Foreign Direct Investment
What is Foreign Direct Investment (FDI)?
Foreign direct investment (FDI) is an investment made by a firm or individual in one country
into business interests located in another country. Generally, FDI takes place when an investor
establishes foreign business operations or acquires foreign business assets, including establishing
ownership or controlling interest in a foreign company. Foreign direct investments are
distinguished from portfolio investments in which an investor merely purchases equities of
foreign-based companies.
Breaking Down Foreign Direct Investment
Foreign direct investments are commonly made in open economies that offer a skilled workforce
and above-average growth prospects for the investor, as opposed to tightly regulated economies.
Foreign direct investment frequently involves more than just a capital investment. It may include
provisions of management or technology as well. The key feature of foreign direct investment is
that it establishes either effective control of, or at least substantial influence over, the decision-
making of a foreign business.
The Bureau of Economic Analysis (BEA), which tracks expenditures by foreign direct investors
into U.S. businesses, reported total FDI into U.S. businesses of $259.7 billion in 2017, marking a
32% decrease from the prior year. As per usual, acquisitions made up the overwhelming majority
of new foreign direct investments into the U.S., totaling $253.2 billion. Meanwhile, greenfield
investments, a type of FDI defined by the BEA as investments to either establish a new business
or to expand an existing foreign-owned business, comprised a much lighter $6.5 billion.
Methods of Foreign Direct Investment
Foreign direct investments can be made in a variety of ways, including the opening of a
subsidiary or associate company in a foreign country, acquiring a controlling interest in an
existing foreign company, or by means of a merger or joint venture with a foreign company.
The threshold for a foreign direct investment that establishes a controlling interest, per guidelines
established by the Organisation of Economic Co-operation and Development (OECD), is a
minimum 10% ownership stake in a foreign-based company. However, that definition is flexible,
as there are instances where effective controlling interest in a firm can be established with less
than 10% of the company's voting shares.
Types of Foreign Direct Investment
Foreign direct investments are commonly categorized as being horizontal, vertical or
conglomerate. A horizontal direct investment refers to the investor establishing the same type of
business operation in a foreign country as it operates in its home country, for example, a cell
phone provider based in the United States opening stores in China. A vertical investment is one
in which different but related business activities from the investor's main business are established
or acquired in a foreign country, such as when a manufacturing company acquires an interest in a
foreign company that supplies parts or raw materials required for the manufacturing company to
make its products.
A conglomerate type of foreign direct investment is one where a company or individual makes a
foreign investment in a business that is unrelated to its existing business in its home country.
Since this type of investment involves entering an industry in which the investor has no previous
experience, it often takes the form of a joint venture with a foreign company already operating in
the industry.
Impact of Foreign Direct Investments
Foreign direct investments and the laws governing them can be pivotal to a company's growth
strategy. In 2017, for example, U.S.-based Apple announced a $507.1 million investment to
boost its research and development work in China, Apple's third-largest market behind the
Americas and Europe. The announced investment relayed CEO Tim Cook's bullishness toward
the Chinese market despite a 12% year-over-year decline in Apple's Greater China revenue in the
quarter preceding the announcement. China's economy has been fueled by an influx of FDI
targeting the nation's high-tech manufacturing and services, which according to China's Ministry
of Commerce, grew 11.1% and 20.4% year over year, respectively, in the first half of 2017.
Meanwhile, relaxed FDI regulation in India now allows 100% foreign direct investment in
single-brand retail without government approval. The regulatory decision reportedly facilitates
Apple's desire to open a physical store in the Indian market, where the firm's iPhones have thus
far only been available through third-party physical and online retailers.
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Direct Investment
What is Direct Investment?
Direct investment, more commonly referred to as foreign direct investment (FDI), refers to an
investment in a foreign business enterprise designed to acquire a controlling interest in this
enterprise. Direct investment provides capital funding in exchange for an equity interest without
the purchase of regular shares of a company's stock.
Breaking Down Direct Investment
The purpose of a foreign direct investment (FDI) is to gain an equity interest sufficient to provide
control of a company. In some instances, it involves a company in one country opening its own
business operations in another country, while in other cases it involves acquiring control of
existing assets of a business already operating in the foreign country. A direct investment can
involve gaining a majority interest in a company or a minority interest large enough to provide
the investor with effective control of the company.
Direct investment is primarily distinguished from portfolio investment, the purchase of common
or preferred stock shares of a foreign company, and by the element of control that is sought.
Control can come from sources other than an investment of capital, though the control of such
things as technology are merely critical inputs. In fact, foreign direct investment is frequently not
a simple monetary transfer of ownership or controlling interest but also involves complementary
factors, such as organizational and management systems or technology.
Foreign direct investments can be made by individuals but are more commonly made by
companies wishing to establish a business presence in a foreign country.
Examples of Foreign Direct Investment
Foreign direct investment takes many forms in actual practice but is generally classified as either
a vertical, horizontal, or conglomerate investment.
A vertical direct investment is one where the investor adds foreign activities to an existing
business, such as in the case of an American auto manufacturer establishing dealerships or
acquiring a parts supply business in a foreign country.
Horizontal direct investment is perhaps the most common form. In horizontal investments, a
business already existing in one country merely establishes the same business operations in a
foreign country, such as in the case of a fast food franchise based in the United States opening
restaurant locations in China. Horizontal direct investment is also referred to as greenfield entry
into a foreign market.
The conglomerate type of direct investment, the least common form, is where an existing
company in one country adds an unrelated business operation in a foreign country. This is a
particularly challenging form of direct investment since it requires simultaneously establishing a
new business and establishing it in a foreign country. An example of conglomerate direct
investment might be an insurance firm opening a resort park in a foreign country.
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