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Foreign direct investment


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Foreign direct investment

  1. 1. Foreign Direct Investment:- Foreign direct investment (FDI) or foreign investment refers to the net inflows ofinvestment to acquire a lasting management interest in an enterprise(long term) operating inan economy other than that of the investor. It is the sum of equity capital, other long-termcapital, and short-term capital as shown in the balance of payments. It usually involvesparticipation in management, joint-venture, transfer of technology, expertise, buildingfactories & infrastructure in the capital importing country. FDI excludes investment throughpurchase of shares.Forms of Foreign Direct Investment:- FDI can takes place broadly in three forms:- Greenfield Investment:- Greenfield investment can be made through opening of branch in a host country or through making investment in the equity capital of the host country firm. It is also known as financial collaboration. If the parent holds the entire equity of the host country firm, the later is called a wholly- owned subsidy of the parent. If it a more than half, it is known as subsidiary. Merger & Acquisitions:- Merger & Acquisition are either outright purchase of a running company abroad or an amalgamation with a running foreign company. While in the former, the acquiring company maintains its existence & the target company loses its existence; in the later, both lose their existence in favor of a new company. M&A are either horizontal or vertical or conglomerate. Horizontal M&A are found in cases where two or more firms engaged in similar line of activities combine. On the contrary, vertical M&A occurs among firms involved in different stages of production of a single final product. Brownfield Investment:- It is a combination of Greenfield investment & Merger & Acquisition. It exists when a company first goes for an international M&A & then makes huge investment for replacing plant & machinery in the target company.Types of Foreign Direct Investment:-  Inward Foreign Direct Investment:- The economy in which the investment is made(inflow).  Outward Foreign Direct Investment:- It refers to the transfer of capital from an host nation to another country(Outflow).
  2. 2. FDI may be done in the following ways:-  an individual  a group of related individuals  an incorporated or un incorporated company  a public company or private company  a group of related enterprises  a government bodyOrigination And Evolution of Foreign Direct Investment in India:- The origination of foreign companies started in India during the British rule, The EastIndia Company being the first company as such. Many more companies came into existenceduring that period which continued their operation after the Independence as well. During thetenure of Jawaharlal Nehru to Rajiv Gandhi government many MNCs came amongst whichsome has to face the anti – MNCs feeling of the Indian consumers. Driven by the Nehru’s desirefor a planned economy within a socialist climate (since 1951), rigorous regulation wereimplemented since 1991 in order to achieve self reliance, eradicate poverty, promote thedevelopment of indigenous technology & protect the local private sector & small firms. The foreign exchange crisis of 1980 – a consequence of the second oil shock – obligedIndira Gandhi’s government to seek a loan from the International Monetary Fund. Some ofthese loan conditions called for certain local reforms. De facto changes were announced, suchas the extension of the number of delicensed categories in the industrial area and theencouragement of joint ventures (such as Maruti Suzuki for instance, in 1984). After IndiraGandhi’s assassination, her son Rajiv Gandhi implemented new deregulation measures. Moreexport and import licenses were liberalized, credit facilities were encouraged and the tax policystreamlined. The first results of these reforms were positive: between 1980 and 1991, theaverage GDP growth reached 5.6% with 3.4% for the Primary sector, 7% for the Secondary and6.7% for the Tertiary. However, the improvement of the economic situation and the decline ofpoverty and self-sufficiency that were reached – thanks to the effect of the Green Revolution –only served to mask the limits of Indian growth and of its model of development. As a result ofthe isolationist policy, the trade deficit, which was below 1% of GDP in the 1960s, swiftlyincreased and led to a current account deficit of 9% in 1986-87. In 1988, India became thebiggest debtor in all Asia, with a total debt of nearly US$ 60 billon. Thus, the budgetary driftcould not be curbed by economic growth, and the impact of the new measures was notsufficient to correct these imbalances mainly because of low FDI levels, among other reasons.
  3. 3. The trade deficit in 1990 reached US$9.44 billion and the current account deficit wasUS$9.7 billion. With below US$1 billion of foreign exchange reserves, the first measures ofchange implemented in the 1980s became the credo of the new elected government ofNarasimha Rao. Led by his Finance Minister, Manmohan Singh (Prime Minister since 2004), theyagreed new policies. The first significant measure was the dismantling of the Licence Raj withthe exception of only six industries (tobacco, alcoholic beverages, industrial explosives,chemicals, drugs and pharmaceuticals, electronic, space and defense equipment). Additionally,the number of reserved items for the Small Scale Industries (SSI) was reduced. The secondmeasure linked to the Balance of Payment crisis was to improve the trade balance by a revisionof the exchange-rate policy. In 1991, the country still had a fixed exchange-rate system wherethe rupee was linked to a basket of its major trading partners’ currencies. Consequently, therupee was devalued by 20%. The last major set of measures concerned the custom tariffs.Tariffs were lowered from 150% before 1991 on average, to 30% in 1997. This newinternational orientation also allowed a move from an import substitution policy to exportpromotion, and gave foreign trading firms the opportunity to invest up to 49 or even 51% (andeven more depending on the sectors) in a joint venture. At the same time, the approval processbecame much simpler and more systematic.Sectors in which FDI is allowed in India:-Hotel & Tourism:- 100% FDI is permissible in the sector of Hotel & Tourism. The term hotels include restaurants, beach resorts, and other tourist complexes providingaccommodation and/or catering and food facilities to tourists. Tourism related industry includetravel agencies, tour operating agencies and tourist transport operating agencies, units providingfacilities for cultural, adventure and wild life experience to tourists, surface, air and watertransport facilities to tourists, leisure, entertainment, amusement, sports, and health units fortourists and Convention/Seminar units and organizations. Terms & Conditions  up to 3% of the capital cost of the project is proposed to be paid for technical and consultancy services including fees for architects, design, supervision, etc.  up to 3% of net turnover is payable for franchising and marketing/publicity support fee, and up to 10% of gross operating profit is payable for management fee, including incentive fee.
  4. 4. Non – Banking Financial Companies:- 49% FDI is allowed from all sources on the automatic route subject to guidelines issuedby RBI from time to time. The NBFC activities include:- Merchant Banking Underwriting Portfolio Management Services Investment Advisory Services Financial Consultancy Stock Broking Asset Management Venture Capital Custodial Services Factoring Credit Reference Agencies Credit Rating Agencies Leasing & Finance Housing Finance Foreign Exchange Brokering Credit Card Business Money Changing Business Micro Credit Rural Credit Terms & Conditions:- Minimum Capitalization Norms for fund based NBFCs:  For FDI up to 51% - US$ 0.5 million to be brought upfront.  For FDI above 51% and up to 75% - US $ 5 million to be brought upfront.  For FDI above 75% and up to 100% - US $ 50 million out of which US $ 7.5 million to be brought upfront and the balance in 24 months. Minimum capitalization norms for non-fund based activities:  Minimum capitalization norm of US $ 0.5 million is applicable in respect of all permitted non-fund based NBFCs with foreign investment.
  5. 5. Insurance Sector:- FDI up to 26% is allowed in insurance sector subject to obtaining license from InsuranceRegulatory & Development Authority.Telecommunication Sector:- In basic, cellular, value added service & global mobile personal communications bysatellite, FDI is limited to 49% subject to licensing and security requirements and adherence bythe companies. FDI up to 100% is allowed for the following activities in the telecom sector:- ISPs not providing gateways (both for satellite and submarine cables) Infrastructure Providers providing dark fiber. Electronic Mail and Voice Mail Terms & Conditions:-  FDI up to 100% is allowed subject to the condition that such companies would divest 26% of their equity in favor of Indian public in 5 years, if these companies are listed in other parts of the world.  The above services would be subject to licensing and security requirements, wherever required.Trading Sector:- Trading is permitted under automatic route with FDI up to 51% provided it is primarilyexport activities, and the undertaking is an export house/trading house/super trading house/startrading house. However, under the FIPB route. 100% FDI is permitted in case of trading companies for the following activities: exports; bulk imports with ex-port/ex-bonded warehouse sales; cash and carry wholesale trading; other import of goods or services provided at least 75% is for procurement and sale of goods and services among the companies of the same group and not for third party use or onward transfer/distribution/sales.
  6. 6. FDI up to 100% permitted for e-commerce activities subject to the condition that suchcompanies would divest 26% of their equity in favor of the Indian public in five years, if thesecompanies are listed in other parts of the world. Such companies would engage only in businessto business (B2B) e-commerce and not in retail trading.Power Sector:- Up to 100% FDI allowed in respect of projects relating to electricity generation,transmission and distribution, other than atomic reactor power plants. There is no limit on theproject cost and quantum of foreign direct investment.Drugs & Pharmaceutical Sector:- FDI up to 100% is permitted on the automatic route for manufacture of drugs andpharmaceutical, provided the activity does not attract compulsory licensing or involve use ofrecombinant DNA technology, and specific cell / tissue targeted formulations.FDI proposals for the manufacture of licensable drugs and pharmaceuticals and bulk drugsproduced by recombinant DNA technology, and specific cell / tissue targeted formulations willrequire prior Government approval.Roads, Highways, Ports & Harbors:- FDI up to 100% under automatic route is permitted in projects for construction andmaintenance of roads, highways, vehicular bridges, toll roads, vehicular tunnels, ports andharbors.Pollution Control & Management:- FDI up to 100% in both manufacture of pollution control equipment and consultancy forintegration of pollution control systems is permitted on the automatic route.
  7. 7. Call Centers in India:- FDI up to 100% is allowed subject to certain conditions.Business Process Outsourcing In India:- FDI up to 100% is allowed subject to certain conditions.FDI inflows during 2009 – 2010 (Billions of Dollars)
  8. 8. Balance of Payment position of India (2007 – 2011) (amount in billion) 5000 4279 4000 2833 3000 2440 2000 Current A/C 1000 290 Capital A/C 0 2007-08 2008-09 2009-10 2010-11 -1000 -635 -1276 -2000 -1797 -2101 -3000What is retailing?Retailing is a distribution channel function, where one organization buys products fromsupplying firms or manufactures produces themselves, and then sells these directly toconsumers.In majority of retail situations, the organization, from whom a consumer buys, is a reseller ofproducts obtained from others, and not the product manufacturer. However, somemanufacturers do operate their own retail outlets in a corporate channel arrangement.Retailers offer many benefits to suppliers and customers as resellers. Consumers, for instance,are able to purchase small quantities of an assortment of products at a reasonably affordableprice. Similarly, suppliers get an opportunity to reach their target market, build productdemand through retail promotions, and provide consumer feedback to the product marketer.An Overview Of The Indian Retail SectorThe origins of retailing in India can be traced back to the emergence of Kirana stores and mom-and-pop stores. These stores used to cater to the local people. Eventually the governmentsupported the rural retail and many indigenous franchise stores came up with the help of Khadi& Village Industries Commission. The economy began to open up in the 1980s resulting in thechange of retailing. The first few companies to come up with retail chains were in textile sector,
  9. 9. for example, Bombay Dyeing, S Kumars, Raymonds, etc. Later Titan launched retail showroomsin the organized retail sector. With the passage of time new entrants moved on frommanufacturing to pure retailing.Retail outlets such as Foodworld in FMCG, Planet M and Musicworld in Music, Crossword inbooks entered the market before 1995. Shopping malls emerged in the urban areas giving aworld-class experience to the customers. Eventually hypermarkets and supermarkets emerged.The evolution of the sector includes the continuous improvement in the supply chainmanagement, distribution channels, technology, back-end operations, etc. this would finally leadto more of consolidation, mergers and acquisitions and huge investments. Phases in the evolution of retail sector Weekly markets, Village & Rural melas (Source of entertainment & commercial exchange) Convenience Shops, Mom & Pop & Kirana shops (Rapid urbanization, easy availability, time constraint) PDS outlets, Khadi stores, co-operatives (Government supported, low cost availability & distribution) Exclusive brand outlets, hypermarkets & supermarkets, department stores & shopping malls (Modern format, organized under one roof)
  10. 10. Percentage of organized retail across the world as per Dec. 2010The Indian retail industry is divided into organized & unorganized sector. Organized retailingrefers to trading activities undertaken by licensed retailers, that is those who are registered forsales tax, income tax etc. These include the corporate backed hypermarkets & retail chains &also the privately owned large retail businesses. Unorganized retiling on the other hand, refersto traditional formats of low cost retailing, for example the local kirana shops, general stores,convenience stores etc.India’s retail sector is wearing new clothes with a compounded annual growth rate of 46.64% &is the fastest growing sector in the Indian economy. Traditional markets are making new wayfor new formats such as departmental stores, hypermarkets, supermarkets & specialty stores.Western style malls began increasing in metros & second – rung cities alike giving the consumera unparallel shopping experience.The last few years witnessed immense growth by this sector, the key drivers being changingconsumer profile & demographics, increase in the number of international brands available inthe Indian market, economic implication of the government increasing urbanization, creditavailability, improvement in the infrastructure, increasing investment in the technology & realestate building a world class shopping environment for the consumers. In order to keep pacewith the increasing demand, there has been a hectic activity in terms of entry of internationallabels, expansion plans & focus on technology, operations & processes.
  11. 11. Challenges in the Organized Retail Sector:- Changing Habit:- The behavior pattern of the Indian consumer has undergone a major change. This have happened for the Indian consumer is earning more now, western influences, women working force is increasing, desire for luxury items and better quality. One now wants to eat, shop, and get entertained under the same roof. All these have lead the Indian organized retail sector to give more in order to satisfy the Indian customer. Lack of Retail Space:- The biggest challenge facing the Indian organized retail sector is the lack of retail space. With real estate prices escalating due to increase in demand from the Indian organized retail sector, it is posing a challenge to its growth. With Indian retailers having to shell out more for retail space it is effecting there overall profitability in retail. Lack of Skilled Manpower:- Trained manpower shortage is a challenge facing the organized retail sector in India. The Indian retailers have difficultly in finding trained person and also have to pay more in order to retain them. This again brings down the Indian retailers profit levels. Cash Stripped:- Most of the Indian Retail majors such as Reliance, Future Group, Adani Group are facing the cash stripped situation and are under the burden of huge debt which decreases their operational efficiency. Parasitic Middlemen:- The middlemen are the connecting link between the original producer & the big retailers and are an important component in the supply chain. But, the middlemen are procuring goods from the producer by paying them lesser amount and thus acts as parasites. Lack of Infrastructure & Storage facility:- Lack of infrastructure & storage facility adds to lower productivity for the country. India is the largest producer of agricultural product and at the same time the largest wastages of food product is also made in India. Wastages does not mean that the agricultural products cannot be consumed, it is the dietary value that gets reduced.Main Proposals Of The Government FDI Push:-  Will Enable Walmart, Tesco & Carrefour to set up deep discount Stores in India  About half of the FDI should be made in back-hand infrastructure such as ware – housing.  The minimum FDI in any multi – brand retail project should be Rs. 450 crore.  State governments can prohibit FDI in retail if they wish to.  Stores can be set up in cities with a population of at least 1 million.
  12. 12.  At least one third of sales should be made to small retailers.  At least 30% of sales should be made to small retailers either directly or through wholesale units set up for this purpose.  State will be empowered to put conditions for integrating small retailers & kirana merchants in the value chain.  At least 30% of the value manufactured items procured should be sourced from small & medium enterprises.  States will be empowered to set up framework for monitoring compliance with these conditions.Protectionists Moves:-  The opposition feels that the Indian market will be flooded by Chinese product since multi – nationals like Wal-Mart buy from places where the goods are available at cheaper rate & India would end up producing a generations of sales girls & boys.  The farmer’s group pointed that since the big retailers have the bargaining power & would result in lower share of value to them, dictating of the production techniques and output by the larger retailers and destruction of diversity in Indian agriculture.  It can led to price manipulations & total lack of level playing field.  The small traders feel that they cannot withstand the competition from the MNCs since they can procure products at low cost & can sell them at a cheaper rate which the small traders cannot.  Wal-Mart has a disastrous impact on small shopkeepers & neighborhood communities in America and called Indians to learn from them and not to allow Wal-Mart to operate in India.Recommendations:-  Should strengthen the manufacturing sector in order to produce goods at cheaper cost which can force the big MNCs to procure goods from India.  Development of the small, micro & medium scale enterprise so as to provide them a level playing field in the international arena as well as increasing their bargaining power to a level of the big MNCs.  Development of the Export Promotion Councils so as to make our Current Account surplus because more the Capital Account Convertibility more it leads to loss of ownership.