FOSTIIMA BUISNESS SCHOOLREPORT ON FOEIGN DIRECT INVESTMENTSaket Kumar, MBA SECOND YEAR. ROLL NO : PGP091149SUBMITTED TO: N.R VAID<br />INDEX<br />S.NoTOPICPAGE NO1.What is Foreign Direct Investment3.2.Types of FDI43.METHODS OF FOREIGN DIRECT INVESTMENT74.Foreign direct investment incentives75.ENTRY MODE86.Policy127.Determinants of FDI168.Advantage & Disadvantage of FDI179.Why India Gets Limited FDI1810.Conclusion20<br />What is Foreign Direct Investment?<br />Foreign direct investment (FDI) refers to long term participation by country A into country B. It usually involves participation in management, joint-venture, transfer of technology and expertise. There are three types of FDI: inward foreign direct investment and outward foreign direct investment, resulting in a net FDI inflow (positive or negative) and "
stock of foreign direct investment"
, which is the cumulative number for a given period. Direct investment excludes investment through purchase of shares.<br /> It is the policy of the Government of India to attract and promote productive FDI from nonresidents in activities which significantly contribute to industrialization and socio-economic development. FDI supplements the domestic capital and technology.<br />India has one of the most transparent and liberal FDI regimes among the emerging and developing economies. By FDI regime we mean those restrictions that apply to foreign nationals and entities but not to Indian nationals and Indian owned entities. The differential treatment is limited to a few entry rules, spelling out the proportion of equity that the foreign entrant can hold in an Indian (registered) company or business.<br />Foreign direct investment (FDI) has become an integral part of national development strategies for almost all the countries globally. Its global popularity and positive output in augmenting of domestic capital, productivity and employment; has made it an indispensable tool for initiating economic growth for nations.<br />India is evolving as one of the ‘most favored destination’ for FDI in Asia and the Pacific (APAC). It has displaced US as the second-most favored destination for foreign direct investment (FDI) in the world after China according to an AT Kearney's FDI Confidence Index. FDI in India has contributed effectively to the overall growth of the economy in the recent times. FDI inflow has an impact on India's transfer of new technology and innovative ideas; improving infrastructure, a competitive business environment.<br />.<br />BY DIRECTION<br />Inward FDI<br />Here, investment of foreign capital occurs in local resources. The factors propelling the growth of Inward FDI comprises tax breaks, relaxation of existent regulations, loans on low rates of interest and specific grants. The idea behind this is that, the long run gains from such a funding far outweighs the disadvantage of the income loss incurred in the short run. Flow of Inward FDI may face restrictions from factors like restraint on ownership and disparity in the performance standard.<br />Outward FDI<br />Foreign direct investment, which is outward, is also referred to as “direct investment abroad”. In this case it is the local capital, which is being invested in some foreign resource. Outward FDI may also find use in the import and export dealings with a foreign country. Outward FDI flourishes under government backed insurance at risk coverage. <br />BY TARGET<br />Greenfield FDI<br />Greenfield investments involve the flow of FDI for either building up of new production capacities in the host nation or for expansion of the existent production facilities of the host country. The plus points of this come in form of increased employment opportunities, relatively high wages, R&D activities and capacity enhancement.<br />The flip side comes in the form of declining market share for the domestic firm and repatriation of profits made to a foreign country, which if retained within the country of origin could have led <br />To considerable capital accumulation for the nation.<br />Horizontal FDI <br />Horizontal FDI is an investment made by a multinational company in different nations. The investment is made for conducting the similar business operations as already operated by the company. For example, if a soft drink manufacturing company makes its plant outside its national borders then it is horizontal FDI. Horizontal FDI results in expansion of the parent company and brings FDI in the other economy.<br />Vertical FDI<br />There are two types of vertical direct investment. The first type of foreign investment is called foreign vertical direct investment which invests in the industry of foreign country. Historically most backward vertical foreign direct investment has been in extractive industries like oil extraction, bauxite mining, tin mining and copper mining. The objective has been to provide inputs into a firm's downstream operations for example oil refining, aluminum smelting and fabrication. Firms such as Royal Dutch/Shell, British Petroleum, RTZ and Alcoa are among the classic examples. The second type of the foreign direct investment included forward vertical foreign direct investment in which an industry abroad sells the outputs of a firm's domestic production process. Forward vertical foreign direct investment is less common than backward vertical foreign direct investment. For example when Volkswagen entered the United States market it acquired a large number of dealers rather than distribute its cars through independent United States dealers. <br />METHODS OF FOREIGN DIRECT INVESTMENT<br />The foreign direct investor may acquire 10% or more of the voting power of an enterprise in an economy through any of the following methods:<br />by incorporating a wholly owned subsidiary or company<br />by acquiring shares in an associated enterprise<br />through a merger or an acquisition of an unrelated enterprise<br />participating in an equity joint venture with another investor or enterprise<br />Foreign direct investment incentives may take the following forms:<br />low corporate tax and income tax rates<br />tax holidays<br />other types of tax concessions<br />preferential tariffs<br />special economic zones<br />EPZ - Export Processing Zones<br />Bonded Warehouses<br />investment financial subsidies<br />soft loan or loan guarantees<br />free land or land subsidies<br />relocation & expatriation subsidies<br />job training & employment subsidies<br />infrastructure subsidies<br />R&D support<br />derogation from regulations (usually for very large projects)<br />ENTRY MODE<br />A foreign company planning to set up business operations in India has the following options:<br />1) As an Indian Company<br />A foreign company can commence operations in India by incorporating a company under the Companies Act, 1956 through<br />Joint Ventures; or<br />Wholly Owned Subsidiaries<br />Foreign equity in such Indian companies can be up to 100% depending on the requirements of the investor, subject to equity caps in respect of the area of activities under the Foreign Direct Investment (FDI) policy. Details of the FDI policy, sectoral equity caps & procedures can be obtained from Department of Industrial Policy & Promotion, Government of India.<br />Joint Venture with an Indian Partner<br />Foreign Companies can set up their operations in India by forging strategic alliances with Indian partners.<br />Joint Venture may entail the following advantages for a foreign investor:<br />Established distribution/ marketing set up of the Indian partner<br />Available financial resource of the Indian partners<br />Established contacts of the Indian partners which help smoothen the process of setting up of operations<br />Wholly Owned Subsidiary Company<br />Foreign companies can also to set up wholly owned subsidiary in sectors where 100% foreign direct investment is permitted under the FDI policy.<br />Incorporation of Company<br />For registration and incorporation, an application has to be filed with Registrar of Companies (ROC). Once a company has been duly registered and incorporated as an Indian company, it is subject to Indian laws and regulations as applicable to other domestic Indian companies.<br />2) As a Foreign Company<br />Foreign Companies can set up their operations in India through<br />Liaison Office/Representative Office <br />Project Office <br />Branch Office<br />Such offices can undertake any permitted activities. Companies have to register themselves with Registrar of Companies (ROC) within 30 days of setting up a place of business in India.<br />Liaison office/ Representative office<br />Liaison office acts as a channel of communication between the principal place of business or head office and entities in India. Liaison office cannot undertake any commercial activity directly or indirectly and cannot, therefore, earn any income in India. Its role is limited to collecting information about possible market opportunities and providing information about the company and its products to prospective Indian customers. It can promote export/import from/to India and also facilitate technical/financial collaboration between parent company and companies in India.<br />The approval for establishing a liaison office in India is granted by the Reserve Bank of India (RBI).<br />Project Office<br />Foreign Companies planning to execute specific projects in India can set up temporary project/site offices in India. RBI has now granted general permission to foreign entities to establish Project Offices subject to specified conditions. Such offices cannot undertake or carry on any activity other than the activity relating and incidental to execution of the project. Project Offices may remit outside India the surplus of the project on its completion, general permission for which has been granted by the RBI.<br />Branch Office<br />Foreign companies engaged in manufacturing and trading activities abroad are allowed to set up Branch Offices in India for the following purposes:<br />Export/Import of goods<br />Rendering professional or consultancy services<br />Carrying out research work, in which the parent company is engaged.<br />Promoting technical or financial collaborations between Indian companies and parent or overseas group company.<br />Representing the parent company in India and acting as buying/selling agents in India.<br />Rendering services in Information Technology and development of software in India.<br />Rendering technical support to the products supplied by the parent/ group companies.<br />Foreign Airline/shipping Company.<br />A branch office is not allowed to carry out manufacturing activities on its own but is permitted to subcontract these to an Indian manufacturer. Branch Offices established with the approval of RBI may remit outside India profit of the branch, net of applicable Indian taxes and subject to RBI guidelines Permission for setting up branch offices is granted by the Reserve Bank of India (RBI). Branch Office on "
Stand Alone Basis"
<br />Such Branch Offices would be isolated and restricted to the Special Economic zone (SEZ) alone and no business activity/transaction will be allowed outside the SEZs in India, which include branches/subsidiaries of its parent office in India. No approval shall be necessary from RBI for a company to establish a branch/unit in SEZs to undertake manufacturing and service activities subject to specified conditions.<br /> Policy <br />FDI up to 100% is allowed under the automatic route in all activities/sectors except the following which will require approval of the Government: <br />• Activities/items that require an Industrial License; <br />• Proposals in which the foreign collaborator has a previous/existing venture/tie up in India in the same. Prior Government approval for new proposals would be required only in cases where the foreign investor has an existing joint venture, technology transfer, trade mark agreement in the same field. With the amendment of the Press Note 18, joint ventures formed with foreign investment before December 12, 2004 would be considered as “existing JVs” which will fall under the ambit of Press Note 18. The foreign partner in such JV has to obtain a No Objection Certificate (NOC) from the Indian partner for starting new venture in India in the “same” field of activity. <br />• All proposals relating to acquisition of shares in an existing Indian company by a foreign/NRI investor. <br />• All proposals falling outside notified sectoral policy/caps or under sectors in which FDI is not permitted. <br />FDI policy is reviewed on an ongoing basis and measures for its further liberalization are taken. Change in sectoral policy/sectoral equity cap is notified from time to time through Press Notes by the Secretariat for Industrial Assistance (SIA) in the Department of Industrial Policy & Promotion. Policy announcement by SIA are subsequently notified by RBI under FEMA. <br />Automatic Route <br />FDI Policy permits FDI up to 100 % from foreign/NRI investor without prior approval in most of the sectors including the services sector under automatic route. FDI in sectors/activities under automatic route does not require any prior approval either by the Government or the RBI. The investors are required to notify the Regional office concerned of RBI of receipt of inward remittances within 30 days of such receipt and will have to file the required documents with that office within 30 days after issue of shares to foreign investors. <br />The present Automatic Route allows Indian companies engaged in all industries except for certain select industries/sectors to issue shares to foreign investors up to 100% of their paid up capital in Indian companies. There are also some areas where though Automatic Route is available, foreign investors cannot invest beyond a certain percentage of the paid up capital of the Indian companies or where investment is subject to some other conditions. <br />Foreign investors have to, however, keep in mind that they may invest freely under the Automatic Route described above but where such investment does not conform to policies of Government of India, a specific approval from Government must be sought. For example, there are Government guidelines on location of industrial units, or there are certain items like explosives or liquor that need an industrial license. <br />Government approval route <br />All activities which are not covered under the automatic route, prior Government approval for FDI/NRI shall be necessary. Areas/sectors/activities hitherto not open to FDI/NRI investment shall continue to be so unless otherwise decided and notified by Government. <br />An investor can make an application for prior Government approval even when the proposed activity is under the automatic route. <br />Proposals requiring Govt’s Approval <br />Application for proposals requiring prior Govt’s approval should be submitted to FIPB in FC-IL form. Plain paper applications carrying all relevant details are also accepted. No fee is payable. The following information should form part of the proposals submitted to FIPB: - <br />(a) Whether the applicant has had or has any previous/existing financial/technical collaboration or trade mark agreement in India in the same or allied field for which approval has been sought; and <br />(b) If so, details thereof and the justification for proposing the new venture/technical collaboration (including trade marks). <br />(c) Applications can also be submitted with Indian Missions abroad who will forward them to the Department of Economic Affairs for further processing. <br />(d) Foreign investment proposals received in the DEA are placed before the Foreign Investment Promotion Board (FIPB) within 15 days of receipt. The decision of the Government in all cases is usually conveyed by the DEA within 30 days. <br />FDI Prohibited <br />FDI is not permissible in the following cases <br />i. Gambling and Betting, or <br />ii. Lottery Business, or <br />iii. Business of chit fund <br />iv. Nidhi Company <br />v. Housing and Real Estate business (to a certain extent has been opened. For details please see note on Construction) <br />vi. Trading in Transferable Development Rights (TDRs) <br />vii. Retail Trading (discussions are being held to open this area-B2B and Cash & Carry are permitted) <br />viii. Atomic Energy <br />ix. Agricultural or plantation activities or Agriculture (excluding Floriculture, Horticulture, Development of Seeds, Animal Husbandry, Pisiculture and Cultivation of Vegetables, Mushrooms etc. under controlled conditions and services related to agro and allied sectors) and Plantations(other than Tea plantations) <br />Determinants of Foreign Direct Investment<br />One of the most important determinants of foreign direct investment is the size as well as the growth prospects of the economy of the country where the foreign direct investment is being made.<br />It is normally assumed that if the country has a big market, it can grow quickly from an economic point of view and it is concluded that the investors would be able to make the most of theory investment in that country.<br /> The population of a country plays an important role in attracting foreign direct investors to a country. In such cases the investors are lured by the prospects of a huge customer base.<br />If the country has a high per capita income or if the citizens have reasonably good spending capabilities then it would offer the foreign direct investors with the scope of excellent performances. <br />The status of the human resources in a country also helps in attracting direct investment from overseas. <br />If a country has plenty of natural resources it always finds investors willing to put their money in them.<br />Inexpensive labour force is also an important determinant of attracting foreign direct investment.<br />Infrastructural factors like the status of telecommunication and railways play an important role in having the foreign direct investors come into a particular country.<br />Advantage of FDI<br />Causes a flow of money into the economy which stimulates economic activity <br />
Employment will increase
long run aggregate supply will shift outwards
Aggregate demand will also shift outwards as investment is a component of aggregate demand
It may give domestic producers an incentive to become more efficient
The government of the country experiencing increasing levels of FDI will have a greater voice at international summits as their country will have more stakeholders in it.
Disadvantages of FDI<br />
FDI has adverse effects on competition.
FDI will be make the host country lost the control over domestic policy.
Certain foreign policies are adopted that are not appreciated by the workers of the recipient country
Another disadvantage of foreign direct investment is that there is a chance that a company may lose out on its ownership to an overseas company.
Local market is affected badly
If there is a lot of FDI into one industry e.g. the automotive industry then a country can become too dependent on it and it may turn into a risk that is why countries like the Czech Republic are "seeking to attract high value-added Problems of Foreign Capital or why .Too services such as research and development (e.g.) biotechnology)"
Why India Gets Limited FDI<br />Image and Attitude: There is a perception among investors that foreign businesses are still treated with suspicion and distrust in India.<br />Domestic Policy: While the FDI policy is quite straightforward and getting increasingly liberalized for most sectors, once an investor establishes his presence, “national” treatment means that this investor is subject to domestic regulations, which are perceived as being excessive.<br />Procedures. Although approval for investment is given quite readily, actual setting up requires a long series of further approvals from central, state and local authorities. This introduces substantial implementation lags.<br /> Quality of infrastructure. Foreign investors are concerned about a number of problems with the infrastructure sector – in particular, electricity and transport. Irregular and undependable supply complicates problems for foreign investors.<br />State government level obstacles. This issue is tied up with one of the most pressing agenda items for reform. At the level of actual investment the practices of state (and often lower levels) governments become important. There is widespread agreement among most observers that state government practices in issues such as land records, utility (power, water etc.) connections, providing clearances of various sorts may make an important difference in the time it takes to get a plant up and running. Differences in state practices in such matters partly explain the disproportionate flow of FDI to some states in the peninsular region of India. In addition, there are some fiscal barriers to unimpeded flow of goods and services within the country, although the level of such barriers has come down in recent times.<br />Delays in legal process. Despite a highly structured legal system, dispute settlement and contract enforcement are time consuming activities in India. Such apprehensions deter the rapid flow of foreign investment. <br />Conclusion <br />FDI provides India with stability in inflow of funds, access to international markets, export growth, transfer of technology and skills and improves balance of payments. <br />More FDI does not necessarily guarantee high growth rates. The relative emphasis must shift from a broad (scatter shot) approach to one of targeting specific companies in specific sectors. Socially responsible FDI should be encouraged through the development of national and international investment guidelines and regulations. <br />FDI is beneficial to India’s growth and India’s growth is beneficial for FDI. India needs to create a talent pool suitable for the investors and it needs to develop infrastructure that will encourage the investors. These steps taken by India to bring FDI will also help India to grow on its own. FDI if monitored and nurtured in such a way that it will bring more skills and resources to India will be mutually beneficial.<br />