fourth edition international business. chapter 6 foreign direct investment
TRANSCRIPT
Fourth Edition
InternationalBusiness
CHAPTER 6
Foreign Direct Investment
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6-3
Chapter Focus
This chapter seeks to identify the economic rationale that underlies Foreign Direct Investment. For example, why do some firms prefer FDI to exporting or licensing. Is the need for control, part of the answer?
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Foreign Direct Investment
FDI occurs when a firm invests directly in facilities to produce and/or market a product in a foreign country.
Once a firm undertakes FDI, it becomes a multinational enterprise (multinational = more than one country).
FDI takes two forms:Greed-field investment: establishing a wholly new operation in a foreign country.Acquiring or merging with an existing firm in the foreign country.
Investing in foreign financial instruments (Portfolio Investment) IS NOT FDI.
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Flow and Stock of FDI
Flow:The amount of FDI undertaken over a given period of time (usually one year).
Stock:Total accumulated value of foreign-owned assets at a given time.
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6-6
FDI Outflows1982-2000
0
200
400
600
800
1000
1200
1400
82-86
92 94 96 98 2000
$ Billions
Figure 6.1
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FDI Flows by Region
0
100
200
300
400
500
600
Value Exports
World GDP
World FDI
Figure 6.2
Ind
ex
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Reasons for FDI Growth
FDI circumvents potential future trade barriers.Dramatic political and economic changes occurring in developing countries.
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Increase in the Number of Bilateral Trade Treaties
0200400600800
100012001400160018002000
1993 1995 1998 1999 2000
TreatiesCountries
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FDI into Developed and Developing Nations: 1990-2000
0
200
400
600
800
1000
1200
94 95 96 97 98 99 2000
Dev Nations
Devg. Nations
W. Europe
N. Amer.
Asia
L. Amer.
$B
illio
n
Figure 6.3
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Inward FDI Flows as a Percentage of Gross Fixed Capital Formation, 1998
0 10 20 30
World
Devg. Nations
N. Amer.
Asia
L. Amer.
W. Europe
Dev. Nations
Figure 6.4
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FDI Outflows by Selected Countries, 1994-1999
0
50
100
150
200
250
300
1994 1995 1996 1997 1998 1999 2000
U.S.
U.K.
Netherlands
Germany
J apan
Spain
France
Figure 6.5
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The Form of FDI: Acquisitions versus Greed-Fields
The majority of investments is in the form of mergers & acquisitions:
Represents about 77% of all flows in developed countries.Represent about 33% of all flows in developing countries.
Fewer target firms.
Why the preference for mergers & acquisitions?
Quicker to execute.Foreign firms have valuable strategic assets.Believe they can increase the efficiency of the acquired firm.
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FDI and Risk
FDI is expensive and risky compared to exporting or
licensing: Costs of establishing facilities. Problems with doing business in a different Culture.
Horizontal Direct Investment: FDI in the same industry as the firm operates at home.
Factors to consider: Transportation Costs. Market Imperfections. Following Competitors. Strategic Competitors Location Advantages.
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Horizontal FDI and Factor Considerations
Transportation Costs: High/low value to weight impacts costs.
Market Imperfections (Internalization Theory): Factors that inhibit markets from working perfectly. This includes (1) governments impeding the free flow ofproducts between nations, and (2) impediments to the sale of know-how.
Strategic Behavior: Concentrated industries (oligopoly) tendto mimic each other’s moves. Where there is multipoint competition, competing firms match eachother’s moves to keep the competitor in check.
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Horizontal FDI and Factor Considerations
The Product Life Cycle: Suggests that foreign market demand leads to FDI, probably not true and therefore is not a good predictor of FDI.
Location-Specific Advantages: Advantages that arise from using resource endowments or assets tied to a particular location (Dunning - eclectic paradigm)
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Vertical FDI
Two forms:Backward: Providing inputs (raw materials, parts) for a firm’s domestic production processes.Forward: An industry abroad sells the outputs of the firm’s domestic production processes.
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Why Do Companies Engage in FDI?
Strategic Behavior: Can raise entry barriers or shut out new competitors, or circumvent barriers established by companies already doing business in the foreign country.Market Imperfections: Need to overcome lack of know-how or the firm must invest in specialized assets whose value depends on inputs provided by a foreign supplier.
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Impediments to the Sale of Know-how
Impediments to the sale of know
how
Risk giving away know-
how to competitors
Licensing implies low control over
foreign entityKnow-how not amenable to
licensing
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A Decision Framework
Figure 6.6
Yes
How high are transportation costs
and tariffs?
Is know-how amenable to
licensing?Is tight control over foreign operation
required?
Can know-how be protected by licensing
contract?
Then license
ExportExport
Horizontal FDIHorizontal FDI
Horizontal FDIHorizontal FDI
Horizontal FDIHorizontal FDI
High
Yes
No
Low
No
Yes
No