STRATEGY FOR FDI

1. FIRM SPECIFIC STRATEGY

When a firm has already spent a huge sum of money on research and development, it
normally stresses on serving the consumers abroad with an innovative product and this gives
it a definite edge over competing firms. Such products are generally priced inelastic which
helps the firm earn greater profits but the lifespan of this strategy is limited. After sometime,
the technology does npt remain exclusive monopoly of the firm and the competing firms too
to begin to produce similar goods.

2. COST ECONOMISING STRATEGY

When a firm’s product become standardized and it faces competition from similar products
of other firms, the firms try to locate its subsidiary in a country where either raw material or
labor is cheap. Cheapness of the cost of production and to maintain provides an edge over the
other firm. For instance an MNC invests abroad in raw material sector, it would be able to
get that particular raw material at a lower cost and to export it either to the parent unit or a
subsidiary.

3. STRATEGY OF ENTERING INTO NEW AREAS

Since the two strategies mentioned above have limited time span, the firm tries to enter into
new areas where competition is yet to begin. Sharpiro (1995) has cited an example of Crown
Cork and Seal which is headquartered in Philadelphia and has gone for operation in
Malaysia, Thailand, Zambia and peru making bottle tops and cans. The very reason for its
foreign operation was that the field was uncultivated and there was no competition.

4. CROSS INVENTION STRATEGY

In some cases, the firm begins its foreign operations not primarily for capturing the foreign
market or for reducing the cost of production, but to avoid price cuts by competing firms. If a
country A firm sets up a manufacturing or trading unit in country B there is a probability for
country B firm to operate in country A.

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5. JOINT-VENTURE WITH A RIVAL FIRM
Sometimes, when a rival firm in the host country is so powerful that it is not easy for the
MNC to compete, the latter prefers to join hands with the host country firm for a joint
venture agreement and the MNC thus is able to penetrate the host country market.

6. INVESTMENT MODE STRATEGY : MERGER v/s GI

The mode of investment abroad is one of the crucial strategies. If the mode is not suitable,
the investment cannot be a viable venture. However, it may be noted that selection of
particular mode does not solely on the wishes of the investing company, but also on the
economic and political environment of the host country.

When businesses decide to expand their operations to another country, one of the more
vexing dilemmas they face is whether to create a new operation in a foreign country
using a green field investment or simply purchase an existing company in a foreign country
through an international acquisition.
While both methods will usually accomplish the goal of extending a company's operations to
a new foreign market, there are several reasons why a company might choose one over the
other. One of the biggest considerations in expanding abroad is the regulatory and
compliance rules that a company may need to research and adhere to. Acquiring an existing
company may prove to make an international business expansion easier in this regard or a
parent company may desire to build out the new infrastructure on their own. Either way,
there will be a multitude of costs and projections to consider with both types of investments.
M&A should not be treated alternative in developing country. Reasons for which are as
follows:
 The level of technology and management expertise is different from that in a
developed country.
 There are still governmental restrictions and the M&A despite liberalization of
economic policies.

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  Asset market is underdeveloped as also accounting standard is poor with the result
that the assets of the target countries are often undervalued causing loss to the target
country.

Points of difference

I. From the viewpoint of the inflow of the financial resources into the host economy, it can be
said that the financial resources provided under M&A s do not necessarily add to the capital
stock required for production.
II. From the view point of the transfer, upgrading, diffusion and generation of technology, the
two modes differ to some extent.
III. From the view point of the quantity and quality of employment, the two modes – M&A and
GI differ substantially. GI generates new employment, while M&A transfer responsibility for
existing employees who may be laid off by the new owner on the ground of efficiency or
overstaffing.
IV. Greenfield investment is more useful for building exports competitiveness when the host-
country firm does not possess large export potential.
V. It is normally believed that GI adds to the number of enterprises and reduces market
concentration. Whereas cross border M&A may have a positive impact on the market
structure if an ailing firm is acquired.

DIFFERENCE BETWEEN FOREIGN PORTFOLIO INVESTMENT AND

FOREIGN DIRECT INVESTMENT

Foreign Direct Investment (FDI) and Foreign Portfolio Investment (FPI) are the two important
forms of foreign capital. The real difference between the two is that while FDI aims to take
control of the company in which investment is made, FPI aims to reap profits by investing in
shares and bonds of the invested entity without controlling the company.
         

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Both FDI and FPI are the most well sought type of foreign capital by the developing world.
Usually, both these are measured in terms of the percentage of the shares they own in a company
(ie., 10%, 20% etc.,).

According to the existing regulation by the SEBI, FPI is investment in shares of a company not
exceeding 10% of the total paid up capital of the company. Any investment above 10% is FDI as
with that size of shareholding, the foreign investor can exert control in the management of the
company.
           A marvellous advantage of both FDI and FPI is that the receiving country need not repay
the debt like in the case of External Commercial Borrowings (foreign loans). Both are thus
described as non –debt creating, and hence involve no payment obligations. Their own servicing
depends on future growth of the economy. This is why most developing countries prefer FDI and
FPI compared to other forms of foreign capital like ECBs.  
The similarity between the two ends here. A one-to one comparison will reveal that FDI is
superior to FDI from the angle of a developing country like India.
          FPI on the other hand is investment in shares, bonds, debentures, etc. According to the
IMF, portfolio investment is defined as cross-border transactions and positions involving debt or
equity securities, other than those included in direct investment or reserve assets.
FDI vs. FPI: Of the two, FDI is more desirable

  FDI means real investment; whereas FPI is monetary or financial investment –Here, FDI means
the investor makes investment in buildings and machineries directly in the company in which he
has made the investment. FPI doesn’t create such productive asset creation directly.  It is just
financial investment. FDI is certain, predictable, takes production risks, have stabilizing impact
on production. It directly augments employment, output, export etc. The major merit of FDI is
that it is non debt creating as well as non-volatile (less fluctuating).

FPI on the other hand is investment aimed at getting profits from shares, interests from deposits
etc. It is otherwise known as hot money. The portfolio investors stays his money in the capital
market only for a short period of time. Its destination period is so small and is empirically
considered as fluctuating (often short term) capital. It is highly volatile, a fair weather friend,

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speculative, involves exchange risks and may lead to capital flight and currency crisis affecting
real economic variables. It is destabilizing in the foreign exchange market. Fluctuations in the
mobility of FPI affects foreign exchange rate, domestic money supply, value of rupee, call
money rates, security market etc. FII (Foreign Institutional Inflows) inflows depend on two
factors: first, return potential of the destination market (host country) and second availability of
risk capital at source geographies (home market; countries like the US). A change in
environment in any of these will result in quick reversal of the flows.
          
If FDI is certain, long term and less fluctuating, FPI is speculative, highly volatile and un-
predictive. Hence, FDI is superior to FPI.

FDI FPI
Key Differences
Active Investment Passive Investment
Direct Investment Indirect investment
Long term capital Short Term capital
Invests in financial & non-financial assets Invests only in financial assets
Ownership and managerial control Only ownership
Stable Volatile
Entry & exit barriers exist Entry & exit very easy