CHAPTER 8
FORIGN DIRECT INVESTMENT
FOREIGN DIRECT INVESTMENT
FDI occurs when a firm invests directly in new facilities to produce and/or market in a foreign
country
FDI can be in two main forms:
greenfield investments - the establishment of a wholly new operation in a foreign country.(Mercedes
Benz- India, Toyota-Mexico)
acquisitions or mergers with existing firms in the foreign country (FB acquired Instagram, Alibaba-Daraz
BD Acquisition, Walt Disney & 21st Century Fox Acquisition, IFIC Bank Acquired Oriental Bank, Robi-Airtel
Merger)
The flow of FDI refers to the amount of FDI undertaken over a given time period
Stock of FDI: total accumulated value of foreign-owned assets at a given time
Outflows of FDI are the flows of FDI out of a country
Inflows of FDI are the flows of FDI into a country
TRENDS IN FDI
Both the flow and stock of FDI have increased over the last 30 years.
FDI has grown rapidly:
firms still fear the threat of protectionism
democratic political institutions and free market economies have encouraged FDI
globalization is forcing firms to maintain a presence around the world
Gross fixed capital formation - the total amount of capital invested in factories, stores,
office buildings
the greater the capital investment in an economy, the more favourable its future prospects
FDI is an important source of capital investment
TRENDS IN FDI IN BANGLADESH
TRENDS IN FDI
The members of the G20
are:
Argentina, Australia, Brazil,
Canada, China, France,
Germany, India, Indonesia,
Italy, Japan, Republic of Korea,
Mexico, Russia, Saudi Arabia,
South Africa, Turkey, the United
Kingdom, the United States and
the European Union.
SOURCES OF FDI
Since World War II, the U.S. has been the largest source
country for FDI
The United Kingdom, the Netherlands, France, Germany, and
Japan are other important source countries
Bangladesh doesn’t attract FDI
because:
time-consuming bureaucracy
poor socio-economic and physical infrastructure
unreliable energy supply
corruption
absence of good governance
low labor productivity
undeveloped money and capital markets
high-cost of doing business
USA attracts FDI because:
The U.S. hosts the most developed, flexible and efficient
financial markets in the world.
A wide range of funding sources enable innovation and
expansion, giving companies in the U.S. a competitive
advantage.
Developed socio-economic and physical infrastructure
Reliable energy supply
FORMS OF FDI: Acquisitions Vs.
Greenfield Investments
Most cross-border investment is in the form of mergers and acquisitions rather than
greenfield investments
Firms prefer to acquire existing assets because
mergers and acquisitions are quicker to execute than greenfield investments
it is easier and less risky for a firm to acquire desired assets than build them
from the ground up
firms believe that they can increase the efficiency of an acquired unit by
transferring capital
FDI IN THE SERVICE SECTOR
FDI is shifting away from extractive industries and manufacturing,
and towards services
the general move in many developed countries are toward services
many services need to be produced where they are consumed
a liberalization of policies governing FDI in services
the rise of Internet-based global telecommunications networks
WHY SHOULD WE CHOOSE FDI
OVER OTHER METHODS OF
ENTRY?
Exporting - producing goods at home and then shipping them to the receiving country for sale
exports can be limited by transportation costs and trade barriers
FDI may be a response to actual or threatened trade barriers such as import tariffs or
quotas
Licensing - granting a foreign entity the right to produce and sell the firm’s product in return
for a royalty fee on every unit that the foreign entity sells
firm could give away valuable technological know-how to a potential foreign competitor
does not give a firm the control over manufacturing, marketing, and strategy in the
foreign country
the firm’s competitive advantage may be based on its management, marketing, and
manufacturing capabilities
REASONS FOR CHOOSING FDI
Sometimes firms in the same industry undertake FDI at about the same time and the same
locations
Knickerbocker - FDI flows are a reflection of strategic rivalry between firms in the global
marketplace
multipoint competition -when two or more enterprises encounter each other in
different regional markets, national markets, or industries
Vernon - firms undertake FDI at particular stages in the life cycle of a product
According to Dunning’s eclectic paradigm- it is important to consider
location-specific advantages - that arise from using resource that are tied to a
particular location
externalities - knowledge spill overs that occur when companies in the same industry
locate in the same area
BENEFITS OF FDI TO HOST
COUNTRY
Four main benefits of inward FDI for a host country
1. Resource transfer effects - FDI brings capital, technology, and
management resources
2. Employment effects - FDI can bring jobs
3. Balance of payments effects - FDI can help a country to achieve
a current account surplus
4. Effects on competition and economic growth - greenfield
investments increase the level of competition in a market, can
lead to increased productivity growth, product and process
innovation, and greater economic growth
COSTS OF FDI TO HOST
COUNTRY
Inward FDI has three main costs
1. Adverse effects of FDI on competition within the host nation
subsidiaries of foreign MNEs may have greater economic power
2. Adverse effects on the balance of payments
when a foreign subsidiary imports a substantial number of its
inputs from abroad, there is a debit on the current account of
the host country’s balance of payments
3. Perceived loss of national sovereignty and autonomy
the concern is that key decisions that can affect the host
country’s economy will be made by a foreign parent that has no
real commitment to the host country.
BENEFITS OF FDI TO THE HOME
COUNTRY
Three main benefits of FDI for a home country
1. The effect on the capital account of the home country from
the inward flow of foreign earnings
2. The employment effects that arise from outward FDI through
rise in demand for home product
3. The gains from learning valuable skills from foreign markets
that can subsequently be transferred back to the home
country
COSTS OF FDI TO THE HOME
COUNTRY
FDI has two main costs for the home country:
1. The home country’s balance of payments can suffer
from the initial capital outflow required to finance the FDI
ifthe purpose of the FDI is to serve the home market from a low
cost production location
if the FDI is a substitute for direct exports
2. Employment may also be negatively affected if the FDI is a
substitute for domestic production
GOVERNMENT INFLUENCE ON
FDI
Governments can encourage outward FDI
government-backed insurance programs to cover major types of foreign
investment risk
Governments can restrict outward FDI
limit capital outflows, manipulate tax rules, or outright prohibit FDI
Governments can encourage inward FDI
offer incentives to foreign firms to invest in their countries
Governments can restrict inward FDI
use ownership restraints and performance requirements
WHAT DOES FDI MEAN FOR
MANAGERS
?
Managers need to consider what trade theory implies about FDI,
and the link between government policy and FDI
The direction of FDI can be explained through the location-specific
advantages argument associated with John Dunning
A host government’s attitude toward FDI is an important variable
in decisions about where to locate foreign production facilities and
where to make a foreign direct investment
