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Definition
Foreign Direct Investment: The establishment of a
plant or distribution network abroad. Investors can
acquire part or all of the equity of an existing foreign
corporation either to control or share control over
sales, production, and research and development.
The basic questions of FDI (6W+H)
Who? (is the investor)

What? (kind of FDI)

Why? (are we investing)

Where? (is the FDI going)

When? (do we invest)

How? (the mode of entry)

Types of FDI
Horizontal FDI arises when a firm duplicates its
home country-based activities at the same value chain
stage in a host country through FDI.
Platform FDI Foreign direct investment from a
source country into a destination country for the
purpose of exporting to a third country.
Vertical FDI takes place when a firm through FDI
moves upstream or downstream in different value
chains i.e., when firms perform value-adding activities
stage by stage in a vertical fashion in a host country.
 O = Ownership advantages
Some firms have a firm specific capital known as
knowledge capital: Human capital (managers),
patents, technologies, brand, reputation…

This capital can be replicated in different

countries without losing its value, and easily
transferred within the firm without high
transaction costs
 L – Localization advantages
Producing close to final consumers or downstream customers

Saving transport costs

Obtaining cheap inputs

Jumping trade barriers

Provide services (for most services production and delivery

have to be contemporaneous)
I – internalization advantages
Why don't a firm just sign a contract with a
subcontractor (external agent) in a foreign country?
Because contracting out is risky: it implies
transferring the specific capital outside the firm and
revealing the proprietary information (e.g. how to use
the technology or the patent).
Problem:
If the agent interrupts the contract it can use the
technology to compete with the mother company
In the case of brands/reputation: if the agent damages
the brand reputation
OLI approach - conclusions
The eclectic, or OLI paradigm, suggests that the
greater the O and I advantages possessed by firms and
the more the L advantages of creating, acquiring (or
augmenting) and exploiting these advantages from a
location outside its home country, the more FDI will
be undertaken
Where firms possess substantial O and I advantages
but the L advantages favor the home country, then
domestic investment will be preferred to FDI and
foreign markets will be supplies by exports
4 types of FDI derived from OLI theory
The typology of FDI was developed by Jere Behrman
to explain the different objectives of FDI:
Resource seeking FDI
Market seeking FDI
Efficiency seeking (global sourcing FDI)
Strategic asset/capabilities seeking FDI

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Resource seeking FDI
To seek and secure natural resources e.g.
minerals, raw materials, or lower labor costs
for the investing company
For example, a German company opening a
plant in Slovakia to produce and re-export to
Germany

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Market seeking FDI
To identify and exploit new markets for the firms`
finished products
Unique possibility for some type of services for
which production and distribution have to be
contemporaneous (telecom, water supply, energy
supply)
Automotive TNCs have invested heavily in China

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Efficiency seeking FDI
To restructure its existing investments so as to
achieve an efficient allocation of international
economic activity of the firms
International specialization whereby firms seek to
benefit from differences in product and factor prices
and to diversify risk
Global sourcing – resource saving and improved
efficiency by rationalizing the structure of their global
activities. Undertaken primarily by network based
MNCs with global sourcing operations.

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Strategic asset/capabilities seeking FDI
MNCs pursue strategic operations through the
purchase of existing firms and/or assets in order to
protect O specific advantages in order to sustain or
advance its global competitive position
 Acquisition of key established local firms
 Acquisition of local capabilities including R&D, knowledge
and human capital
 Acquisition of market knowledge
 Pre empting market entrance by competitors
 Pre empting the acquisition by local firms by competitors

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FDI theories on macro level
Capital market theory
One of the oldest theories of FDI (60s)
FDI is determined by interest rates

Dynamic macroeconomic FDI theory

FDI are a long term function of TNC strategies
The timing of the investment depends on the changes
in the macroeconomic environment
„hysteresis effect“
FDI theories on macro level
FDI theory based on exchange rates
Analyses the relationship of FDI flows and exchange
rate changes
FDI as a tool of exchange rate risk reduction

FDI theory based on economic geography

Explores the factors influencing the creation of
international production clusters
Innovation as a determinant of FDI – „Greta Garbo
effect“
FDI theories on macro level
Gravity approach to FDI
The closer two countries are (geographically,
economically, culturally ...) the higher will be the FDI
flows between these countries

FDI theories based on istitutional analysis

Explores the importance of the institutional framework
on the FDI flows
Political stability – key factor
Foreign Portfolio Investment: The purchase of
shares and long-term debt obligations from a foreign
entity. Portfolio investors do not aim to take control
of a corporation. They can liquidate their investment
at market value any time.
Strategic Approach: Foreign direct investment
decisions based on business strategies. Investors seek
access to raw materials, markets, product efficiency,
and “know-how”.
Cash Flow: The total amount of cash that remains in
a company after it has paid taxes and other cash
expenses.
Investment Incentives: benefits such as cash grants,
tax credits, accelerated depreciation, and low interest-
bearing loans, which are sponsored by national or
local authorities to attract foreign investment.
Exclusive Distributor: An independent sales agent who is
given the soles right, under contract, to sell a foreign
manufacturer’s products.
Multiple Distributor: A sales agent who represents more
than on e manufacturer.
Royalty Payments: the payments made by a foreign
manufacturer to a company that has licensed the
manufacturer to produce its products.
Joint Venture: A subsidiary formed by two or more
corporations.
 
Joint venture enterprise
A joint venture enterprise (JVE) is an enterprise
established in Vietnam on the basis of a joint venture
contract signed by two or more parties for the purpose of
conducting investment and business in Vietnam. A joint
venture contract may be entered into between:
(i) a Vietnamese party and a foreign party;
(ii) a Vietnamese party and a wholly foreign owned
enterprise;
(iii) a JVE and a foreign party;
(iv) a JVE and a wholly foreign owned enterprise; or
(v) two JVEs.
Wholly foreign owned enterprise
A wholly foreign owned enterprise (WFOE) is an
enterprise owned and established by one or more
foreign investors under which the investors will
manage the enterprise and assume full responsibility
for its debts and liabilities. An existing WFOE in
Vietnam may cooperate with another WFOE and/or
with foreign investors to establish a WFOE. A WFOE
may be established as a joint-stock company, a
limited liability company or a partnership.
Business cooperation contract
A business cooperation contract is a form of FDI
established via a contractual arrangement between
two or more parties without creating a legal entity.
The contract should stipulate the responsibilities and
distribution of profits and liabilities between the
parties.
Foreign company branch vs.
representative office
A foreign company branch established under
Vietnamese laws is regarded as the dependent unit of
a foreign investor. It is permitted to engage in
commercial activities which include investment. On
the other hand, a representative office, also a
dependent unit of a foreign investor, may be
established by a foreign investor, but only for
conducting market surveys and commercial
promotion activities permitted under Vietnamese
laws.