Chpt 7 Slide number 1 Foreign Direct Investment Chapter 7 Global Business Today 3rd Edition ©2011 McGraw Hill Ryerson All rights reserved PowerPoints by

Chpt 7 Slide number 1

ForeignDirect

Investment

Chapter 7

Global Business Today 3rd Edition ©2011 McGraw Hill Ryerson All rights reservedPowerPoints by Prof. W. Tim G. Richardson, Seneca College and University of Toronto


Opening Case - Starbucks

In the late 1990s, Starbucks opened stores in Taiwan, China, Singapore, Thailand, New Zealand, South Korea, and Malaysia.


Photo of Starbucks in Taipei, Taiwan by W.T.G. Richardson

In Asia, Starbucks’ most common strategy was to license its format to a local operator in return for initial licensing fees and royalties on store revenues


Definitions

• Foreign Direct Investment (FDI)The acquisition or construction of physical capital ($$) by a firm from one (source) country in another (host) country

• Multinational Enterprise (MNE)A firm that owns business operations in more than one country

• Green Field InvestmentEstablishing a new operation in a foreign country



Foreign Direct Investment in the World Economy

• Flow of FDI refers to the amount of FDI undertaken over a given time period (normally a year).

• Stock of FDI refers to the total accumulated value of foreign-owned assets at a given time.




• Outflows of FDI refers to the flow of FDI OUT of a country.• This would mean Canadian companies

buying property and/or setting up operations in another country

• Example – TD Bank in Canada buying Commerce Bancorp in the U.S. in 2007 and acquiring all of their branches




• Inflows of FDI refers to the flow of FDI INTO a country.

• When the CPR was being built across Canada, the government gave land to the CPR company and on this land the CPR built many elaborate hotels and resorts - some of which became famous Canadian landmarks – like the Royal York Hotel in Toronto.

• In 2006, Fairmont (CP Hotels) sold out for $3.8 billion to Saudi Prince Alwaleed bin Talal bin Abdulaziz Alsaud

• ThereforeCP Hotels were now foreign owned

• In 2010 the Prince sold some shares and dropped to 35 per cent from 58 per centownership



UNCTAD


United Nations Conference on Trade and Development (UNCTAD)

Many people talking about FDI quote information from UNCTAD

UNCTAD, a United Nations entity, is the most authoritative and reliable source of information about global FDI by country and by activity and its statistics and diagrams are quoted equally by the right and left wings.

www.unctad.org


Growth of FDIFDI Prospects in Developed Countries, 2007–2009: Responses to UNCTAD survey (per cent of respondents)

Source: 2007 World Investment Review



The World’s Top 100 Non-Financial National corporations Ranked by Foreign Assets, 2005 ($ millions)

Source: UNCTAD/Erasmus University database, World Investment Report, 2003.



The Direction of FDI

• Historically, most FDI has been directed at the developed nations around the world, as firms based in these countries invested in each others’ markets.

• During the past few decades, the United States has been the favourite target of FDI inflows.

• The U.S. is the only country in the world with a population over 200 million AND a comparatively high GDP per capita

• Which simply means there are a lot of Americans, and they have a lot of money to buy stuff



Source of FDI

• Since World War II, the United States has been the largest source country for FDI,

• a position it retained during the late 1990s and throughout the 2000s. • Meaning American companies are going to other

countries and buying up other companies and resources

• Other important source countries include• The United Kingdom,

• France,

• and Japan.



Forms of FDI:Acquisitions vs. Green Field Investment

FDI can take the form of:Acquisition of, or a merger with, an existing local firm in the destination marketGreen Field Investment in a new facility in the destination market

• The majority of cross-border investment is in the form of mergers and acquisitions rather than Green Field Investments



Definitions

• Green Field InvestmentThis is a slang expression which originally referred to the fact that many of these types of investments involved the buying of real-estate and building something


That is to say: there was a “green field” and the land was bought for the purpose of erecting some structure


Canada’s CaseFDI Flows into Canada and Canadian Direct Investment, 1993–2006 ($ billions)- Companies of other countries investing in Canada

Source: Statistics Canada, CANSIM



Canada’s CaseFDI Flows into Canada and Canadian Direct Investment, 2000 - 2009 ($ billions)- Companies of other countries investing in Canada



Canada’s CaseCanadian Foreign Direct Investment Abroad, by Top-10 Destinations,2006 ($ billions)

Source: Industry Canada



Canada’s CaseCanadian Foreign Direct Investment Abroad, by Top-10 Destinations,2009 ($ billions)



Canada - U.S.

• In the field of international trade, until 2007, Canada and the United States shared the largest bilateral flow of goods, services, people, capital, and investments between any two countries in the world.

• In 2008 China nudged passed Canada as top exporter to the United States• It should be noted a large part of Chinese exports to

the U.S. are in fact from American companies in China, like Nike exporting to Nike USA, and subsidiary companies of Wal-Mart exporting to Wal-Mart USA



Canada - U.S.

• During this same time frame, Canada’s exports to the United States totalled $313 billion USD,

• Mexican exports to the U.S. where $210 billion USD

• The recent and dramatic strengthening in the Canadian dollar has given firms looking to expand south of the border substantially increased buying power

• For the most part, gains in FDI outflow are owing to the rise of Canadian affiliates and subsidiaries in the United States.



Why Foreign Direct Investment

…when two alternatives are available?

• Exporting and

• Licensing

• The question is an important one given that foreign direct investment can be both expensive and risky when compared to exporting and licensing.



licensing

• Occurs when a firm (the licensor) licenses the right to produce its product, use its production processes, or use its brand name or trademark to another firm (the licensee).

• In return for giving the licensee these rights, the licensor collects a royalty fee on every unit the licensee sells.



Why Foreign Direct Investment?

• FDI is expensive because a firm must bear the costs of establishing production facilities in a foreign country

or of acquiring a foreign enterprise.

• FDI is risky because of the problems associated with doing business in a different culture where the “rules of the game” may be very different.



Why Foreign Direct Investment?

Because limitations of exporting and licensing

are means for capitalizing on foreign market opportunities.Limitations of Exporting

Exporting is constrained by transportation costs and trade barriers. When transportation costs are added to production costs, it becomes unprofitable to ship some products over a large distance. Products of low value-to-weight ratio can be produced in almost any locationExamples: cement, soft drinksProducts with a high value-to weight ratio: transport costs are normally a very minor component of total landed cost.Examples: electronic components, personal computers, medical equipment

Limitations of Licensing

Internalization theory explains why firms often prefer foreign direct investment over licensing as a strategy for entering foreign markets.1.Licensing may result in a firm giving away valuable technological know-how to a potential foreign competitor. 2.Licensing does not give a firm the tight control over manufacturing, marketing, and strategy in a foreign country. 3.When the firm’s competitive advantage is based not so much on its products, as on the management, marketing, and manufacturing capabilities that produce those products.



Pattern of Foreign Direct Investment

• Strategic Behaviour• Oligopoly

• An industry composed of a limited number of large firms.

• Multipoint competition• Happens when two or more enterprises

encounter each other in different regional markets, national markets, or industries.



• Eclectic Paradigm• An economic model used to evaluate

a company's strategy to expand its operations through foreign direct investment.


Pattern of Foreign Direct Investment


Eclectic Paradigm MODEL



The “Political Environment” and FDI

• Government policy toward FDI has typically been driven by political ideology.

• Historically, ideology toward FDI has ranged from a radical stance that is hostile to all, to the non-interventionist principle of free market economics


How Political Ideology effects Foreign Direct Investment

Starbucks – SeoulBy W.T.G. Richardson



The radical view • The radical view - Marxist political and economic

theory

• Argues that the multinational enterprise (MNE) is an instrument of imperialist domination

• They see the MNE as a tool for exploiting host countries to the exclusive benefit of their capitalist-imperialist home countries





• The radical view • They argue that MNEs extract profits from the

host country and take them to their home country



Starbucks - Beijing



The free market view• argues that international production should be

distributed among countries according to the theory of comparative advantage.

• That is, countries should specialize in the production of those goods and services that they can produce most efficiently





Pragmatic Nationalism• In practice, many countries have adopted neither a

radical policy nor a free market policy toward FDI, but instead a policy that can best be described as pragmatic nationalism.

• The pragmatic nationalist view is that FDI has both benefits and costs.

• FDI can benefit a host country by bringing capital, skills, technology, and jobs, but those benefits often come at a cost.




Benefits of FDI to the Nation State

Host Country Home Country• Resource-transfer effects• Employment effects - FDI

brings jobs to a host country

• Balance of payment effects.

• FDI is a substitute for imports of goods and services

• MNE uses the subsidiary in the host country to export goods and services to other countries

• Balance of payments from inward flow of foreign earnings.

• Positive employment effects when a subsidiary demands home country exports of capital equipment.

• Home country MNE learns skills transferable in technologies for use in the home country.

Global Business Today 3rd Edition ©2011 McGraw Hill Ryerson All rights reservedPowerPoints by Prof. W. Tim G. Richardson, Seneca College and University of Toronto3


Costs of FDI to the Nation State

Host Country Home Country• Adverse effects on

competition Foreign subsidiaries have

strong economic power to put local competitors out of market

• Adverse effects on the balance of payments.

Against the initial capital inflow that comes with FDI must be the outflow of earnings to be repatriated

• National sovereignty and autonomy

• Balance of payments from outward FDI

• Employment effect from outward FDI



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Chpt 7 Slide number 1 Foreign Direct Investment Chapter 7 Global Business Today 3rd Edition ©2011 McGraw Hill Ryerson All rights reserved PowerPoints by