What is 'FDI'

FDI Definition
A foreign direct investment refers to a purchase of a particular
organisation’s interest by another foreign organisation. Such an
organisation or investor is located in a different country than the
organisation whose interest is purchased. It involves a business decision
whereby a significant stake is acquired in a foreign business. Generally,
organisations undertake FDI to expand operations to a foreign location.

Working of FDI
Organisations looking forward to FDI will select only those businesses
that have an efficient and skilled workforce. Usually, organisations look
for such businesses in countries with an open economy. This is because,
in such open markets, investor growth prospects are above average.
Another important factor to select a foreign location for FDI is tax
regulations. Naturally, those places where tax regulations are light are
preferred.

The scope of foreign direct investment is wider and bigger than capital
investment. It includes the following:

Provision of management
Provision of technology
Provision of equipment
Establishment of a substantial level of control over foreign business
Ability to impact the decision-making of the foreign business

Significance of FDI
Foreign direct investment is very important for developing nations. In
order to expand internationally, the organizations of such nations need
foreign funding. Such funding allows these organizations to spread sales
internationally. Moreover, with foreign direct investment, the
developing nations get funding for the following:

Infrastructure
Energy
Water
Combating climate change effects

What is a Brownfield Investment?

In economics, a brownfield investment (BI) is a type of foreign direct

investment (FDI) where a company invests in an existing facility to start
its operations in the foreign country. In other words, a brownfield
investment is the lease or purchase of a pre-existing facility in a foreign
country.

Understanding a Brownfield Investment

A brownfield investment is often undertaken when a company wants to

invest and start operations in a new country but does not want to incur
the high start-up costs associated with a greenfield investment (a
greenfield investment is a foreign direct investment where, instead of
using existing businesses in the foreign country, the investor opens
their own new business there – basically, a “from the ground up”
approach). The underlying rationale behind a brownfield investment is
to enter into a new foreign market through businesses that already
have a presence there.

In a brownfield investment, the company either invests in existing

facilities and infrastructure through a merger and acquisition (M&A)
deal or leases existing facilities in the foreign country.
Example of a Brownfield Investment

Company A is currently based in the United States and is looking to

expand operations into India. Due to uncertainty in the overseas
market for their product, the CEO decided to conduct a brownfield
investment to “test the waters.”

In addition, there are numerous approvals and licenses to be acquired

in India, and it’s been determined that such time-consuming activities
can be eliminated by acquiring a local company with already-approved
licenses.

Company A then identifies a potential target company in India. By

making a brownfield investment by acquiring the target company,
Company A is able to expand into the market quickly. In addition,
through a brownfield investment, it is able to avoid significant foreign
investment costs, such as building its own facilities or the cost of hiring
and training new staff members.

Real World Examples of a Brownfield Investment

1. Vodafone in India

Vodafone is a telecommunications company headquartered in London

and Newbury, Berkshire. In 2007, the telecom firm completed the
acquisition of a majority stake in Mumbai, India-based Hutchison Essar
for $10.9 billion in cash. Through the acquisition, Vodafone was able to
penetrate into the fast-growing Indian telecommunications industry
which, at that time, was adding nearly six million subscribers monthly.

2. Tata Motors in the United Kingdom

Tata Motors was the largest automobile company in India during 2007-
08. At that time, the Indian automaker was the leader in the production
of commercial vehicles and was the world’s second- and fourth-largest
bus and truck manufacturer, respectively.

What is a Greenfield Investment?

In economics, a greenfield investment (GI) refers to a type of foreign

direct investment (FDI) where a company establishes operations in a
foreign country. In a greenfield investment, the company constructs
new (“green”) facilities (sales office, manufacturing facility, etc.) cross-
border from the ground up. According to the Bureau of Economic
Analysis (BEA), a greenfield investment is a project “where foreign
investors establish a new business or expand an existing business on
U.S. soil.” (or where a U.S. investor establishes a new business on
foreign soil)

Understanding a Greenfield Investment

A greenfield investment is a form of market entry commonly used when

a company wants to achieve the highest degree of control over its
foreign activities. It can be compared to other foreign direct
investments such as the purchase of foreign securities or the
acquisition of a majority stake in a foreign company in which the parent
company exercises little to no control over daily business operations.

Apart from potential tax breaks or subsidies in establishing a greenfield

investment, the overarching goal of such an investment is to achieve a
high level of control over business operations and to avoid intermediary
costs.

Example of a Greenfield Investment

Company A is based in Europe and is looking to expand its operations

internationally. Namely, the company wants to penetrate the US
market with a new innovative product. Upon completing market
research, Company A realizes that there are few to no competitors in
the United States.

Thus, there are no acquisition opportunities available to the company

to establish a “base.” In addition, the United States previously imposed
tariffs on all European imports, causing the selling price of the
company’s product to be very high when it comes as an import
product.

Company A decides to create a sales office and manufacturing facility

on US soil, with the goal of bypassing existing US import tariffs and also
to penetrate into the domestic market with its new product. The
company’s CEO deems establishing a foreign subsidiary crucial, as it will
then be able to exert complete control over its overseas business
operations and brand image.

Real-World Examples of Greenfield Investments

Hyundai Motor Co. in Nošovice

In 2006, Hyundai Motor Company received approval to make around

one billion euros with a major greenfield investment in Nošovice in the
Czech Republic. The automaker established a new manufacturing plant
that employed up to 3,000 individuals in its first year of operation. The
Czech Government provided tax relief and subsidies to prompt the
greenfield investment, in hopes of boosting the country’s economy and
lowering the unemployment rate.

Toyota Motor Corp. in Mexico

In 2015, Toyota Motor Corporation announced plans to establish a new

manufacturing facility in Mexico through an investment of about US$1
billion. Slated to open in 2019, the facility is expected to produce up to
200,000 units per year in conjunction with the currently established
Tijuana plant.

The rationale behind Toyota’s greenfield investment is to improve

competitiveness in North America – specifically within the United
States. The low labor cost and the close proximity to US markets
offered the Japanese automaker an attractive opportunity to establish
an overseas manufacturing facility.

Types of Foreign Direct Investment

By now you know what FDI is. Let us now study its main types:

Horizontal direct investment: Here, the organization establishes and

runs the same business type in the foreign nation as it does in its home
nation. For example, A UK computer products provider purchasing a
chain of computer products stores in France.

Vertical investment: Here, an organization, in another nation,

purchases a complementary business organization. For example, a UK
furniture manufacturer acquiring an interest in a foreign organization
that provides it with wooden material.

Conglomerate investment: Here, an organization invests in a foreign

organization which has no resemblance to its core operations. Usually,
this happens as a joint venture since the home organization lacks
experience.
Examples of Foreign Direct Investments

Foreign direct investment examples can be:

Mergers
Acquisitions
Partnerships
The partnerships in FDI can be in various sectors such as follows:

Retail
Services
Logistics
Manufacturing

All these forms allow an organization to pursue a multinational strategy

for international growth.

Advantages of FDI
The advantages of foreign direct investment can be enumerated as
follows:
Best practices: It brings technology to developing nations. Besides, it
brings the most efficient management ideas to the business that is the
recipient. Also, the recipient organization's employees learn innovative
ways of accomplishing goals prevalent internationally. Consequently,
the lifestyle of the workers in recipient organizations enhances.

High Standard of Living: Due to FDI, the living standard of the entire
developing nation increases. This is possible as the recipient
organization receives a significant amount of money due to foreign
financing. Consequently, it pays a higher amount of taxes. This in turn
benefits the people of the developing nation.

Establishing stable long-term lending: A major benefit of FDI is that it

removes the volatile effect of hot money. Hot money refers to a capital
whose transferring takes place frequently with the aim of maximizing
capital gain. Due to this, the entire nation can be ruined. With foreign
direct investment, this problem is effectively tackled.

Disadvantages of FDI
Danger to comparative advantage: Foreign direct investment is not
appropriate for major industries that are strategic to a nation. In case a
nation allows foreign ownership in such industries, it could lose its
comparative advantage.

There may be no real value: The aim of many organizations with FDI is
to seek the maximum value out of the foreign business while adding no
real value in return. For example, these foreigners could sell off less
profitable organisational aspects to inferior non-worthy investors.

Most investors lack high ethical standards: In order to seek access to a

foreign market, investors go for immoral ways. For example, they can
find lower-cost local loans by making use of the organization’s
collateral. Now, they may lend these funds to the parent organization
rather than reinvest.

What kind of reserves does FDI help maintain?

Foreign direct investment facilitates the maintenance of stable and
secure foreign exchange reserve levels. This way, the promotion of
long-term lending takes place in the following markets:

Bond market
Currency market
Equity markets

What is meant by conglomerate foreign direct investment?

In conglomerate foreign direct investment, a certain amount of money
is invested in a foreign business by an organisation. In many cases, that
business is the one that is related to the type of business of the
organisation. Sometimes, the investing organisation may invest in a
new type of business with which it has no prior experience. A joint
venture is formed in this way.
What is meant by greenfield FDI?
A greenfield FDI investment is a type where a subsidiary is created by a
parent organisation other than the home country. This way, an
organisation builds its operations from the basic foundation in the new
country.

What is brownfield investment?

A brownfield investment is one where a certain sum is invested by an
organisation in an existing facility for initiating business processes in a
foreign nation. We can look at this type of investment as a lease or
purchase of a facility that already exists in a foreign nation.

What has been the effect of the Covid pandemic on foreign direct
investment?
Due to the Covid pandemic, FDI all over the world was significantly
reduced. This can be clearly understood by taking a look at the United
Nations Conference on Trade and Development data. According to his
data, foreign investment dropped from $1.5 trillion in 2019 to $859
billion in 2020 globally.