Foreign direct investment or an FDI is an investment that is made by an organization or an individual into businesses that are located in a different country. It is an investment in a business that is set up and running in a country different from where the investor resides. FDI is when the organization owns a participation in the shares of a minimum ten percent of a foreign company. It is important for every economy and helps push the economy towards growth.
Benefits of FDI
There are several benefits of FDI for the recipient country.
- High economic growth: An obvious advantage of FDI is the creation of jobs. It helps with the development of the nation and offers employment to skilled and unskilled youth. Employment generation leads to an increase in income and enhances the buying power of population.
- Development of the country: FDI can benefit a developing nation. It helps transform the backward areas in any country and helps in industrial development.
- Improvement in technology: With a new business unit entering the country, there is an introduction of new technology. Investors bring the latest financing technology, tools and operational practices from their country. It will lead to better processes and high results in the local economy.
- Rise in exports: All goods produced through FDI are not meant for domestic consumption and many are exported in the global market. It boosts the exports for a country.
- Builds a competitive market: With the entry of foreign businesses into the domestic marketplace, there is a creation of competitive environment. It helps break the monopoly in the domestic market. This enhances the process and product offering by fostering innovation. Even the consumers get a wide range of products to choose from.
There are different ways in which a foreign direct investment is done. The most prominent can be divided into two categories- Brownfield investment and Greenfield investment. Any individual or organization looking to invest in the business of another country should understand how the business should be built up so as to generate revenue in the foreign country. Additionally, investors need to consider the most profitable methods of FDI.
Brownfield investment occurs when a foreign business does not take the effort of building up something right from the scratch. So what they do is expand their business through merger and acquisition. It gives them an interest in another company and allows them to start their business without building anything from the scratch. Brownfield investment helps companies choose profitable industries and businesses. It saves on the time, effort and money. The real job here is to find the companies or industries to invest in.
A lot of companies believe that they should begin right from the scratch. When they are interested in FDI, they build up their manufacturing unit in a different country, they train people to work with them and they provide products and services to the country. They start from the establishment of the business to growing it over a long period of time.
Types of Foreign Direct Investment
1. Horizontal foreign direct investment
A very common type of investment, in this case, one company merges with another company in a different country. This type of FDI helps get a stronger hold in the market and the products or services offered are homogenous in nature. It helps get a high market share in a different country and reduces competition.
2. Vertical foreign direct investment
If a company of one country merges or acquires the company of a different country only to add higher value to the value chain, it is known as vertical FDI. This happens when a company invests in another company only to have a supplier of raw materials for them, it is known as a vertical FDI.
3. Inward foreign direct investment
In case of an inward FDI, the investment is made in the local resources of the country.
4. Outward foreign direct investment
An outward FDI is an investment made which is thoroughly backed by the Government.
5. Conglomerate foreign direct investment
In this type of FDI, the business acquires a completely unrelated business in a different country. It rarely happens because the business has to overcome barrier of entry to a country and the new industry. It can turn into a success if the business has a strong visibility and customer base in the country of operation.
6. Platform foreign direct investment
Whenever a business expands into a foreign country but the output from the operations is exported to the third country, it is known as a platform FDI. It is commonly known as an export platform FDI. It usually happens in low cost countries inside the free trade areas.
These are the 6 types of foreign direct investments that take place across the world.