Question Tag: Foreign Direct Investment (FDI)

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  • 10 Marks

AFM – May 2019 – L3 – Q1a – Economic environment for multinational organisations

Compare joint ventures and licensing for foreign expansion and explain five strategic reasons for a firm to engage in FDI.

“Oil-rich Ghana’s sovereign wealth fund Ghana Development Board (GDB) has already invested in a number of real estate and infrastructure projects around the world, including a $2.5 billion joint venture with Petro Nigeria Ltd and a scheme to create a carbon-neutral city in Ghana”.

Required:

i) Compare the use of joint ventures as opposed to licensing for GDB if it wishes to expand abroad and outline the advantages and disadvantages of both joint ventures and licensing. (5 marks)

ii) Explain FIVE (5) strategic reasons for Foreign Direct Investment (FDI), for a firm wishing to expand. (5 marks)

i) Comparison of Joint Ventures and Licensing

Joint Ventures
There are two distinct types of joint ventures: industrial co-operation (contractual) and joint-equity. A contractual joint venture is for a fixed period, and the duties and responsibilities of the parties are contractually defined. A joint-equity venture involves investment, is of no fixed duration, and continually evolves. Depending on government regulations, joint ventures may be the only means of access to a particular market.
(0.5 mark)

Licensing
Licensing is an alternative to FDI. It involves conferring rights to make use of the licensor company’s production process to producers located in the overseas market in return for royalty payments.
(0.5 mark)

Advantages of Joint Ventures

  • Relatively low-cost access to new markets
  • Easier access to local capital markets, possibly with accompanying tax incentives or grants
  • Use of the joint venture partner’s existing management expertise, local knowledge, distribution network, technology, brands, patents, and marketing or other skills
  • Sharing of risks
  • Sharing of costs, providing economies of scale

(2 points @ 0.5 marks = 1 mark)

Disadvantages of Joint Ventures

  • Managerial freedom may be restricted by the need to take account of the views of all the joint venture partners
  • There may be problems in agreeing on partners’ percentage ownership, transfer prices, reinvestment decisions, nationality of key personnel, remuneration, and sourcing of raw materials and components
  • Finding a reliable joint venture partner may take a long time
  • Joint ventures are difficult to value, particularly where one or more partners have made intangible contributions

(2 points @ 0.5 marks = 1 mark)

Advantages of Licensing

  • It can allow fairly rapid penetration of overseas markets
  • It does not require substantial financial resources
  • Political risks are reduced since the licensee is likely to be a local company
  • Licensing may be a possibility where direct investment is restricted or prevented by a country
  • For a multinational company, licensing agreements provide a way for funds to be remitted to the parent company in the form of license fees

(2 points @ 0.5 marks = 1 mark)

Disadvantages of Licensing

  • The arrangement may give the licensee know-how and technology, which it can use in competing with the licensor after the license agreement has expired
  • It may be more difficult to maintain quality standards, and lower quality might affect the standing of a brand name in international markets

(2 points @ 0.5 marks = 1 mark)

ii) Strategic Reasons for Foreign Direct Investment (FDI)

  1. Market Seeking
    Firms engage in FDI to meet local demand or as a way of exporting to other markets. For example, the manufacturing operations of US and Japanese car producers in Europe.
    (1 mark)
  2. Raw Material Seeking
    Firms in industries such as oil, mining, plantation, and forestry extract raw materials in locations where they are found, whether for export or further processing and sale in the host country.
    (1 mark)
  3. Production Efficiency Seeking
    Companies engage in FDI to take advantage of production efficiencies, such as cheap labor or other factors of production, like in Taiwan and Malaysia’s electronics industries.
    (1 mark)
  4. Knowledge Seeking
    Some firms seek FDI to gain access to technology or management expertise, as seen in the acquisition of US-based electronics companies by German, Japanese, and Dutch companies.
    (1 mark)
  5. Political Safety Seeking
    Firms may invest in countries perceived to offer political stability and protection from expropriation or interference with private enterprise.
    (1 mark)
  • 5 Marks

AFM – May 2016 – L3 – Q4b – International investment and financing decisions, Economic environment for multinational organizations

Describe five strategic reasons that might motivate a company to undertake foreign direct investment. —------------------------------------------------------------------ Question: b) At the last meeting of the Board of Directors of Greenwich Ghana Limited, the Board resolved to establish a manufacturing facility in Asia and Europe. Briefly describe FIVE strategic reasons that might have informed management's decision to undertake the Foreign Direct Investment (FDI). (5 marks) Answer: Strategic Reasons for Foreign Direct Investment (FDI) Access to New Markets By establishing a manufacturing facility in foreign countries, the company gains access to new markets, enabling it to expand its customer base and increase market share. This helps diversify the company’s revenue sources and reduces dependency on the domestic market. (1 mark) Cost Reduction Manufacturing in regions with lower production and labor costs can significantly reduce operational expenses. Asia and Europe might offer cost advantages such as cheaper raw materials, lower wages, or favorable tax policies, making FDI a cost-effective decision. (1 mark) Proximity to Resources Setting up operations closer to key resources (such as raw materials or skilled labor) reduces transportation costs and ensures a more efficient supply chain. This proximity can also lead to better quality control and faster production cycles. (1 mark) Government Incentives Many countries offer incentives such as tax holidays, grants, or subsidies to attract foreign investments. These incentives can lower the company’s overall costs and improve profitability, making FDI an attractive option. (1 mark) Strategic Positioning Against Competitors Establishing a presence in key international markets can be a defensive move to counter competitors who are already operating in those regions. By entering these markets, the company can strengthen its competitive position and ensure it does not lose out on potential opportunities. (1 mark) ========== Let me know if you'd like to proceed with the next part or have any further modifications! Describe five strategic reasons that might motivate a company to undertake foreign direct investment. —------------------------------------------------------------------ Question: b) At the last meeting of the Board of Directors of Greenwich Ghana Limited, the Board resolved to establish a manufacturing facility in Asia and Europe. Briefly describe FIVE strategic reasons that might have informed management's decision to undertake the Foreign Direct Investment (FDI). (5 marks) Answer: Strategic Reasons for Foreign Direct Investment (FDI) Access to New Markets By establishing a manufacturing facility in foreign countries, the company gains access to new markets, enabling it to expand its customer base and increase market share. This helps diversify the company’s revenue sources and reduces dependency on the domestic market. (1 mark) Cost Reduction Manufacturing in regions with lower production and labor costs can significantly reduce operational expenses. Asia and Europe might offer cost advantages such as cheaper raw materials, lower wages, or favorable tax policies, making FDI a cost-effective decision. (1 mark) Proximity to Resources Setting up operations closer to key resources (such as raw materials or skilled labor) reduces transportation costs and ensures a more efficient supply chain. This proximity can also lead to better quality control and faster production cycles. (1 mark) Government Incentives Many countries offer incentives such as tax holidays, grants, or subsidies to attract foreign investments. These incentives can lower the company’s overall costs and improve profitability, making FDI an attractive option. (1 mark) Strategic Positioning Against Competitors Establishing a presence in key international markets can be a defensive move to counter competitors who are already operating in those regions. By entering these markets, the company can strengthen its competitive position and ensure it does not lose out on potential opportunities. (1 mark) ========== Let me know if you'd like to proceed with the next part or have any further modifications! Describe five strategic reasons that might motivate a company to undertake foreign direct investment.

b) At the last meeting of the Board of Directors of Greenwich Ghana Limited, the Board resolved to establish a manufacturing facility in Asia and Europe. Briefly describe FIVE strategic reasons that might have informed management’s decision to undertake the Foreign Direct Investment (FDI). (5 marks)

Strategic Reasons for Foreign Direct Investment (FDI)

  1. Access to New Markets
    • By establishing a manufacturing facility in foreign countries, the company gains access to new markets, enabling it to expand its customer base and increase market share. This helps diversify the company’s revenue sources and reduces dependency on the domestic market.
      (1 mark)
  2. Cost Reduction
    • Manufacturing in regions with lower production and labor costs can significantly reduce operational expenses. Asia and Europe might offer cost advantages such as cheaper raw materials, lower wages, or favorable tax policies, making FDI a cost-effective decision.
      (1 mark)
  3. Proximity to Resources
    • Setting up operations closer to key resources (such as raw materials or skilled labor) reduces transportation costs and ensures a more efficient supply chain. This proximity can also lead to better quality control and faster production cycles.
      (1 mark)
  4. Government Incentives
    • Many countries offer incentives such as tax holidays, grants, or subsidies to attract foreign investments. These incentives can lower the company’s overall costs and improve profitability, making FDI an attractive option.
      (1 mark)
  5. Strategic Positioning Against Competitors
    • Establishing a presence in key international markets can be a defensive move to counter competitors who are already operating in those regions. By entering these markets, the company can strengthen its competitive position and ensure it does not lose out on potential opportunities.
      (1 mark)

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