difficult hiring of personnel higher compensation. Acquisition can give the buyer labour, mgt & org structure. Gain Goodwill and brand identification. Easy access to local capital through acquisition.

Adding no further capacity to the market. Avoiding start up problems. Easier financing.

.
BUILDING Reasons:

A potential investor may not be able to realize all advantages of acquisition. No desired Co is available for acquisition. Govt. may prevent acqn to get in more competitors and prevent market dominance by foreign enterprise. Lead to carry over problems poor PR, inefficient, poorly located facilities.

Different Management styles, and practices, employees may not work well together. Resistance to change. Foreign Co. may find local financing easy, if it builds facilities.

Direct Investment Patterns

Growth in FDI occurred in mid 20th Century. Factors: receptive attitude of Govt to investment inflows, privatization, growing interdependence on world economy.
1. -

Location of ownership: Industrial countries account for 90% of world FDI. Co from these countries have capital, technology, managerial skills to invest abroad. In FDI from emerging economies have small holdings from individual Co.

.
2) -

Location of Investment: The major recipients of FDI are developed countries, but due to the economic slowdown the trend is slowly shifting to developing economies. The interest in developed countries is for following 3 reasons: Investments are market seeking and dev eco ve large markets; investors discouraged by political turmoil in emerging economies; OECD to liberalize direct investments among members.

.
3)

Economic sectors of FDI: It refers to trends in the distribution of FDI and conform to long term economic changes in home & host countries. Decline of FDI in raw material sector (mining, smelting & petroleum) Steady growth and now stability of FDI in Mfg sector, spl. In resource based production. Rapid growth of FDI in technology intensive mfg; service sector, spl. In Banking & Finance.

Thank You !!