International Business Management

Unit 5

Unit 5

Foreign Investments Types and Motives

Structure: 5.1 Introduction 5.2 Foreign Investment Explained 5.3 Advantages of Foreign Direct Investment 5.4 Types of Foreign Investments Foreign Direct Investment Foreign Portfolio Investment 5.5 Motives for Foreign Investment Political motives Economic motives Competitive motives 5.6 Summary 5.7 Glossary 5.8 Terminal Questions 5.9 Answers 5.10 Caselet

5.1 Introduction
Foreign investment has emerged as a potent tool to ensure rapid economic development of the countries as developing countries like India lack the capital domestically. In the previous unit you understood how important it is for an international manager to understand and apply cross cultural management. You also gained an idea about the kind of differences that may exist in different cultures. In this unit, we will discuss the aspect of finance including Foreign direct investment (FDI) and portfolio investments. Foreign investment means the investor invests in foreign countries/ companies instead of putting the money in a local company in expectation of good returns. For the country which is attracting investment, the investor is a foreign investor. Foreign investor can be mainly of two types one who is interested in making long term commitment for investment in the form of Joint Ventures
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with local companies or acquiring/ purchasing the local company or starting the Green Field Projects in order to tap the countrys innate potential in the desired areas of economic activity. This becomes FDI. The second type is the one who may also invest in the secondary markets of the country with expectation of good returns; however, the tenure of such investments is short term and cyclical in nature. Such investments are popularly known as Foreign Portfolio Investment and can be in the form of Depository Receipts or Foreign Currency Loans or Institutional Investments. The foreign investor can influence the management of companies in which he has made an investment. The foreign direct investor may have a varying amount of stake in the invested company. Such stakes by foreign investors in a foreign company can be as low as 10% or may also cross 49% of the shares or stock ownership. India allows different levels of foreign stockholding in different areas of industry/services sectors. For example, the Reserve Bank of India allows foreign equity only up to 26% in insurance sector, 51% in banking sector; 51% in organised retail sector and only 50% in specific mining sector. It totally forbids FDI in mining of iron and manganese. In telecom sector, India allows 74% foreign investment and in port sector, it allows 100% foreign investment. Foreign direct investors always try to seek to have a controlling stake in the entity invested; on the other hand portfolio investment in stocks/companies are likely to produce good returns or likely to have very good growth rate in particular years. Objectives: After reading this unit, you should be able to: understand the meaning of foreign investments and understand advantages of foreign investment for a growing economy like India. understand the importance of foreign investment and discuss the various types of foreign investment. list the advantages of direct foreign investment viz a viz foreign portfolio investment. discuss the meaning and significance of Green Field Investment. explain the meaning of joint venture and mergers and how are they used by companies in expanding their operations to global markets. understand the depository receipts, especially about American Depository Receipts and Global Depository Receipts.
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analyse the role of foreign institutional investment for a country like India. understand the Foreign Currency convertible bonds and their utility in capital financing for a country. analyse the motives behind the foreign investment decision by a foreign investor.

5.2 Foreign investment explained

FDI in todays globalised era plays an extraordinary and growing role in the expansion and diversification of global business particularly for developing countries like India which lacks capital back home for efficient and proper management of physical and manpower resources. Foreign investments help the company in accessing new markets, exploring new marketing channels, exploring cheaper production facilities in low cost destinations, accessing new and advanced technology, planning differentiated high quality products, upgradation of skills and financing for future forays. Foreign investment also benefits the host country or the foreign firm by investing which provides a source of new technologies, capital, processes, products, organisational technologies and management skills. Foreign investment has been used like catalyst by developing countries for strong impetus to economic development. Foreign investment, in its classic definition, is defined as a company from one country making a physical investment into building a factory in another country. In an era of global economic liberalisation, privatisation and globalisation, the definition of foreign investment has been broadened to include the acquisition of a lasting management interest in a company or enterprise outside the investing firms home country. As such, foreign investment in another country or foreign firm may take many forms, such as a direct acquisition/purchase of a foreign firm, completely new construction of a facility in form of green field investments, or investment in a joint venture with foreign firm. Foreign investment may also be in the form of strategic alliance with a foreign firm with attendant input of technology/technical knowhow, licensing of intellectual property, or entering into management contract or turnkey projects.

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Activity 1 Find out the sector specifc caps/ceilings put up by the government of India for various sectors/industries in India for FDI? Hint: open the website https://www.iaccindia.com and read Manual for Policy of Foerign Investment in India

5.3 Advantages of Foreign Direct Investment

With waves of globalisation taking place in global economy with the formation of World Trade Organisation (WTO), developed and developing nations are competing for foreign investment in their respective economies. Foreign investment is said to have played an important factor for spurring the development of a nation. This is particularly more important in the context of a developing country like India which has abundance of other two factors of production i.e. land and labour. However it lacks the capital to tap the innate potential of its physical resources. Following are some of the advantages due to which nations give emphasis to their economic development. a. Easier integration into global economy: A developing country like India is keenly interested to have foreign investment in their economy as it can gain greater access and foothold in other economies of the world. Foreign investor may manufacture the products that may be meant for global markets resulting in greater exports of the country and improving the employment scenario in the country. b. Upgradation in technology and advancement in technical knowhow: Foreign investment facilitates the transfer of advanced level of technology mainly from developed countries to developing countries. Thus, less developed countriess and developing countries can have world-level technology and technical know-how to process their physical and non physical resources. Foreign expertise mainly coming from developed countries can be of immense use in upgrading the existing technical processes in the least developed or developing countries. For example India has got access to nuclear technology by signing the deal with Nuclear Supplier Group; thus having an access to advanced nuclear technology form countries like France, USA, Russia, Britain, Germany and Japan. India has also been benefited with advanced
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technology in areas of ports, ship building, power sector, energy sector and telecommunication in the recent year. c. Increased competition improved productivity: Foreign investment from the foreign players brings in advances in technology, technical knowhow and processes. This helps in increasing competition and resultant productivity in the domestic economy of the developing country. As a catalysing effect, its competitors in the domestic markets also start improving their technology or start tying up with foreign players in search of technology. It acts as a spill over effect in improving the productivity in a particular sector or sub sectors of the industry. Each company tries to stay competitive so as to retain the market share and sales turnover. d. Improvement in human development skills: There comes a significant improvement in human resources skills of the country that attracts foreign investment as its employees get exposure to globally valued skills. Foreign investors come with improved skill set to perform in a particular industry. Thus the host country is benefitted from the training and skills upgradation of the foreign investor. For example in the automobile sector in India, Japan has contributed various aspects on quality improvement of the employee. Some of the other advantages of foreign investment are access to a larger market for foreign investor in the host country. Foreign investor also has other advantages of tapping the potential of a cheap and skilled labour, making effective use of raw material and other physical resources in the host country. Foreign investor also has the benefit of expansion in capacity thus generating economies of scale and optimisation in costs along with gaining diversification in different product categories. Self Assessment Questions 1 1. Foreign investment is the investment by foreign compay/ individual in Indian company/industry/sector. (True/False) 2. Foreign Investment is of two types direct and portfolio investment. (True/False)

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3. Identify the correct answer. Which of the following is not result of foreign investment ________________. a) Improvement in human development skills. b) Increased competition improved productivity. c) Grants/donation to Indian companies. d) Easier integration into global economy.

5.4 Types of foreign investments

Different authors have classified foreign investment in different parameters. However, the most commonly acceptable method of classifying the foreign investment is that of FDI and Foreign Portfolio Investment. FDI is done by making a capital investment into green fields and real estate projects such as opening of new factories, infrastructure projects like road/rail construction etc., setting up new financial companies like banks or insurance firms etc. The types of FDI can be in: a) Completely new projects known as green field investment. b) Sick industrial unit which needs complete restructuring and these are known as brown field investment. If a foreign investor acquires an existing and running Indian unit, it is refered to as acquisition and when foreign investor join hands with local firms to manufacture in an agreed proportion, the same is known as joint venture. Foreign portfolio investment, on the other hand, is an investment by foreign investor in the countrys/regions financial instrument, such as investment in bond market or stock investing. The various types of portfolio investment include the buying of depository receipts in the form of Global Depository Receipts/American Depository Receipts/Indian Depository Receipts etc. Portfolio investment forms the major chunk by making investment in the existing stocks of the local companies in stock exchanges by Foreign Institutional Investors, popularly known as FIIs. Foreign portfolio investment can also be in the form of Foreign Currency Convertible Bonds, popularly known as FCCBs. Foreign direct and portfolio investment is diagrammed and discussed as under:

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5.4.1 Foreign Direct Investment FDI is an important component of a country's national financial accounts. Foreign direct investment is an investment by foreign investors into the assets of the host countrys structures, real estate, roads, ports, rail, plants and machinery, equipment, financial institutions such as opening a new bank/insurance company and sometimes in organisations like investment in Indian Premier League (IPL) by foreign counties. FDI does not include foreign investment into the stock markets of host countries that is separately treated as portfolio investment. FDI for any country of the world is thought to be more useful and beneficial than the investment being made in the equity/stocks of host country companies. Portfolio investment in any form is potentially hot money which can leave the host country at any stage if investor realises that there are sign of trouble in the host country. FDI in contrast is for long term, durable and is generally more useful. It is completely unaffected by the conditions in the host country. So, FDI flows are 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. Any developing or emerging country like India will always try to attract more investment that is non volatile, non debt creating and returns on which are purely dependent on the performance of the project financed. FDI in India, in
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particular, has been very helpful in the orderly development of international trade, transfer of technical knowhow and knowledge, upgradation of skills and advancements in technology. Different types of FDIs are elaborated as under: a. Greenfield Investments: When the FDI comes into new facilities or expansion of existing facilities, it is known as green field investment. Greenfield investments are most welcome in any country of the world, be it developed or developing as the primary target of green field investments is to create new production capacity and jobs, transfer technology and know-how in the host country. Brown field investments, on the other hand refer to the purchasing of an existing production or business facility that has become sick or its products do not have significant demand in the markets or its sales are on decline due to variety of factors like obsolete technology, higher unit cost, poor distribution etc. Such a firm is acquired by companies or government agencies for the purpose of starting new product or service production activity. This type of investment does not involve construction of plant operation facilities. Green field investments also establish linkages from the place of production to the global marketplace. Green field investments are ideal for generating increased employment in the host country at higher wages, upgrading research facilities and overall process of economic development of the host country. However, some critics say that efficiencies generated in host country through Greenfield investments include the loss of market share for competing domestic firms. Greenfield investments also result in perceived profits and losses to foreign multinationals. Profits generated by multinationals may be repatriated to home country, thus making the host countrys job immensely tough by putting a recurring and continuous load of outflow of hard currency from host countries. b. Mergers and acquisitions: Mergers and acquisition can happen in several ways like transfer of existing assets from local firms to foreign firms whereby local firm sell its assets to foreign firm. Due to waves of globalisation, there is a trend for consolidation of business through measures such as cross-border mergers which helps in establishing a new legal entity by combining the assets and operation of firms from
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different countries. Cross-border acquisition on the other hand refers to a situation when the control of assets and operations is transferred from a local to a foreign company, whereby the local company becomes an affiliate of the foreign company. Mergers and acquisitions are not an attractive option from the point of view of the host country as mergers and acquisitions do not provide major long term benefits to the local economy. In most of the cases, the owners of the local firm are paid in stocks by the acquiring firm, meaning that no FDI in terms of hard money is realised by the host country. In WTO era due to consolidation of global business among trade enthusiastic nations, the mergers and acquisitions have become a significant form of FDI and India also has many such deals in the recent past. For example Hutch-Vodafone deal, Coca Cola-Parle acquisition, HLL-UHL deal etc. Mergers and acquisitions are mostly used by multinationals and transnational companies in making FDI in emerging markets. c. Joint ventures: A joint venture is a sort of business agreement in which two or more parties agree to establish and develop a new entity for a finite time with the objective of making profits, increased sales, and expansion of firms long term goal. The risks, responsibility, management and profits of the contributing parties will be equal to the proportion of capital they have contributed to form this new entity. Joint ventures are popular in the economies that are opening themselves up for foreign investment and wish to provide a level playing field to domestic business vis a vis foreign players. Joint ventures are also popular whereby one party has the specialisation in technology or technical knowhow or management or can contribute capital and other party has supplement to the efforts of first party in this business endeavour. As business operations have become complex and integrated in globalised era, parties may agree to have Joint venture agreement that is limited by guarantee whereby the role of either party is limited to the share of ownership that each party contributes to such venture. Other types of joint venture, which are popular in India, are when two or more parties contribute capital, technology, market expertise, distribution channel or even brand image and both the parties have equally invested in the project in terms of money, time, and efforts. In high risks or
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controlled economies, joint ventures are the best way to make an entry or to diversify into such markets. A joint venture can be the best way to ensure success of smaller projects which are just foraying into new business markets/segments and even for established corporations. For green field projects in areas such as power, port, cement, steel, oil, automobiles etc., when the cost of starting new projects is generally high, a joint venture allows both parties to share the burden of the project, as well as the resulting profits. For high gestation periods projects, joint venture are the best way to start with. There are problems associated with joint venture projects. Foremost is the commitment and willingness of all the parties to work cooperatively, sincerely and enthusiastically for the successful commissioning, execution and completion of project. As decisions are taken by all associated parties, 100% commitment to venture is important. Moreover; parties to joint venture must be complementary to each other thus compensating for weaknesses of other parties. Joint venture will be unsuccessful if both the parties are strong in one area and both are weak in same area. Lack of coordination, communication and misunderstanding can destroy a joint venture relationship. Hence, joint venture parties must create a dedicated mechanism for smooth functioning through coordinated planning, execution, command and control of all functional areas of operations. Synchronised communication strategy should be in place so that both parties, act in tandem for the future of the partnership, suitable returns and sustainability of the joint venture. Joint venture parties must be honest, sincere, loyal and have integrity in the system to make the joint venture operations a success. Activity 2 Find out the data for FDI in various sectors; sources of investment and volume of such investments. Hint: Refer www.unctad.org/en/docs/wir2011overview_en.pdf and read World Investment Report

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5.4.2 Foreign Portfolio Investment Portfolio investment means the investment in secondary market of a country. It refers to any collection of financial assets such as securities and stocks, debentures and bonds and cash. Portfolio investment in any country is highly knowledge based decision and one needs to plan, forecast and judge the potential sectors, segments, companies and industries to invest in order to maximise returns. Portfolios investments in todays liberalised environment can be held by individual investors or can be managed by financial professionals, hedge funds, insurance companies, banks and other financial institutions. Portfolio investment, in any country is made on the basis of followings principles:

a. Global Depository Receipt (GDR): Depository receipts are negotiable certificates and are issued by a countrys bank against a certain number of shares held in its custody. Such stocks are traded in the stock exchange of another country. Depository receipt may be of different types: most popular are Global Depository Receipts (GDR)/European Depository Receipts/American Depository Receipts (ADR) and International Depository Receipts. Depository receipts entitle the shareholders to all associated dividends and capital gains
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that come from such investments. Depository receipts can be bought and sold like any other securities in stock exchanges. Such trading flexibility of depository receipts allows investors in any country to buy shares of any other country without losing the income.

A company planning for global forays and requiring capital may opt to issue a GDR to obtain greater exposure in the global market. GDR issues allow the company to have increased liquidity in key markets where it operates. This helps to boost its prestige in the local market as company stocks are traded internationally. GDRs help the company to have broader shareholder base and provide a platform to expatriates a chance or opportunity to invest in their home countries. Depository receipts are also popular as it helps firms to raise capital globally specially in a scenario where there are tight regulatory norms in the country for allowing foreign investments. For information technology companies in India, most popular depository instrument has been the ADR. ADRs are usually referred to as the financial magic as it delivers the world to the doors of US investors. ADRs were introduced for the first time by the investment house of JP Morgan in 1927. ADRs are always priced in US dollars whereby a US bank or financial institution places a certain amount of stock of a foreign company into its depositary which allows US investors to buy shares in that collection of stocks. b. Foreign Institutional Investors: Foreign institutional investors (FII) are the organisations which pool large sums of money and invest such funds usually in the secondary markets of a country. Investment usually follows into securities, real estate property and other investment assets in a country. FII may also get registered as companies in target security markets so as to invest their profits to
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some degree in these types of assets. In India, there are norms for such companies under Qualified institutional investors norms issued by SEBI. RBI guidelines regarding eligibility criteria to be get registered as FII in India is tabled as under:
Eligibility to get Registered As Foreign Institutional Investor In India Entities and funds a. b. c. d. e. f. g. h. i. Pension funds Mutual funds Insurance companies Investment trusts Banks University funds Endowments Foundations Charitable trusts and societies Broad based fund on behalf of investors a. Asset management companies b. Institutional portfolio managers c. Trustees d. Power of attorney holders

Source: Reserve Bank of India

FII usually make an investment into banks, insurance companies, retirement or pension funds, real estate funds; hedge funds, investment advisors and mutual funds. FIIs have high level of expertise in planning, executing and controlling such funds in the target markets as they act on behalf of other investors who cannot directly participate in emerging and growing markets due to lack of knowledge, expertise and time. For instance a government employee gets Contributory Provident Fund from his employer which is deposited in a fund called CPF fund. A team of financial experts will invest such funds into stocks securities, bonds and insurance so as to broaden the portfolio of investments in many companies. Thus, the risk is spread to many portfolio. If one company fails, it will be only a small part of the whole fund's investment. If returns are higher due to careful planning of the financial team it becomes the gain of CPF fund.

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FII Investment In India All values in INR crore Financial Year 1992-93 2002-03 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 (till Aug31, 2011) Equity 2,527.2 25,235.7 53,403.8 -47,706.2 110,220.6 110,120.8 2,367.6 Debt 162.1 5,604.7 12,775.3 1,895.2 32,437.7 36,317.3 8,186.2 Total 13.4 2,689.3 30,840.4 66,179.1 -45,811.0 142,658.3 146,438.1 10,553.8

Source: Securities & Exchange Board of India

When investment takes place at larger scale in stock market of the emerging and growing country, FII can have a lot of influence in the management of companies as they are entitled to exercise the voting rights in a company. From the table above, it is clear that FIIs in recent years in India have been playing a greater role in fulfilling the short term capital needs of corporate/companies etc. and have contributed to foreign exchange reserves handsomely. Due to European economic crisis, there has been a flight of capital from India, putting pressure on Indias foreign exchange reserves and on increased volatility of rupees. SEBI now has allowed FIIs to invest in mutual funds also. c. Foreign Currency Convertible Bonds (FCCB): FCCBs are a popular mode of investment. FCCBs are convertible bond which are issued by a country in a currency other than its own. By using FCCBs, a country can raise the capital in the form of a foreign currency which may be vital for funding its overseas investments. This ensures short term loans and leveraging its capital requirements. They are called freely convertible as such bonds act like a debt as well as equity instrument. Like any bonds in the market, it makes regular coupon and principal payments to investor and at the same time give an opportunity to convert them into equity or stock of the company. Indian companies have used FCCBs a lot especially in financing their overseas acquisitions in recent years.
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Accordingly to Ministry of Finance, Government of India; Foreign Currency Convertible Bonds means bonds issued in accordance with this scheme and subscribed by a non-resident in foreign currency and convertible into ordinary shares of the issuing company in any manner, either in whole, or in part, on the basis of any equity related warrants attached to debt instruments. Self Assessment Questions 2 4. Portfolio Investment is better for a country in the long run. (True/False) 5. India does not allow Green field investment in India? (True/False) 6. Which of the the following is not the route for portfolio investment in a country? a) Foreign Institutional Investor. b) Joint Venture. c) Depository Receipts. d) Foreign Currency Convertibale Bonds.

5.5 Motives for foreign investments

Motives for foreign investments have always been a debatable subject due to a variety of historical reasons. Communist/social model of economic development has questioned the need of foreign investment for speeding up the economic growth and countrys overall economic development. As India has a historical legacy of colonisation, economic planners at the time of independence in 1947 were not in favour of allowing foreign investment into the country. Such a perception changed when country got into economic crisis in 1991 and it was learnt that a country like India will have to allow foreign capital as it is not endowed with capital domestically. For smoother, systematic and synergised economic development of the country, foreign investment was allowed in almost all areas except the sectors with strategic interests. How far foreign investment has helped India or what has been the foreign investment on any other such countries has been a debateable, complex and unclear subject. The level of foreign investment to be allowed has also been a topic of arguments because the country may lose its economic sovereignty to foreigners. Other school of thought propounds that free flow of capital is beneficial for the country as it promotes an efficient allocation of countrys economic
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resources. It has been found that for shorter periods and within a given country or region, the impact of foreign investment has been mixed. The most immediate impact of foreign investment has been the creation of more jobs and employment opportunities within the immediate locality. In the long run, foreign investment helps in increasing competition, production-intensive nature of economy and higher productivity. Foreign investment acts as a catalyst for generating additional economic activity especially in countries which are deficient in capital resources, however are rich in land and labour like India. All these developments lead to the development of a robust services sector, thus leading to greater economic activity in general and higher per capita income in particular. The host country may have reasons for allowing or not allowing foreign investment into country. Similarly, investor country may also have certain motives when deciding upon a foreign investment decision. Motivations for foreign investment for any country can be broadly classified and understood in three broad categories, discussed as under:

5.5.1 Political motives Countries, usually do not allow foreign investment mainly because of political motives. Countries which have a colonial past are usually apprehensive of foreign investment and are convinced that it is in their best
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interest to not allow import from abroad. For example, India did not liberalise its market to open it to foreign competition. This is due to the governments fear of foreign investment. In recent times, Burma is the best example of a country that has not opened its market for foreigners, fearing sovereign issues and negative impact to indigenous industry. There may be disadvantages in not allowing imports as goods from abroad may be cheaper and this will help in controlling inflation, will be cost competitive and of better quality. Governments, especially in developing and least developed countries are of the opinion that it is in the interest of their country to protect domestic jobs from the perceived threats of losing sovereignty as a result of nationalism or xenophobia. Foreign companies that are denied the right to export to such countries usually plan for foreign investment as it can help in alleviating the fear of job loss, import servicing, pressure on foreign exchange etc. They can penetrate such markets by agreeing to manufacture or at least assemble goods within the target country. They may even agree to establish themselves as the local production hub, thus catering to adjoining markets resulting in exports from such country. India has allowed investment in areas where the foreign investor has come not only to cater to domestic market but also to export to nearby emerging and adjoining markets. This has helped in increasing country exports. For example automobile sector, pharma companies, engineering companies, telecom sector etc. Investing countries use such tactics to overcome restrictions on imports such as quotas, tariffs, and import duties. Local productions in the host country also mitigate the concerns for employment loss and nationalistic pride. 5.5.2 Economic motives: Most notable motives for seeking or planning foreign investment are economic factors. Some companies plan foreign investment in the expectation that they can obtain substantial economies of scale and scope in emerging and developing markets. Conglomerates are usually convinced to invest abroad as they desire to reap benefits in areas such as research and development, marketing, distribution, financing, and production by operating at volumes that can be justified only by a worldwide market. In addition to economies of scale, companies also plan their foreign investments in many countries as they desire to overcome the shortages
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and imperfections of domestic markets for factors of production. Sometimes the local population cannot provide sufficient numbers of technicians and engineers, or particular raw materials may be unavailable or overpriced in local markets. For example, American companies have invested in Indias Information Technology sector as India has a demographic dividend of a large pool of labour force at very competitive cost. Similarly pharmaceutical multinational companies in Japan are looking at India as it produces most cost competitive generic drugs and is also a good market for health care products. 5.5.3 Competitive motives Another important motive for making or seeking foreign investment is the competitive advantages that the company will enjoy in foreseeable future in target markets. Competitive motives for foreign investment are resultant of economic and political motives. A company may make foreign investment in overseas markets for which there are no immediate economic or political gains. However, the company may get benefitted in the long run from such markets due to a variety of reasons. Prime motive for making overseas investment with competitive motive is to secure the future business opportunity against the threat of existing or potential competition. Companies usually invest in emerging markets as they may desire to increase their international market share or production even though this effort may be apparently unprofitable at that moment. In cases where companies have antidumping cases due to export of goods at prices that are below the cost of production, they may be interested to make an investment to penetrate/operate in such potential markets. Another example of competitively motivated direct foreign investment decision are merger and acquisition by foreign company in the host country as it desires to get access to foreign technology/brand image, established distribution channel etc. Tata Sky deal can be quoted as an example of competition seeking investment. Tatas investment in Jaguar is another good example as Tata Automobile wished to increase its presence in higher segments/established markets of Europe at the cost of existing gains.

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Activity 3 What shall be the impact of foreign investment on Indias retail sector? Hint: Refer www.iimk.ac.in/wto/seminar/KakaliMajumdar.doc and read docuemtn on Impact of FDI on Indias retail trade

5.6 Summary
Foreign investment has emerged as a potent tool to ensure rapid economic development of the countries in globalised era as developing countries like India lack the capital domestically. In cases when an investor invests his capital in the foreign countries/companies in expectation of good returns rather than putting his money in a local company, it is known as foreign investment. For the country which is attracting the investment, the investor is known as foreign investor. Foreign investment, in its classic definition, is defined as a company from a country making a physical investment by building a factory in another country. Following are the motives for making an investment in the foreign country. Easier integration into global economy. Upgradation in technology and advancement in technical knowhow is increased. Competition improved productivity. Improvement in Human Development Skills. FDI is done by making a capital investment into green fields and real estate projects such as opening of new factories, infrastructure projects like road/rail construction etc, setting up financial companies like banks or insurance firms etc. Roughly the types of FDI can be investment in completely new project known as green field investment or an investment by a foreign investor in sick industrial unit which needs complete restructuring known as brown field investment. If a foreign investor acquires an existing and running unit, it is refereed as acquisition and when foreign investor shares the hand with local firm to manufacture sometimes in an agreed proportion it is known as joint venture.
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Foreign portfolio investment, on the other hand, is an investment by the foreign investor in the countrys or regions financial instrument, such as investment in bond market or stock investing. The various types of portfolio investment include buying of depository receipts in the form of Global Depository Receipts/American Depository Receipts /Indian Depository Receipts etc. Portfolio investment forms a major chunk by making investment in the existing stocks of local companies in stock exchanges by Foreign Institutional Investors, popularly known as FIIs. Foreign portfolio investment can also be in the form of Foreign Currency Convertible Bonds; popularly known as FCCBs. Motives for making foreign investment can be any of the followings: Political motives. Economic motives. Competitive motives.

5.7 Glossary
Green field investment: An investment in completely new project. Brown field investment: An investment by foreign investor in a sick industrial unit in India needing complete restructuring for revival. Acquisition: A foreign investor acquiring an existing and running Indian unit. Joint venture: A business agreement in which two or more than parties agree to establish and develop a new entity for a finite time with the objective of making profits; increased sales; and expansions of firms long term goal. American Depository Receipt: A stock that trades in the United States but represents a specified number of shares in a foreign corporation. Global Depository Receipt: A bank certificate that is issued in more than one country for shares in a foreign company. The shares are held by a foreign branch of an international bank. The shares trade as domestic shares, but are offered for sale globally through the various bank branches. Foreign Currency Convertible Bond: A type of convertible bond that is issued in a currency different than the issuer's domestic currency. In other words, the money being raised by the issuing company is in the form of a foreign currency.
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5.8 Terminal Questions

1. What do you mean by foreign investments? Discuss by giving relevant examples. 2. Define foreign investment. What are various types of foreign investment? 3. What are the advantages of making an investment in the foreign country? 4. What is green field investment? Why is it considered the best option for a developing country like India? 5. Differentiate between any two of the followings? a. ADR and GDR. b. Green field and brown field investment. c. Foreign direct and portfolio investment. d. Joint venture and merger. 6. Define portfolio investment. Discuss the various types of portfolio investment with relevant examples. 7. What do you mean by direct foreign investments? What are the advantages of direct investment over the portfolio investments? 8. Discuss the increasing role of foreign institutional investor for a country like India. 9. Write short notes on any two of the followings: a. Joint Ventures. b. Mergers and Acquisition. c. Foreign Currency Convertible Bonds. d. Foreign Portfolio Investment. 10. What are some of the motives behind the foreign investment decision of the investor? Explain with relevant examples.

5.9 Answers
Self Assessment Questions 1 1. True 2. True 3. C

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Self Assessment Questions 2 4. False 5. False 6. B Terminal Questions 1. 2. 3. 4. 5. Refer to sec 5.2 of the chapter Refer to sec 5.4 of the chapter Refer to sec 5.3 of the chapter Refer to sec 5.4.1 sub para A entitled as Green Field Investment. a. sec 5.4.2 of the chapter, sub para A b. sec 5.4.1, sub para A c. sec 5.4.1 and 5.4.2 of the chapter d. sec 5.4.1 refer to section B and C Refer to sec 5.4.2 of the chapter Refer to sec 5.4 Refer to sec 5.4.2 of the chapter a. Refer to sec 5.4.1, Section C b. Refer to sec 5.4.1 Section B c. Refer to sec 5.4.2 Section C d. Refer to sec 5.4.2 Refer to para 5.5 of the chapter.

6. 7. 8. 9.

10.

5.10 Caselet
Case: Impact of FDI on Indias automobile sector India, in an open economy era, is fast emerging as a regional hub for automobile sector with the entry of leading players into Indian market. Indian automobile sector in the recent past has been one of the best performing sectors of Indian economy. India attracted quite a number of FDIs in automobile sector as its domestic market is very attractive. It is fast emerging as a hub for exports to regional and global markets especially for Africa, Middle East, South East Asia, SAARC countries and Europe. India allowed 100% FDI under automatic route to automobile sector, which has a turnover of over $11.5 billion in the Indian auto industry and over $ 3 billion in the auto parts industry. 100% FDI is also
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allowed under automatic route for manufacturing automobiles and components. No additional licenses are required for Indian automobile companies except what is mandated under the law for any company for doing business. Import regime including policy has been liberalised allowing the import of auto components without any special licenses and restrictions. As a result, Indias automobile industry has witnessed an 18% growth even in years of economic slowdown. Entry of foreign players along with foreign investment in India has provided Indian automobile industry advantages such as access to advanced technology, cost-effectiveness, and efficient manpower. In addition to this, foreign investment in automobile sector facilitated the growth of a well-developed and competent Auto Ancillary industry along with automobile testing and R&D centres. The automobile sector in India ranks third in manufacturing three wheelers and second in manufacturing two wheelers. Some of the opportunities provided to Indian auto sector due to foreign investment are diagrammed as under:

Discussion Questions: 1. Discuss the benefits of FDI to Indian industry and customers. 2. What is the current scenario of automobile industry in India? 3. Discuss the role of foreign investment in Indias growth.

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References:

International Financial Management; PG Apte; Fourth Edition; Tata McGrawhill Multinational Business Finance; Global Edition; 12th Edition David Eiteman, Arthur Stonehill, Michael Moffett; Sep 2009, Pearson publication Reports: India Brand Equity Fund 2011 Foreign Direct Investment: Analysis of Aggregate Flows; Assaf Razin & Efraim Sadka; Princeton University Press Foreign direct investment in India; Volume 4, Issue 93 of OECD Working papers ; Author Kelly A. Johnson ; Publisher O.E.C.D, 1996 Manual On Foreign Direct Investment In India- Policy and Procedures; MAY-2003 Secretariat for Industrial Assistance; Department of Industrial Policy and Promotion; Ministry of Commerce and Industry; Government of India Foreign Investment in India : 1947-48 to 2007-08; By Niti Bhasin; New Century Publications; 2008

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