Foreign Direct Investment Overview

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Questions and Answers

What is one of the main reasons firms prefer acquisitions over greenfield investments?

Acquisitions take longer to implement.

Greenfield investments provide better market entry.

Mergers and acquisitions are quicker to execute. (correct)

Acquisitions are usually more costly.

Which type of foreign direct investment involves the establishment of a wholly new operation?

Acquisitions

Greenfield investments (correct)

Mergers

Joint ventures

What does the term 'outflows of FDI' refer to?

The percentage of mergers compared to acquisitions.

The total accumulated value of foreign-owned assets.

The flows of FDI out of a country. (correct)

The flows of FDI into a country.

Which factor does NOT contribute to the growth of Foreign Direct Investment?

Increased domestic investments Signup and view all the answers

What is the 'stock of FDI'?

The total accumulated value of foreign-owned assets at a given time. Signup and view all the answers

Why are mergers and acquisitions considered less risky compared to building new operations?

They provide existing assets and market presence. Signup and view all the answers

What trend has been observed in the flow and stock of FDI over the past 30 years?

Both have increased. Signup and view all the answers

Which of the following statements regarding FDI is true?

Most cross-border investment is in the form of mergers and acquisitions. Signup and view all the answers

What is one of the benefits of foreign direct investment (FDI) for the home country?

Inward flow of foreign earnings positively affecting the capital account Signup and view all the answers

Which of the following is a potential cost of FDI for the home country?

Negative impact on the balance of payments Signup and view all the answers

How can governments encourage outward FDI?

Providing government-backed insurance for foreign investments Signup and view all the answers

What aspect significantly influences managers' decisions regarding FDI?

Attitudes of host governments toward FDI Signup and view all the answers

What does the location-specific advantages argument, associated with John Dunning, explain?

Why FDI occurs based on benefits in certain locations Signup and view all the answers

Which of the following is NOT a method governments use to restrict inward FDI?

Tax incentives for foreign firms Signup and view all the answers

What is a primary source of adverse effects on competition within the host nation due to FDI?

Monopolistic practices by foreign companies Signup and view all the answers

What type of foreign direct investment involves establishing new operations from the ground up?

Greenfield investments Signup and view all the answers

What is a primary reason companies choose Foreign Direct Investment (FDI) over exporting?

FDI allows companies to better respond to local customer needs. Signup and view all the answers

Which of the following best describes Dunning’s eclectic paradigm regarding FDI?

It considers both location-specific advantages and firm-specific assets. Signup and view all the answers

What does the 'radical view' of FDI suggest about multinational enterprises (MNEs)?

MNEs act as tools for exploiting host countries for home country benefits. Signup and view all the answers

According to Vernon’s product life cycle theory, firms may prefer FDI in which stage?

Growth stage, where demand is expanding. Signup and view all the answers

Which of the following is NOT a benefit of inward FDI for a host country?

Increased foreign debt. Signup and view all the answers

Multipoint competition in FDI refers to which of the following concepts?

Firms competing in multiple markets simultaneously. Signup and view all the answers

What are externalities in the context of FDI?

Knowledge spillovers that benefit firms in the same industry. Signup and view all the answers

In which of the following scenarios might a company prefer a Greenfield investment over mergers and acquisitions?

When existing firms are deeply entrenched and resistant to change. Signup and view all the answers

Study Notes

Foreign Direct Investment (FDI)

FDI occurs when a firm invests directly in new facilities in a foreign country to produce or market goods.
This makes the firm a multinational enterprise (MNE).
FDI can be in the form of greenfield investments (building new facilities) or acquisitions/mergers with existing firms.
Most cross-border investment is in the form of mergers and acquisitions, not greenfield investments.

Why Companies Choose Acquisitions over Greenfield Investments

Acquisitions are faster to execute than greenfield investments.
Acquiring existing assets is often easier and less risky than building them from scratch.
Firms believe they can increase efficiency by transferring capital, technology, or management skills to the acquired unit.
Companies want to acquire assets more quickly.

Patterns of FDI

FDI flow = the amount of FDI undertaken over a given time period.
- Outflows = FDI out of a country.
- Inflows = FDI into a country.
FDI stock = the total accumulated value of foreign-owned assets at a given time.
Both FDI flow and stock have increased over the past 30 years.

Reasons for FDI Growth

Fear of protectionism. Companies seek to bypass trade barriers.
Political/economic changes, such as deregulation and privatization. This leads to less restrictions on FDI.
New bilateral investment treaties to facilitate investment.
Globalization of the world economy. Companies often view the entire world as their market.
Companies need to be closer to customers.

Sources of FDI

In 1998-2010, the United States had the highest cumulative FDI outflow, followed by the United Kingdom, Netherlands, Germany, Japan, and France.

Reasons for Choosing FDI over Exporting/Licensing

Exporting involves producing domestically and shipping to a foreign market.
Licensing involves granting a foreign entity the right to produce and sell a product for a fee.
FDI is preferred when:
- Transportation costs and/or tariffs are high.
- Company know-how is not amenable to licensing.
- Tight control over a foreign operation is required.
- Know-how is difficult to protect with a licensing contract

Dunning's Eclectic Paradigm

Important to consider location-specific advantages (resources tied to a particular place).
Valuable for combining with a firm's unique assets.
Firms seek externalities - knowledge spillovers when companies are in the same industry and area.

Theoretical Approaches to FDI

Radical view: MNEs are instruments of imperialist exploitation.
Free market view: International production should be based on comparative advantage.
Pragmatic nationalism: FDI benefits countries but can also create costs (profits sent back to the home country, negative balance of payments).

FDI Benefits for the Host Country

Resource transfer effects (technology, skills, capital).
Employment effects.
Balance of payments effects (inflows exceed outflows).
Effects on competition and economic growth.

FDI Costs for the Host Country

Adverse effects on competition.
Adverse effects on the balance of payments (outflows of profits).
Perceived loss of national sovereignty and autonomy.

FDI Benefits for the Home Country

Positive effect on the capital account (inward flows of foreign earnings).
Employment effects (from outward FDI).
Learning valuable skills from foreign markets.

FDI Costs for the Home Country

Negative effect on the balance of payments (outflows to foreign entities).
Employment may be negatively affected if FDI substitutes for domestic production.

Government Influence on FDI

Governments can encourage outward FDI with insurance programs to cover investment risks.
They can limit capital outflows, control tax rules, or prohibit FDI.
Governments encourage inward FDI through incentives for foreign companies to invest.
Governments can limit inward FDI via ownership restraints and performance requirements.

FDI for Managers

Managers must consider trade theories and government policies relevant to FDI.
The direction of FDI can be explained using location-specific advantages.
Governments' attitudes toward FDI are important for deciding where to locate foreign production facilities.

FDI Decision Framework for Managers

High transportation costs/tariffs discourage exporting; consider FDI.
If know-how is easily licensed, licensing might be preferred.
If tight control is needed, direct investment is likely better.
If know-how can be protected, licensing is a possible alternative.

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Description

This quiz covers the essential concepts of Foreign Direct Investment (FDI), including its definition, forms, and the reasons companies prefer acquisitions over greenfield investments. It also explores patterns of FDI flows and their significance in multinational enterprises.