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Lecture5

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Lecture5

  1. 1. 7/19/2015 1 Foreign Direct Investment and Regional Integration DY Chhunsong Lecture 5 1 Fundamentals of Global Business Management 2 What Is Foreign Direct Investment (FDI)? The purchase of physical assets or a significant amount of ownership (stock) of a company in another country to gain a measure of management control. Portfolio Investment: Investment that does not involve obtaining a degree of control in a company.
  2. 2. 7/19/2015 2 Fundamentals of Global Business Management 3 Why Does FDI Exist? International Product Life Cycle: A company will begin by exporting its product and later undertake foreign direct investment as the product moves through its life cycle. International Product Life Cycle has 3 stages which include New Product Stage, Maturing Product Stage, and Standardized Product Stage (link the stage to the concept of the theory). Fundamentals of Global Business Management 4 Why Does FDI Exist (1)? Market Imperfections: When an imperfection in the market makes a transaction less efficient, a firm will undertake FDI to improve the transaction. A market that operates at lowest prices as possible and where goods are readily and easily available is said to be perfect. But it is rarely seen due to Trade Barriers (tariffs) and Specialized Knowledge (sharing specialty can create future competitors).
  3. 3. 7/19/2015 3 Fundamentals of Global Business Management 5 Why Does FDI Exist (2)? Eclectic Theory: Firms undertake FDI when features of a particular location (natural resources, productive workforce..) combine with ownership benefits to make a location appealing for investment. Fundamentals of Global Business Management 6 Why Does FDI Exist (3)? Market Power: A firm tries to establish a dominant market presence in an industry by undertaking foreign direct investment. The benefit of market power is greater profit as the firm is far better able to dictate the cost of its inputs and/or the price of its output.
  4. 4. 7/19/2015 4 Fundamentals of Global Business Management 7 Management Issues in the FDI Decision Control: Companies investing abroad are concerned with controlling the activities that occur in the local market they invest. A company may want its products to be marketed and the selling prices remain the same as it does at home. It also wants to have full ownership of the local operations. Hence, many local governments do not allow full ownership for any foreign company. Fundamentals of Global Business Management 8 Management Issues in the FDI Decision (1) Purchase-or-Build Decision: Should the company purchase an existing business or run a new one abroad (Greenfield investment). Purchasing an existing business may provide the company some benefits: plant and equipment, personnel, goodwill, brand recognition, and methods of financing the purchase. Building its subsidiary can help the company to avoid obsolete equipment, poor relations with workers, and an unsuitable location.
  5. 5. 7/19/2015 5 Fundamentals of Global Business Management 9 Management Issues in the FDI Decision (2) Production Costs: Many factors that affect the cost of production in any market such as labor cost and regulations, knowledge and skills, cost of land and building, cost of raw materials, power supply, and the tax rate. If those factors are too costly, a company would not consider investing in that local market. Fundamentals of Global Business Management 10 Management Issues in the FDI Decision (3) Customer Knowledge: The behavior of local buyers is an important issue in the decision of whether to undertake FDI. Without real knowledge about customer’s behavior, a company may find it hard to tailor its products accordingly.
  6. 6. 7/19/2015 6 Fundamentals of Global Business Management 11 Management Issues in the FDI Decision (4) Following Clients: Where are the clients? By undertaking FDI, can a company stay closer to its clients? Following Rivals: Where are the rivals? If a company does not follow its rivals it may lose that market share. By undertaking FDI, can a company compete with its rivals? Fundamentals of Global Business Management 12 Reasons for Intervention by the Host Country in FDI Flows Balance-of-Payments: Governments see intervention as the only way to keep their balance of payments (records all payments to entities of other nations and receipts) under control. Obtain Resources and Benefits: Governments intervene in FDI flows just to acquire resources and benefits such as technology, management skills, and employment.
  7. 7. 7/19/2015 7 Fundamentals of Global Business Management 13 Reasons for Intervention by the Home Country in FDI Flows • Investing in other nations sends resources out of the home country. Thus, less resources are available at home. • Outgoing of FDI may ultimately damage a nation’s balance of payments by taking the place of its exports. • Job resulting from outgoing investments may replace jobs at home. Fundamentals of Global Business Management 14 Government Policy Instruments and FDI FDI Promotion FDI Restriction Host Countries Tax incentives Low-interest loans Infrastructure improvements Ownership restrictions Performance demands Home Countries Insurance Loans Tax breaks Political pressure Differential tax rates Sanctions
  8. 8. 7/19/2015 8 Fundamentals of Global Business Management 15 What Is Regional Economic Integration? Process whereby countries in a geographic region cooperate with one another to reduce or eliminate barriers to the international flow of products, people, or capital. Fundamentals of Global Business Management 16 Levels of Regional Integration Political Union Economic Union Common Union Customs Union Free-Trade Area
  9. 9. 7/19/2015 9 Fundamentals of Global Business Management 17 Levels of Regional Integration (1) Free-Trade Area: Economic integration whereby countries seek to remove all barriers to trade between themselves, but each country determines its own barriers against nonmembers. Customs Union: Economic integration whereby countries remove all barriers to trade between themselves, but erect a common trade policy against nonmembers. Fundamentals of Global Business Management 18 Levels of Regional Integration (2) Common Market: Economic integration whereby countries remove all barriers to trade and the movement of labor and capital between themselves, and erect a common policy against nonmembers. Economic Union: Economic integration whereby countries remove all barriers to trade and the movement of labor and capital between themselves, erect a common policy against nonmembers, and coordinate their economic policies. Political Union: Economic and political integration whereby count- ries coordinate aspects of their economic and political systems.
  10. 10. 7/19/2015 10 Fundamentals of Global Business Management 19 Benefits of Regional Integration Trade Creation: Increase in the level of trade between nations that results from regional economic integration. Greater Consensus: Regional economic integration has fewer members than WTO and that it is easier to gain consensus. Political Cooperation: When nations integrate together, they can gain political weight comparing to each of them alone (coalition). Employment Opportunities: Allow people to move from one nation to another to look for job. Fundamentals of Global Business Management 20 Drawbacks of Regional Integration Trade Diversion: Diversion of trade away from nations not belonging to a trading bloc (others cannot compete). Shifts in Employment: Lower-labor-wage nations will get more jobs while higher-labor-wage nations will lose jobs. Loss of National Sovereignty: Successful levels of integration require that nations surrender more of their national sovereignty.
  11. 11. 7/19/2015 11 Fundamentals of Global Business Management 21 Blocs of Economic Integration European Union (EU), European Free Trade Agreement (EFTA), North American Free Trade Agreement (NAFTA), Andean Community (Andean), Latin American Integration Association (ALADI), Southern Common Market (MERCOSUR), Caribbean Community and Common Market (CARICOM), Central American Common Market (CACM), Free Trade Area of the Americas (FTAA), and many others.. Check page 235 for more..

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