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Chapter 07 - Foreign Direct Investment

Chapter 07
Foreign Direct Investment

True / False Questions

1. (p. 242) A firm becomes a multinational enterprise when it undertaes foreign direct
investment.
TRUE

Difficulty: Easy

!. (p. 242) "icensing involves the establishment of a new operation in a foreign countr#.
FALE

Difficulty: Easy

$. (p. 242) If a firm that maes bic#cles in %erman# ac&uires a French bic#cle producer'
%reenfield investment has taen place.
FALE

Difficulty: Medium

(. (p. 242) )he amount of FDI undertaen over a given time period is nown as the flow of FDI.
TRUE

Difficulty: Easy

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Chapter 07 - Foreign Direct Investment
*. (p. 242) )he total accumulated value of foreign-owned assets at a given time is the inflow of
FDI.
FALE

Difficulty: Easy

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Chapter 07 - Foreign Direct Investment
+. (p. 242) FDI is seen b# e,ecutives as a means of circumventing future trade barriers.
TRUE

Difficulty: Medium

7. (p. 244) -istoricall#' most FDI has been directed at the developed nations of the world as
firms based in advanced countries invested in the others. marets.
TRUE

Difficulty: Medium

/. (p. 246) )he total amount of capital invested in factories' stores' office buildings and the lie
is referred to as the stoc of FDI.
FALE

Difficulty: Medium

0. (p. 246) )he largest source countr# for FDI has been China.
FALE

Difficulty: Medium

10. (p. 247) About !7 percent of the world.s largest 100 nonfinancial multinationals in !00( were
American companies.
TRUE

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
11. (p. 247) In developing countries' about one third of FDI is in the form of mergers and
ac&uisitions.
TRUE

Difficulty: Hard

1!. (p. 248) In !00(' about two thirds of FDI stoc was in service industries.
TRUE

Difficulty: Hard

1$. (p. 249) As compared to e,porting and licensing' FDI is the more e,pensive and ris#.
TRUE

Difficulty: Medium

1(. (p. 250) Internali1ation theor# is also nown as the maret imperfections approach.
TRUE

Difficulty: Medium

1*. (p. 250) 2ne of the problems of licensing is that it ma# result in a firm.s giving awa#
valuable technological now-how to a potential foreign competitor.
TRUE

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
1+. (p. 25) An oligopol# is an industr# composed of a limited number of large firms.
TRUE

Difficulty: Easy

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Chapter 07 - Foreign Direct Investment
17. (p. 252) 3hen two or more enterprises encounter each other in different regional marets'
national marets or industries regional competition occurs.
FALE

Difficulty: Medium

1/. (p. 252) According to 4ernon' location specific advantages can help e,plain the nature and
direction of FDI.
FALE

Difficulty: Hard

10. (p. 25!) Dunning' in the eclectic paradigm theor#' suggests that a firm must establish
production facilities where foreign assets or resource endowments necessar# to the production
of the product e,ist.
TRUE

Difficulty: Medium

!0. (p. 254) 5ragmatic nationalism traces its roots to 6ar,ist political and economic theor#.
FALE

Difficulty: Medium

!1. (p. 254) Classical economics and the international trade theories of Adam 7mith and David
8icardo form the basis for the free maret view.
TRUE

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
!!. (p. 255) )he free maret view argues that FDI is a benefit to both the source countr# and to
the host countr#.
TRUE

Difficulty: Medium

!$. (p. 255) Countries adopting a pragmatic stance pursue policies designed to ma,imi1e the
national benefits and minimi1e the national costs.
TRUE

Difficulty: Easy

!(. (p. 256) An aspect of pragmatic nationalism is the tendenc# to aggressivel# court FDI
believed to be in the national interest b#' for e,ample' offering subsidies to foreign 69:s in
the form of ta, breas or grants.
TRUE

Difficulty: Medium

!*. (p. 257) Foreign direct investment can mae a positive contribution to a host econom# b#
suppl#ing capital' technolog# and management resources that would otherwise not be
available and thus boost that countr#.s economic growth rate.
TRUE

Difficulty: Medium

!+. (p. 258) )here is research supporting the view that multinational firms often transfer
significant technolog# when the# invest in a foreign countr#.
TRUE

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
!7. (p. 258) ;obs created in local suppliers as a result of the 69:.s investment and <obs created
because of increased local spending b# emplo#ees of the 69: are e,amples of direct
emplo#ment effects of FDI.
FALE

Difficulty: Medium

!/. (p. 258) -ost countr# citi1ens that are emplo#ed b# an 69: following an FDI are an
e,ample of an indirect effect of FDI.
FALE

Difficulty: Medium

!0. (p. 259) A countr#.s balance of pa#ments accounts eep trac of both its pa#ments to and its
receipts from other countries.
TRUE

Difficulty: Medium

$0. (p. 259) A current account deficit e,ists when a countr# imports more than it e,ports.
TRUE

Difficulty: Easy

$1. (p. 259) In recent #ears' the =.7. has run a persistent balance of pa#ments surplus.
FALE

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
$!. (p. 260) -ost governments sometimes worr# that the subsidiaries of foreign 69:s ma# have
greater economic power than indigenous competitors.
TRUE

Difficulty: Easy

$$. (p. 26) FDI does not benefit the host countr#.s balance of pa#ments if the foreign subsidiar#
creates demand for home-countr# e,ports of capital e&uipment' intermediate goods or
complementar# products.
FALE

Difficulty: Medium

$(. (p. 262) )he term offshore production refers to FDI undertaen to serve the home maret.
TRUE

Difficulty: Easy

$*. (p. 26!) Countries cannot prohibit national firms from investing in certain countries for
political reasons.
FALE

Difficulty: Medium

$+. (p. 264) )he two most common methods of restricting inward FDI are ownership restraints
and performance re&uirements.
TRUE

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
$7. (p. 265) )he 3)2 has been ver# successful in efforts to initiate tals aimed at establishing a
universal set of rules designed to promote the liberali1ation of FDI.
FALE

Difficulty: Medium

$/. (p. 266) "icensing is a good option for firms in high-tech industries where protecting firm-
specific e,pertise is of paramount importance.
FALE

Difficulty: Medium

$0. (p. 266"267) )#picall# licensing will be a common strateg# in oligopolies where competitive
interdependence re&uires that multinational firms maintain tight control over foreign
operations so that the# have the abilit# to launch coordinated attacs against their global
competitors.
FALE

Difficulty: Medium

(0. (p. 267) "icensing is more common in fragmented' low-tech industries in which globall#
dispersed manufacturing is not an option.
TRUE

Difficulty: Medium


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Chapter 07 - Foreign Direct Investment
!ultiple Choice Questions

(1. (p. 242) FDI occurs when a
A. Domestic firm imports products and services from another countr#
>. Firm ships its product from one countr# to another
C. Firm invests in the stoc of another compan#
D" Firm invests directl# in facilities to produce and?or maret a product in a foreign countr#

Difficulty: Easy

(!. (p. 242) A %reenfield investment
A" Is a form of FDI that involves the establishment of a new operation in a foreign countr#
>. Involves a 7 percent stoc in an ac&uired foreign business entit#
C. Involves a merger with a foreign business
D. 2ccurs when a firm ac&uires another compan# in a foreign countr#

Difficulty: Easy

($. (p. 242) If %eneral :lectric' a =.7. based corporation' purchased a *0@ interest in a compan#
in Ital#' that purchase would be an e,ample of aAnB
A. 6inorit# ac&uisition
>. 2utright stae
C" 6a<orit# ac&uisition
D. %reenfield investment

Difficulty: Medium

((. (p. 242) )he amount of FDI undertaen over a given time period is
A" )he flow of FDI
>. )he stoc of FDI
C. )he FDI outflow
D. )he FDI inflow

Difficulty: Easy

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Chapter 07 - Foreign Direct Investment
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Chapter 07 - Foreign Direct Investment
(*. (p. 242) )he stoc of FDI is
A. )he amount of FDI undertaen over a given period of time
#" )he total accumulated value of foreign owned assets at a given time
C. )he flow of FDI out of a countr#
D. )he flow of FDI into a countr#

Difficulty: Easy

(+. (p. 242) FDI has been rising for all of the following reasons' e,cept
A. )he globali1ation of the world econom#
#" )he general increase in trade barriers over the past $0 #ears
C. Firms are tr#ing to circumvent trade barriers
D. )here is a shift toward democratic political institutions and free maret economies

Difficulty: Hard

(7. (p. 244) -istoricall#' most FDI has been directed at the CCCCC nations of the world as firms
based in advanced countries invested in
A. =nderdeveloped' underdeveloped countries
>. Developed' underdeveloped countries
C" Developed' each other.s marets
D. =nderdeveloped' each other.s marets

Difficulty: Easy

(/. (p. 244) )he =.7. has been an attractive target for FDI because of all of the following
reasons' e,cept
A" Its small and wealth# domestic marets
>. Its d#namic and stable econom#
C. Its favorable political environment
D. Its openness to FDI

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
(0. (p. 244) Identif# the incorrect statement regarding the direction of FDI.
A" -istoricall#' most FDI has been directed at the developing nations of the world
>. During the 10/0s and 1000s' the =nited 7tates was often the favorite target for FDI inflows
C. )he developed nations of the := have received significant FDI inflows
D. 8ecent inflows into developing nations have been targeted at the emerging economies of
7outh' :ast and 7outheast Asia

Difficulty: Hard

*0. (p. 246) Africa is not a popular destination for FDI because of all of the following reasons'
e,cept
A. 5olitical unrest in the region
>. Armed conflict in the region
C" "iberali1ation of FDI regulations
D. Fre&uent polic# changes in the region

Difficulty: Easy

*1. (p. 246) )he total amount of capital invested in factories' stores' office buildings and the lie
is summari1ed b#
A" %ross fi,ed capital formation
>. )otal investment capital
C. )otal tangible investment
D. %ross depreciable investments

Difficulty: Easy

*!. (p. 246) )he largest source countr# for FDI since 3orld 3ar II has been
A. ;apan
>. China
C" )he =nited 7tates
D. )he =nited Dingdom

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
*$. (p. 247) 6ost cross-border investment is
A. In the form of %reenfield investments
#" 6ade via mergers and ac&uisitions
C. >etween American and ;apanese companies
D. Involved in building new facilities

Difficulty: Medium

*(. (p. 247) 3hich of the following is not a reason wh# firms prefer to ac&uire e,isting assets
rather than undertae green-field investmentsE
A. Foreign firms are ac&uired because those firms have valuable strategic assets
>. Firms mae ac&uisitions because the# believe the# can increase the efficienc# of the
ac&uired unit b# transferring capital' technolog# or management sills
C" :ven though %reenfield investments are comparativel# less ris# for a firm ac&uisitions
alwa#s #ield higher profits
D. 6ergers and ac&uisitions are &uicer to e,ecute than green-field investments

Difficulty: Medium

**. (p. 247) In developing nations most FDI inflows are in the form of
A. 6ergers
#" %reenfield investments
C. Ac&uisitions
D. 9on-profit organi1ations

Difficulty: Medium

*+. (p. 248) )he sector composition of FDI shows that b# !00( appro,imatel# CCCCC of FDI
stoc was in service industries.
A. 2ne fourth
>. 2ne third
C" )wo third
D. -alf

Difficulty: Hard

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Chapter 07 - Foreign Direct Investment
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Chapter 07 - Foreign Direct Investment
*7. (p. 248) )he rise in FDI in the services sector is a result of all of the following' e,cept
A. )he general move in man# developed countries awa# from manufacturing and toward
services
#" Accelerating regulations of services
C. 6an# services cannot be traded internationall#
D. 6an# countries have liberali1ed their regimes governing FDI in services

Difficulty: Medium

*/. (p. 248) 3hen strategic assets such as brand lo#alt#' customer relationships or distribution
s#stems are important' CCCCC investments are more appropriate.
A" 6erger and ac&uisition
>. %reenfield
C. 5ortfolio
D. 9ew construction

Difficulty: Medium

*0. (p. 249) CCCCC involves granting a foreign entit# the right to produce and sell the firm.s
product in return for a ro#alt# fee on ever# unit sold.
A. -ori1ontal FDI
#" "icensing
C. 4ertical FDI
D. %reenfield investment

Difficulty: Easy

+0. (p. 249) In a licensing arrangement' the CCCCC bears the ris and cost of opening a foreign
maret.
A" "icensee
>. "icensor
C. Ac&uiring firm
D. %reenfield investor

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
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Chapter 07 - Foreign Direct Investment
+1. (p. 250) Identif# the theor# that sees to e,plain wh# firms often prefer foreign direct
investment over licensing as a strateg# for entering foreign marets.
A" Internali1ation theor#
>. Internationali1ation theor#
C. 5erfect marets theor#
D. 7mall marets theor#

Difficulty: Medium

+!. (p. 250) According to the internali1ation theor#' all of the following are drawbacs of
licensing as a strateg# for e,ploiting foreign maret opportunities' e,cept
A" "icensing does not grant control over manufacturing' mareting and to a licensee in return
for a ro#alt# fee
>. "icensing ma# result in a firm.s giving awa# its now-how to a potential foreign
competitor
C. "icensing does not give the firm the tight control over manufacturing' mareting and
strateg# that ma# be re&uired to profitabl# e,ploit its advantage
D. A firms capabilities such as the management' mareting and manufacturing are often not
amenable to licensing

Difficulty: Medium

+$. (p. 250) CCCCCC is also nown as maret imperfections theor#.
A. Internationali1ation theor#
#" Internali1ation theor#
C. 5erfect marets theor#
D. 7mall marets theor#

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
+(. (p. 25) If four firms control /0 percent of a domestic maret' then CCCCCC e,ists.
A" An oligopol#
>. A monopol#
C. An oligarch#
D. 4ertical integration

Difficulty: Medium

+*. (p. 25) According to Dnicerbocer
A. )he firms that pioneer a product in their home marets undertae FDI to produce a product
for consumption in a foreign maret
#" 3hen a firm that is part of an oligopolistic industr# e,pands into a foreign maret' other
firms in the industr# will be compelled to mae similar investments
C. Combining location-specific assets or resource endowments and the firm.s own uni&ue
assets often re&uires FDI
D. Impediments to the sale of now-how increase the profitabilit# of FDI relative to licensing

Difficulty: Hard

++. (p. 252) )he eclectic paradigm was developed b#
A. F. ). Dnicerbocer
>. Adam 7mith
C. 8a#mond 4ernon
D" ;ohn Dunning

Difficulty: Easy

+7. (p. 252) 3hen two or more enterprises encounter each other in different regional marets'
national marets or industries' there is
A. 4ertical integration
>. -ori1ontal integration
C" 6ultipoint competition
D. 6onopolistic competition

Difficulty: Easy

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Chapter 07 - Foreign Direct Investment
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Chapter 07 - Foreign Direct Investment
+/. (p. 252) )he product life c#cle suggests that
A" 2ften the same firms that pioneer a product in their home marets undertae FDI to
produce a product for consumption in foreign marets
>. 3hen a firm that is part of an oligopolistic industr# e,pands into a foreign maret' other
firms in the industr# will be compelled to mae similar investments
C. Combining location-specific assets or resource endowments and the firm.s own uni&ue
assets often re&uires FDI
D. Impediments to the sale of now-how increase the profitabilit# of FDI relative to licensing

Difficulty: Medium

+0. (p. 25!) )he CCCCC suggests that a firm will establish production facilities where foreign
assets or resource endowments that are important to the firm are located.
A. 5roduct life c#cle
>. 7trategic behavior theor#
C. 6ultipoint competition theor#
D" :clectic paradigm

Difficulty: Easy

70. (p. 25!) Advantages that arise from using resource endowments or assets that are tied to a
particular location and that a firm finds valuable to combine with its own uni&ue assets are
nown as
A" "ocation specific advantages
>. 8esource specific advantages
C. Competitive advantages
D. Directional advantages

Difficulty: Easy

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Chapter 07 - Foreign Direct Investment
71. (p. 25!) ;ohn Dunning' a champion of the eclectic paradigm' argues that
A. )he firms that pioneer a product in their home marets undertae FDI to produce a product
for consumption in a foreign maret
>. 3hen a firm that is part of an oligopolistic industr# e,pands into a foreign maret' other
firms in the industr# will be compelled to mae similar investments
C" Combining location-specific assets or resource endowments and the firm.s own uni&ue
assets often re&uires FDI
D. Impediments to the sale of now-how increase the profitabilit# of FDI relative to licensing

Difficulty: Hard

7!. (p. 254) According to the CCCCC view of FDI' 69:s e,tract profits from the host countr#
and tae them to their home countr#' giving nothing of value to the host countr# in e,change.
A. Imperialist
>. Conservative
C. Free maret
D" 8adical

Difficulty: Medium

7$. (p. 254) 3hich of the following is not a reason that the radical position of 69:s was in
retreat b# the end of the 10/0sE
A. )he strong economic performance of those developing countries that embraced capitalism
rather than radical ideolog#
>. )he collapse of communism in :astern :urope
C. )he generall# ab#smal economic performance of those countries that embraced the radical
position
D" A growing belief in man# capitalist countries that 69:.s tightl# controls e# technolog#
and that important <obs in the 69:s. foreign subsidiaries go to home-countr# nationals

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
7(. (p. 255) According to CCCCC international production should be distributed among countries
according to the theor# of comparative advantage.
A. )he radical view
>. )he eclectic view
C. 5ragmatic nationalism
D" )he free maret view

Difficulty: Medium

7*. (p. 256) A distinctive aspect of CCCCC is the tendenc# to aggressivel# court FDI believed to
be in the national interest b#' for e,ample' offering subsidies to foreign 69:s in the form of
ta, breas or grants.
A. )he dogmatic view
#" 5ragmatic nationalism
C. )he radical view
D. )he conservative view

Difficulty: Medium

7+. (p. 257) 3hen a compan# brings capital and?or technolog# to a host countr#' the host countr#
benefits from the
A. Competitive effect of FDI
#" )he resource transfer effect of FDI
C. )he balance of pa#ments effect of FDI
D. )he effect on competition and economic growth

Difficulty: Easy

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Chapter 07 - Foreign Direct Investment
77. (p. 258) 3hen <obs are created in local suppliers as a result of the FDI and when <obs are
created because of increased local spending b# emplo#ees of the 69:' the 69: has a CCCCC
effect on emplo#ment.
A. Direct
#" Indirect
C. Inward
D. 2utward

Difficulty: Medium

7/. (p. 259) A CCCCC eeps trac of a countr#.s pa#ments to and its receipts from other
countries.
A. Federal pa#ments ledger
>. Current accounting s#stem
C. Checs and balances account
D" >alance of pa#ments account

Difficulty: Easy

70. (p. 259) )he CCCCC tracs the e,port and import of goods and services. A current account
deficit or trade deficit as it is often called' arises when a countr# is importing more goods and
services than it is e,porting.
A" Current account
>. Debit account
C. 7urplus account
D. Capital account

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
/0. (p. 26) )hree costs of FDI concerns of host countries arise from all of the following e,cept
A. Adverse effects on competition within the host nation
>. Adverse effects on the balance of pa#ments
C. )he perceived loss of national sovereignt# and autonom#
D" Debit on the current account of the home countr#.s balance of pa#ments

Difficulty: Hard

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Chapter 07 - Foreign Direct Investment
/1. (p. 262) FDI undertaen to serve the home maret is nown as
A. %reenfield investment
>. FDI substitution
C" 2ffshore production
D. -ome maret FDI

Difficulty: Medium

/!. (p. 26!) Double ta,ation is
A. Charging double ta,es in the home countr#
>. Charging double ta,es in the host countr#
C" )a,ation of income in both home and host countr#
D. 5a#ing income ta,es at twice the normal rate

Difficulty: Easy

/$. (p. 264) CCCCC are controls over the behavior of the 69:.s local subsidiar#.
A" 5erformance re&uirements
>. 2wnership restraints
C. Double ta,ation laws
D. %reenfield restrictions

Difficulty: Easy

/(. (p. 267) "icensing would be a good option for firms in which of the following industriesE
A. -igh-technolog# industries in which protecting firm-specific e,pertise is of paramount
importance and licensing is ha1ardous
>. %lobal oligopolies' in which competitive interdependence re&uires that multinational firms
maintain tight control over foreign operations
C. Industries in which intense cost pressures re&uire that multinational firms maintain tight
control over foreign operations
D" In fragmented' low technolog# industries in which globall# dispersed manufacturing is not
an option

Difficulty: Hard

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Chapter 07 - Foreign Direct Investment
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Chapter 07 - Foreign Direct Investment
/*. (p. 267) CCCCC is essentiall# the service industr# version of licensing' although it normall#
involves much longer term commitments.
A" Franchising
>. 7ubsidi1ing
C. %reenfield investment
D. 5atenting

Difficulty: Easy


Essa$ Questions

/+. (p. 242) Discuss the connection between foreign direct investment and multinational
enterprisesE
Foreign direct investment AFDIB occurs when a firm invests directl# in new facilities to
produce and?or maret a product in a foreign countr#. )he =.7. Department of Commerce
states that FDI occurs whenever a =.7. citi1en' organi1ation or affiliated group taes an
interest of 10 percent or more in a foreign business entit#. 2nce affirm undertaes FDI' it
becomes a multinational enterprise.

Difficulty: Easy

/7. (p. 242) 3hat are the two forms of foreign direct investmentE
)he two forms of FDI are %reenfield investment or establishing a new operation in a foreign
countr# and mergers and ac&uisitions whereb# a compan# e,pands internationall# through an
e,isting firm. Ac&uisitions can be minorit#' ma<orit# or a 100@ ownership position.

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
//. (p. 242) Discuss the trends in FDI over the last $0 #ears. >e sure to differentiate between the
stoc of FDI and the flow if FDI.
)he flow of FDI refers to the amount of FDI undertaen over a given period' while the stoc
of FDI refers to the total accumulated value of foreign-owned assets at a given time. 2ver the
last $0 #ears there has been a mared increase in both the flow and the stoc of FDI in the
world econom#. 2ver this period' the flow of FDI accelerated faster than the growth in world
trade and world output.

Difficulty: Hard

/0. (p. 242) Discuss the reasons for the growth in FDI over the last $0 #ears.
FDI has grown more rapidl# than world trade and world output for several reasons. First'
man# companies see FDI as a means of circumventing potential trade barriers. 7econd'
political and economic changes in man# of the world developing nations has been
encouraging FDI. Finall#' the globali1ation of the world econom# is having a positive impact
on the volume of FDI as firms now see the whole world as their maret.

Difficulty: Medium

00. (p. 242"248) 3hat is a %reenfield investmentE -ow does it compare to an ac&uisitionE 3hich
form of FDI is a firm more liel# chooseE :,plain #our answer.
FDI can tae the form of a %reenfield investment in a new facilit# or an ac&uisition of or a
merger with an e,isting local firm. 8esearch shows that most FDI taes the form of mergers
and ac&uisitions rather than %reenfield investment. 6ergers and ac&uisitions are more
popular for three reasons. First' mergers and ac&uisitions are &uicer to e,ecute than
%reenfield investments. 7econd' foreign firms are ac&uired because those firms have valuable
strategic assets. )hird' firms mae ac&uisitions because the# believe the# can increase the
efficienc# of the ac&uired firm b# transferring capital' technolog# or management sills.

Difficulty: Hard

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Chapter 07 - Foreign Direct Investment
01. (p. 248) Discuss the shift in FDI from manufacturing to services. 3hat is driving the trendE
2ver the last twent# #ears' the sector composition of FDI has shifted from e,tractive
industries and manufacturing toward services. ># !00(' some ++ percent of the stoc of FDI
was in services. Four factors are driving the shift to services. First' the shift reflects the
general move in man# developed economies awa# from manufacturing and toward service
industries. 7econd' man# services cannot be traded internationall# and FDI is a principal was
to bring services to foreign marets. )hird' man# countries have liberali1ed their regimes
governing FDI in services maing the option more attractive to firms. Finall#' the rise of
Internet-based global telecommunications networs has allowed some service enterprises to
relocate some of their value creation activities to different nations to tae advantage of
favorable factor costs.

Difficulty: Medium

0!. (p. 249) Consider wh# firms selling products with low value-to-weight ratios choose FDI
over e,porting.
5roducts with low value-to-weight ratios such as soft drins or cement are fre&uentl#
produced in the maret where the# are consumed. 3hen transportation costs are added to
production costs' it becomes unprofitable to shift such products over a long distance. For
firms that can produce low value-to-weight products at almost an# location the attractiveness
of e,porting decreases and FDI or licensing becomes more appealing.

Difficulty: Medium

0$. (p. 250) Discuss the maret imperfections e,planation of FDI. 3hat is its relationship with
internali1ation theor#E
6aret imperfections or factors that inhibit marets from woring perfectl#' provide a ma<or
e,planation of wh# firms prefer FDI to either e,porting or licensing. In the international
business literature' the mareting imperfections approach is referred to as internali1ation
theor#. According to the theor#' FDI will be preferred when there are impediments that mae
both e,porting and the sale of now-how difficult and?or e,pensive.

Difficulty: Hard

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Chapter 07 - Foreign Direct Investment
0(. (p. 250) 3hat is licensingE -ow does it worE
"icensing occurs when a domestic firm' the licensor' licenses to a foreign firm' the licensee'
the right to produce its product' to use its production processes or to use its brand name or
trademar. In return' the licensor collects ro#alt# fees on ever# unit the licensee sells or on
total licensee revenues. )he licensor also benefits from the arrangement in that the licensee
bears the cost and ris of e,panding into a foreign maret.

Difficulty: Medium

0*. (p. 250) Compare and contrast the advantages of foreign direct investment over e,porting
and licensing.
A firm will favor foreign direct investment over e,porting as an entr# strateg# when
transportation costs or trade barriers mae e,porting unattractive. Furthermore' the firm will
favor foreign direct investment over licensing Aor franchisingB when it wishes to maintain
control over its technological now-how or over its operations and business strateg# or when
the firm.s capabilities are simpl# not amenable to licensing' as ma# often be the case.

Difficulty: Easy

0+. (p. 25) Consider the notion that FDI flows are a reflection of strategic rivalr# between firms
in the global maretplace. 3hat is the main limitation of the theor#E
)he strategic behavior approach to e,plain FDI was initiall# e,pounded b# Dnicerbocers
who argued that in an oliogopolistic industr#' a Ffollow the leaderF mentalit# will prompt
firms to pursue FDI when another firm in the industr# has alread# done so. -owever' the
theor# fails to e,plain wh# the first firm decided to undertae FDI' rather than e,port or
license.

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
07. (p. 252) 3hat is multipoint competitionE -ow do firms respond to multipoint competitionE
6ultipoint competition arises when two or more enterprises encounter each other in different
regional marets' national marets or industries. :conomic theor# suggests that firms will tr#
to match each other.s moves in different marets to tr# to hold each other in chec. If a firm is
successful with this strateg#' the firm will ensure that a rival does not tae a commanding
position in one maret and then use the profits generated in that maret to underwrite
competitive attacs in other marets.

Difficulty: Easy

0/. (p. 252) :,plain the product life c#cle theor# and its connection with FDI.
)he product life c#cle theor#' developed b# 8a# 4ernon' suggests that the same firms that
pioneer a product in their home countr# will undertae FDI to produce a product for
consumption in foreign marets. According to the theor#' firms will invest in industriali1ed
countries when demand in those countries is sufficient to support local production. )he#
subse&uentl# shift production to developing countries when product standardi1ation and
maret saturation give rise to price competition and cost pressures. Investment in developing
countries' where labor costs are lower is seen as the best wa# to reduce costs.

Difficulty: Medium

00. (p. 252"25!) 3hat are location-specific advantagesE -ow do the# help e,plain FDIE
"ocation specific advantages are advantages that arise from using resource endowments or
assets that are tied to a particular foreign location and that a firm finds valuable to combine
with its own uni&ue assets. 9atural resources such as oil and minerals for e,ample' are
specific to certain locations. Firms must undertae FDI to e,ploit such foreign resources.

Difficulty: Easy

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Chapter 07 - Foreign Direct Investment
100. (p. 25!) :,plain ;ohn Dunning.s position on FDI. 3hat is the eclectic paradigmE
;ohn Dunning has argued that to full# understand FDI it is important to consider the role of
location specific advantages. According to Dunning' a firm will be prompted to undertae FDI
in an effort to e,ploit assets that are specific to a particular location. Dunning.s theor#' the
eclectic paradigm' combines the arguments of internali1ation theor# with the notion of
location-specific advantages to suggest that combining location-specific assets or resource
endowments and the firm.s own uni&ue capabilities often re&uires the firm to establish
production facilities where the foreign assets or resource endowments are located.

Difficulty: Hard

101. (p. 254"256) Discuss the various political ideologies and their impact on foreign direct
investment.
)he radical view writers argue that the multinational enterprise A69:B is an instrument of
imperialist domination. )he free maret view argues that international production should be
distributed among countries according to the theor# of comparative advantage. )he pragmatic
nationalist view is that FDI has both benefits and costs.
)he radical view has a dogmatic radical stance that is hostile to all inward FDI
)he free maret view is at the other e,treme and based on noninterventionist principle of free
maret economics. >etween these two e,tremes is an approach called pragmatic nationalism.

Difficulty: Hard

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Chapter 07 - Foreign Direct Investment
10!. (p. 257"262) Discuss the benefits and costs of FDI from the perspective of a host countr# and
from the perspective of the home countr#.
)he main benefits of inward FDI for a host countr# arise from resource-transfer effects'
emplo#ment effects' balance-of-pa#ments effects and effects on competition and economic
growth. )hree costs of FDI concern host countries. )he# arise from possible adverse effects
on competition within the host nation' adverse effects on the balance of pa#ments and the
perceived loss of national sovereignt# and autonom#.
)he benefits of FDI to the home AsourceB countr# arise from three sources. First' the home
countr#.s balance of pa#ments benefits from the inward flow of foreign earnings. 7econd'
benefits to the home countr# from outward FDI arise from emplo#ment effects. )hird'
benefits arise when the home-countr# 69: learns valuable sills from its e,posure to foreign
marets that can subse&uentl# be transferred bac to the home countr#. )he most important
cost?concern of FDI for the home countr# centers on the balance-of-pa#ments and
emplo#ment effects of outward FDI.

Difficulty: Hard

10$. (p. 266"267) Describe the situations when licensing is not a good option for a firm.
"icensing is not a good option in three situations. First' licensing is ha1ardous in high-tech
industries where protecting firm-specific e,pertise is ver# important. 7econd' licensing is not
attractive in global oligopolies where tight control is necessar# so that firms have the abilit# to
launch coordinated attacs against global competitors.
Finall#' in industries where intense cost pressures re&uire that 69:s maintain tight control
over foreign operations' licensing is not the best option.

Difficulty: Medium

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Chapter 07 - Foreign Direct Investment
10(. (p. 267) 3hat is franchisingE 3hat t#pe of firm uses franchising as a means of e,panding
into foreign maretsE
Franchising is essentiall# the service-industr# version of licensing. 3ith franchising' the firm
licenses its brand name to a foreign firm in return for a percentage of the franchisee.s profits.
)he franchising contract specifies the conditions that the franchisee must fulfill if it is to use
the franchisor.s brand name.
Franchise agreements usuall# have a longer time commitment than do licensing arrangements.
Franchising is common in the fast food industr# because fast food cannot be e,ported'
because franchising minimi1es the costs and riss associated with opening a foreign maret'
because brand names are relativel# eas# to protect' because there is no compelling reason for
a firm to have tight control over franchisees and because fast food now-how is easil#
transferred.

Difficulty: Medium

10*. (p. 267) -ow useful are the product life c#cle theor# and Dnicerbocer.s theor# of
hori1ontal FDI to businessE
)he product life c#cle theor# and Dnicerbocer.s theor# of hori1ontal FDI to business are not
particularl# useful from a business perspective because the theories are descriptive rather than
anal#tical. )he theories are useful for e,plaining historical patterns of FDI' but the# do a poor
<ob of identif#ing the factors that influence the relative probabilit# of FDI' licensing and
e,porting.

Difficulty: Medium

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