MNC and Foreign Direct Investment

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Multinational Corporations and ForeignDirect Investment

Sukumar Nandi

Indian Institute of Management Lucknow


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6/24/2012 MNC and Foreign DirectInvestment

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Issues _ Economic Integration

Outward foreign direct investment (OFDI) from theemerging economies rose from US$335billion in 1995 toUS$1.4trillion in 2005

(UNCTAD, 2006: 103-104).

The number of emerging economies with OFDI stocks

exceeding US$5billion increased from 6 in 1990 to 27 in2005.

The technological capabilities and market share of someof the trans-national corporations (TNC) from theemerging economies has risen sharply.

IMF definition of FDI 10 percent or more of shareownership as foreign.


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THE NATURE OF INTERNATIONAL BUSINESSGlobalization

International Business

Conducting commercial transactions across nationalboundaries

Five Reasons to Pursue International Business

1. Expanded profit potential

2. Extended markets for products

3. More capital4. Lower cost suppliers

5. Lower costs of labor


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GLOBALIZATIONInternational Business

Exporting Local products are sold abroad

Importing The process of acquiring products abroad and selling

them in domestic markets. Licensing

one firm pays a fee for rights to make or sell anothercompanys products.

Franchising a firm pays a fee for rights to use another companys

name and operating methods.


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Multinational Corporations

Multinational corporations do substantial business in severalcountries.

Multinational corporations can be controversial at home andabroad.

Multinational corporations face a variety of ethical challenges.

Planning and Controlling are complicated in multinationalcorporations.

Organization is complicated structure in multinationalcorporations.


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Multinational Corporations

Multinational Corporation (MNC)

A business with extensive foreign operations inmore than one county.

Transnational Corporation

A MNC that operates worldwide on a borderlessbasis.


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The world largest non-financial MNCs($ million and number ofemployees


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MULTINATIONAL ORGANIZATIONSMNC Issues


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Protectionism A call for tariffs and special treatment to protect

domestic firms from foreign competition.

Corruption Illegal practices to further ones business

interests.

Transparency International gives these countries its poorestcorruption scores: Indonesia Nigeria Tajikistan Bangladesh Haiti Paraguay

Myanmar


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MULTINATIONAL ORGANIZATIONS

MNC Issues

Sweatshops

Employ workers at very low wages, for longhours, and in poor working conditions.

Child labor

The full-time employment of children for workotherwise done by adults.

Sustainable Development, that is, development thatmeets the needs of the present without hurting futuregenerations may not be satisfied by the activities ofMNC.


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Currency Risk

The possible loss of profits because of fluctuatingexchange rates.

Understanding Currency Risk in International Business

U.S. exporter makes a sale in France for Euro 100,000.Scenario 1: Weak dollar

.95 Euros = 1 $US

Take home revenue = $105,263

Scenario 2: Strong dollar1.25 Euros = 1 $USTake home revenue = $80,000


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MULTINATIONAL ORGANIZATIONSMNC Organizations

Expatriate An employee who lives and works in a foreign

country. Global Manager

A person who is culturally aware and informed on

international affairs.

Personal Attributes for Expatriate Success High degree of self-awareness

Cultural sensitivity

Desire to live and work abroad

Family flexibility and support Technical job competence


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Management Tips

Criteria for choosing a partner for successful jointventures

Familiar with your firms major business

Employs a strong local workforce Values its customers

Has potential for future expansion

Has strong local market for its own products

Has good profit potential

Has sound financial standing


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Foreign Direct Investment

Why is FDI increasing in the world economy?

Why do firms often prefer FDI to other market entrystrategies?

Why do firms imitate competitors with FDI strategies?

Why are certain locations favored for FDI?

How does political ideology affect government FDIpolicy?

What are key FDI related costs and benefits forreceiving and source countries?


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Foreign direct investment (FDI): a firm invests directly

in foreign facilities [ at least 10 per cent share value

acquired]

A firm that engages in FDI becomes a multinationalenterprise (MNE)

Multinational = more than one country

Factors which influence FDI are related to factors that

stimulate trade


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Involves ownership of entity abroad for

production

Marketing/service

R&D Access of raw materials or other resource

Parent has direct managerial control

Depending on its extent of ownership and

On other contractual terms of the FDI

No managerial involvement = portfolio investment


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FDI Growth in the World Economy

FDI Flow(from all countries): from 1992 to 2002 up 292%,compared to trade up 69% and world output up 28%

FDI Stock: $3.5 trillion by 1997 to greater than $8

trillion in 2009 In the year 2009

64,000 Multinational Enterprises had: 850,000 foreign affiliates

53 million employees

$17.7 trillion in sales

$8 trillions global exports

Conclusion:FDI flow growing faster than world trade and world output


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Direction and Source of FDI

Most FDI flow has been to developed countries from

developed countries

Much to the US from EU, Japan

FDI increase to developing countries since 85

Much to the emerging Asian and Latin America

economies

Africa lagging

Outward

FDI Top 20 Emerging Economies 1980-2006 (US$ Millions)


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a

Home Country 1980 1990 2000 2006 Rank(2006)

aSouth Africa 5 541 15 004 32 333 43 499 9

Argentina 5 970 6 057 19 276 24 047 14Brazil 38 545 41 044 51 946 87 049 6

Chile 885 1 149 11 154 26 787 13

Colombia 136 402 2 989 9 960 20

Venezuela 23 1 221 7 676 11 559 19

Mexico 1 632 2 672 8 273 35 144 11

Panama 730 3 876 10 507 21 176 15British Virgin Islands .. 875 67 132 123 512 3

Cayman Islands 72 648 20 788 40 395 10

United ArabEmirates - 2 14 1 938 11 830 18

China .. 4 455 27 768 73 330 7

Hong Kong 148 11 920 388 380 688 974 1

Korea 127 2 301 26 833 46 760 8

Taiwan 13 009 30 356 66 655 113 910 5

India 78 124 1 859 12 964 17

Indonesia 6 86 6 940 17 350 16

Malaysia 305 753 15 878 27 830 12

Singapore 623 7 808 56 766 117 580 4Russia - - 20 141 156 824 2

Outward FDI, Top 20 Emerging Economies, 1980-2006 (US$ Millions)


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Capital Mobility


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Forms of FDI

FDI forms

Purchase of assets: why? why not?

Quick entry, local market know-how, local financingmay be possible, eliminate competitor, buying

problems New investment: why? why not?

No local entity is available for sale, local financialincentives, no inherited problems, long lead time togeneration of sales

International joint-venture Shared ownership with local and/or other non-local

partner

Shared risk


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Alternative Modes of Market Entry

FDI

FDI - 100% ownership

FDI < 100% ownership, International Joint Venture

Strategic Alliances (non-equity)

Franchising

Licensing

Exports: Direct vs Indirect


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Why FDI?

FDI over exporting

High transportation costs, trade barriers

FDI over licensing or franchising

Need to retain strategic control

Need to protect technological know-how

Capabilities not suitable for licensing/franchising

Follow few main competitors

Immediate strategic responses


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Pattern of FDI Explanations

International product life-cycle (Ray Vernon) Raymond Vernon , " International Investment and International

Trade in the Product Life-Cycle

Trade theory similarity

Eclectic paradigm of FDI (John Dunning)

Combines ownership specific, location specific, and

internalization specific advantages

Explains FDI decision over a decision to enter throughlicensing or exports

John H Dunning, 1995. "Reappraising the Eclectic Paradigm in an Age ofAlliance Capitalism," Journal of International Business Studies, PalgraveMacmillan Journals, vol. 26(3),

Dunning, John H, 1973. "The Determinants of International Production,"Oxford Economic Papers, Oxford University Press, vol. 25(3),
http://ideas.repec.org/a/pal/jintbs/v26y1995i3p461-491.htmlhttp://ideas.repec.org/a/pal/jintbs/v26y1995i3p461-491.htmlhttp://ideas.repec.org/s/pal/jintbs.htmlhttp://ideas.repec.org/a/oup/oxecpp/v25y1973i3p289-336.htmlhttp://ideas.repec.org/s/oup/oxecpp.htmlhttp://ideas.repec.org/s/oup/oxecpp.htmlhttp://ideas.repec.org/a/oup/oxecpp/v25y1973i3p289-336.htmlhttp://ideas.repec.org/s/pal/jintbs.htmlhttp://ideas.repec.org/a/pal/jintbs/v26y1995i3p461-491.htmlhttp://ideas.repec.org/a/pal/jintbs/v26y1995i3p461-491.html


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Eclectic Paradigm of FDI (Dunning)

Ownership advantage: creates a monopolisticadvantage to be used in markets abroad

Unique ownership advantage protected throughownership

e.g., Brand, technology, economies of scale,

management know-how

Location advantage: the FDI destination market mustoffer factors (land, capital, know-how, cost/quality oflabor, economies of scale) that are advantageous forthe firm to locate its investment there (link to tradetheory)

Internalization advantage: transaction costs of anarms-length relationship --licensing, exports-- higherthan managing the activity within the MNCs boundaries


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Government Policy and FDI

The radical view: inbound FDI harmful; MNCs

Are imperialist dominators

Exploit host to the advantage of home country

Extract profits from host country; give nothing back

Keep LDCs backward and dependent for investment,technology and jobs

The free market view: FDI should be encouraged

Adam Smith, Ricardo, et al: international productionshould be distributed per national comparativeadvantage

An MNC increases the world economy efficiency

Brings to bear unique ownership advantages

Adds to local economys comparative advantages


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Host Country Effects of FDI

Benefits

Resource -transfer

Employment

Balance-of-payment (BOP)

Import substitutionSource of export increase

Costs

Adverse effects on the BOP

Capital inflow followed by capital outflow + profits

Production input importation

Threat to national sovereignty and autonomy

Loss of economic independence


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Government Policy and FDI

Home country

Outward FDI encouragement

Risk reduction policies (financing, insurance, tax incentives)

Outward FDI restrictions

National security, BOP

Host country

Inward FDI encouragement

Investment incentives

Job creation incentivesInward FDI restrictions

Ownership extent restrictions (national security; localnationals can safeguard host countrys interests


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Outward FDI From Emerging Economies

AsiaLatin America

Figure 1: Outward FDI from Emerging Economies, 1980-2006

0

2

4

6

8

10

12

14

Year

ShareinGlobalStock

(%)

Africa Latin America Asia Eastern Europe and Central Asia

Asia

L America

Africa


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Outward Merger and Acquisition from Emerging Economies

Figure 2: Outward M&A's from Emerging Economies, 1987-2006

0

2

4

6

8

10

12

14

1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006

Year

ShareintheWorld(Percent)

Africa Latin America and the Caribbean Asia South-East Europe and the CIS (Transition economies)

Asia

L America

Africa


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Conclusion

Markets and natural resources have been the keydrivers of FDI from the emerging economies, but allothers have remained important.

The standard government response to FDI from theemerging economies has been to regulate betterthose flows.

Given the growing significance of FDI from the emergingeconomies it will help if the home and host governmentsinvolved establish common and specific collaboration platformsto raise information flows as well as coordinate better thenegotiations and execution of investment projects

MNC and Foreign Direct Investment

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