© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Global Business 2e C ha p t e r 6 Investing Abroad Directly

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. LEARNING OBJECTIVES After studying this chapter, you should be able to: 1.Define the key terms associated with foreign direct investment (FDI). 2.Explain how FDI results in ownership, location, and internalization (OLI) advantages. 3.Identify ownership advantages associated with FDI. 4.List ways firms can acquire and neutralize location advantages. 5.Appreciate the benefits of internalization advantages. 6.Articulate the different political views on FDI based on an understanding of its benefits and costs to host and home countries. 7.Understand how multinational enterprises (MNEs) and host country governments bargain. 8.Participate in three leading debates on FDI. 9.Draw implications for action.

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. FDI VOCABULARY Foreign direct investment (FDI) Putting money in activities that control and manage value-added activities in other countries Multinational enterprise (MNE) Firms that engage in FDI Foreign portfolio investment (FPI) Holding securities, such as stocks and bonds, of companies in countries outside one’s own but does not entail the active management of foreign assets Management control rights Authority to appoint key managers and establish control mechanisms

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. HORIZONTAL AND VERTICAL FDI Horizontal FDI Producing the same products or offering the same services in a host country as firms do at home Vertical FDI Firm moves upstream or downstream in different value chain stages in a host country through FDI

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UPSTREAM AND DOWNSTREAM VERTICAL FDI Upstream vertical FDI Using FDI in an earlier activity in the value chain Downstream vertical FDI Using FDI in an later activity in the value chain

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. FDI FLOW AND STOCK FDI flow Amount of FDI moving in a given period (usually a year) in a certain direction FDI inflow FDI moving into a country in a year FDI outflow FDI moving out of a country in a year FDI stock Total accumulation of inbound FDI in a country or outbound FDI from a country

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WHY FIRMS BECOME MNEs BY ENGAGING IN FDI OLI advantages Quest for ownership (O) advantages, location (L) advantages, and internalization (I) advantages Ownership MNEs’ possession and leveraging of certain valuable, rare, hard-to-imitate, and organizationally embedded (VRIO) assets overseas ? Can you name some OLI advantages for a familiar firm?

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OLI ADVANTAGES Location Features unique to a place, such as its natural or labor resources or its location near particular markets, that provide certain advantages to firms doing business there Internalization Replacement of cross-border markets (such as exporting and importing) with one firm (the MNE) locating and operating in two or more countries

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. OLI ADVANTAGES Licensing Selling technology or intellectual property for a fee Market imperfection (market failure) Imperfect rules governing international transactions

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FDI VS LICENSING Dissemination risk Possibility of unauthorized diffusion of firm-specific know-how

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. LOCATION Agglomeration Clustering of economic activities in certain locations Knowledge spillover Diffusion of knowledge from one firm to others among closely located firms that attempt to hire individuals from competitors

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Location advantages refer to the advantages one firm obtains when operating in a location due to its firm- specific capabilities LOCATION Oligopoly An industry dominated by a small number of players

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OVERCOMING MARKET FAILURE THROUGH FDI Intrafirm trade Transactions occur between two subsidiaries in two countries controlled by the same MNE

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. POLITICAL VIEWS ON FDI Radical view Treats FDI as an instrument of imperialism and a vehicle for exploiting domestic resources, industries, and people by foreign capitalists and firms Free market view Unrestricted by government Intervention FDI will enable countries to tap into their absolute or comparative advantages by specializing in the production of certain goods and services

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. POLITICAL VIEWS ON FDI Pragmatic nationalism Considering both the pros and cons of FDI and approving FDI only when its benefits outweigh its costs ? What is your opinion of FDI?

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BENEFITS AND COSTS OF FDI TO HOST COUNTRIES Technology spillover Domestic diffusion of foreign technical knowledge and processes Demonstration effect Local rivals, after observing foreign technology, may recognize its feasibility and strive to imitate Contagion (imitation) effect Local rivals, after observing foreign technology, may recognize its feasibility and strive to imitate

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. HOW MNEs AND HOST GOVERNMENTS BARGAIN Bargaining power Ability to extract favorable outcome from negotiations due to one party’s strengths

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HOW MNEs AND HOST GOVERNMENTS BARGAIN Obsolescing bargain Requirements of a deal previously struck between an MNE and a host government is changed after the initial FDI entry Expropriation Confiscating foreign assets Sunk cost Already invested sums

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. SOVEREIGN WEALTH FUNDS Sovereign wealth fund (SWF) State-owned investment fund composed of financial assets such as stocks, bonds, real estate, or other financial instruments funded by foreign exchange assets

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