FDI as a market entry strategy

modes of entry in international business

• Trade mode
• Contractual entry mode
• Investment mode
 Trade Mode

• the products are produced within the

domestic territory and then exported to other
countries, where there is a market for the
products
• exporting and importing of the products
• directly export their goods or indirectly
through another company.
 Service Exports and Imports

• Mode 1 cross border supply, where neither the buyer

nor the seller is mobile. Call centres, business
outsourcing, and knowledge outsourcing jobs are
few examples
• Mode 2: is called consumption abroad, where the
buyer is mobile and seller is immobile. Tourism,
medical tourism are the examples for this type of
services
• Mode 3: In this mode seller is mobile like courier
services, international logistics company
 Contractual entry mode

• Franchising
• Licensing
• technical agreements,
• service contracts,
• management contracts,
• construction/turnkey contracts,
• co-production contracts and other.
 INVESTMENT MODE

• FDI
• FDI is a better alternative than exports because
the products with dissimilar features are
produced in different countries in order to meet
the specific demand of the consumers.
• FDI plays an extraordinary and growing role in
global business. It can provide a firm with new
markets and marketing channels, cheaper
production facilities, access to new technology,
 Understand the Types of
International Investments
• There are two main categories of
international investment—portfolio
investment and foreign direct investment
• Portfolio investment refers to the investment in
a company’s stocks, bonds, or assets
• not for the purpose of controlling or directing
the firm’s operations or management
• investors in this category are looking for a
financial rate of return as well as diversifying
investment risk through multiple markets.
 Definition of FDI
• The Organization for Economic Co-operation
and Development (OECD) define foreign direct
investment (FDI) as ”a category of investment
that reflects the objective of establishing a
lasting interest by a resident enterprise in
one economy (direct investor) in an
enterprise (direct investment enterprise) that
is resident in an economy other than that of
the direct investor”
 Types of FDI
• several ways in which companies can invest directly in
foreign markets:
• Construction of facilities or investment in facilities in a
foreign market (Greenfield investments)
• Mergers and acquisitions
• Investment in a joint venture located in a foreign market
• purchasing the assets of a foreign company- investing
in the company or in new property, plants, or
equipment-participating in a joint venture with a
foreign company
 Green field vs Brown field
• Greenfield FDIs occur when multinational
corporations enter into developing countries to build
new factories or stores. These new facilities are built
from scratch—usually in an area where no previous
facilities existed
• In addition to building new facilities that best meet
their needs, the firms also create new long-term jobs
in the foreign country by hiring new employees.
• Countries often offer prospective companies tax
breaks, subsidies, and other incentives to set up
greenfield investments
 Brown field
• A brownfield FDI is when a company or government
entity purchases or leases existing production
facilities to launch a new production activity
• One application of this strategy is where a
commercial site used for an “unclean” business
purpose, such as a steel mill or oil refinery, is cleaned
up and used for a less polluting purpose, such as
commercial office space or a residential area.
• Brownfield investment is usually less expensive and
can be implemented faster
• Generally speaking FDI refers to capital inflows from
abroad that invest in the production capacity of the
economy
• Usually preferred over other forms of external finance
because they are
• Non-debt creating, non-volatile and their returns
depend on the performance of the projects financed by
the investors.
•  FDI also facilitates international trade and transfer of
knowledge, skills and technolog
 FDI as a strategy
• Foreign direct investment (FDI) refers to an
investment in or the acquisition of foreign assets
with the intent to control and manage them
• Foreign Direct Investment (FDI) is a strategy
approach
• FDI is primarily a long-term strategy.
• Companies usually expect to benefit through access
to local markets and resources, often in exchange for
expertise, technical know-how, and capital
• This entry modes offers a high degree of
control over the international business in the
host country
• This is high financial commitment mode, but
also a transfer of technology, skills,
management, manufacturing and marketing,
production processes and other recourses
 Motives for FDI
• There are basically three reasons of why a
company choose setting up operations abroad
though risk is more involved.
• To expand their sales,
• To acquire resources,
• To minimize competitive risk.
 Reasons for foreign direct investment

• Governments want to be able to control and regulate the flow of

FDI so that local political and economic concerns are addressed
• Some governments prohibit or limit imports of goods produced in
other countries, but a company can build a production site in the
foreign market and produce locally.
• Producing goods in the target market avoids import duties and other
taxes and the requirement for import permits.
• Companies can obtain the services of skilled employees in the target
market or gain intelligence held by people in that market.
• In certain countries, companies can take advantage of lower costs,
such as cheaper labour.
• Companies can become more competitive.
 major determinants for FDI
• Size of host country market
• Proximity of host country
• Previous FDI experience
• Perceived need to mimic competitors’ actions
Factors That Influence a Company’s Decision
to Invest
• Deciding to invest in a local market
depends on a business’s needs and overall
strategy
• Many considerations influence its
decisions
 Cost. Is it cheaper to produce in the local
market than elsewhere?
 Logistics. Is it cheaper to produce locally
if the transportation costs are significant?
 Factors (cont)
 Market. Has the company identified a
significant local market?
 Natural resources. Is the company
interested in obtaining access to local
resources or commodities?
 Know-how. Does the company want
access to local technology or business
process knowledge?
 Factors (cont)
 Customers and competitors. Does the
company’s clients or competitors operate
in the country?
 Policy. Are there local incentives (cash
 and noncash) for investing in one country
versus another?
 Ease. Is it relatively straightforward to
invest and/or set up operations in the
country, or is there another country in
which setup might be easier?
 Factors (cont)
 Culture. Is the workforce or labour pool
already skilled for the company’s needs or
will extensive training be required?
 Impact. How will this investment impact the
company’s revenue and profitability?
 Expatriation of funds. Can the company easily take
profits out of the country, or are there local
restrictions?
 Exit. Can the company easily and orderly exit from a
local investment, or are local laws and regulations
cumbersome and expensive?
 Forms of FDI
• A country’s FDI can be both inward and outward
• Inward FDI refers to investments coming into
the country
• Outward FDI are investments made by
companies from that country into foreign
companies in other countries
• The difference between inward and outward is
called the net FDI inflow, which can be either
positive or negative
 Types of FDI
• There are mainly two types of FDI- Horizontal and Vertical
• However, two other types of foreign direct investments
have emerged- conglomerate and platform FDI.

. HORIZONTAL FDI: under this type of FDI, a business

expands its inland operations to another country. The
business undertakes the same activities but in a foreign
country.
Horizontal FDI occurs when a company is trying to open up a new
market
Example -a retailer that builds a store in a new country to sell to
the local market
• VERTICAL FDI: in this case, a business
expands into another country by moving
to a different level of the supply chain.
Thus business undertakes different
activities overseas but these activities
are related to the main business.
Vertical FDI is when a company invests
internationally to provide input into its core
operations—usually in its home country.
 Vertical FDI
• When a firm brings the goods or
components back to its home country (i.e.,
acting as a supplier), this is referred to as
backward vertical FDI.
• When a firm sells the goods into the local
or regional market (i.e., acting as a
distributor), this is termed forward vertical
FDI.
 Vertical FDI
• The largest global companies often engage in both
backward and forward vertical FDI depending on their
industry
• Many firms engage in backward vertical FDI.
• The auto, oil, and infrastructure (which includes
industries related to enhancing the infrastructure of a
country—that is, energy, communications, and
transportation) industries are good examples of this.
• Firms from these industries invest in production or plant
facilities in a country in order to supply raw materials,
parts, or finished products to their home country.
• recent years, these same industries have
also started to provide forward FDI by
supplying raw materials, parts, or finished
products to newly emerging local or
regional markets.
1.CONGLOMERATE FDI: under the type of FDI,
a business undertakes unrelated business
activities in a foreign country. This type is
uncommon as in involves the difficulty of
penetrating a new country and an entirely
new market.
2.PLATFORM FDI: here, a business expands
into another country but the output from the
business is then exported to a third country.
 Importance of Foreign Direct Investment
• Host country point of view
• Capital Formation: Private foreign investment goes directly
into capital formation
• The investment leads to link to local companies, increased
productivity, improved efficiency and capital formation
• Advancement of Technology:
• The sophisticated and modern technologies are not
available in the host country. But with the FDI inflow, the
host country can get improved technology and more
importantly ongoing access to continued research and
development programmes
 Importance of Foreign Direct Investment

• Improvement in the Balance of Payment:

• FDI helps improve the balance of payment of
the host country. The inflow of investment is
credited to the capital account. At the same
time, current account improves because FDI
helps further in import substitution or export
promotion. The host country is able to produce
those items that were imported earlier
• Diversification:
• MNCs command technology and skills
required for diversification of the industrial
base and for the creation of backward and
forward linkages
• Employment Generation:
 Disadvantages of FDI to the Host Country

• Special Concessions to the Foreign Investors:

• Payment of Dividends and Royalty: A large amount of
money flows out of the recipient country in terms of
payment of dividends, royalty and technical fees to the
foreign investors
• Tax rates and sanctions. A company’s home
government usually imposes these restrictions in
an effort to persuade companies to invest in the
domestic market rather than a foreign one
• Competition to local companies
• Ownership restrictions. Host
governments can specify ownership
restrictions if they want to keep the control
of local markets or industries in their
citizens’ hands
How Governments Encourage FDI

• Financial incentives. Host countries offer

businesses a combination of tax incentives and
loans to invest. Home-country governments
may also offer a combination of insurance,
loans, and tax breaks in an effort to promote
their companies’ overseas investments
 Infrastructure. Host governments improve
or enhance local infrastructure—in energy,
transportation, and communications—to
encourage specific industries to invest. This
also serves to improve the local conditions for
domestic firms.
 Administrative processes and
regulatory environment.
  Host-country governments streamline the
process of establishing offices or
production in their countries. By reducing
bureaucracy and regulatory environments,
these countries appear more attractive to
foreign firms.
 Political, economic, and legal
stability. Host-country governments seek to
reassure businesses that the local operating
conditions are stable, transparent (i.e., policies
are clearly stated and in the public domain), and
unlikely to change.