FDI Vs FPI

Foreign Direct Investment
(FDI) and Foreign Portfolio

Investment (FPI)
Soumendra Roy
Modes of International
Business
The hierarchy of modes of Int’l Business from the least
amount to risk to the greatest is as follows:
 Int’l Trade (Import & Export)
 License/Franchise Agreements
 Joint Ventures
 Foreign Direct Investment
 Foreign Portfolio Investment
kanchan.kandel399@gmail.com
Franchising Licensing
Governed by: Securities law Contract law

Registration: Required Not required
Territorial Offered to franchisee Not offered; licensee can sell
rights: similar licenses and products
in same area
Support and Provided by franchiser Not provided

training:
Royalty Yes Yes

payments:
Use of Logo and trademark retained Can be licensed
trademark/log by franchiser and used
o: by franchisee
Examples: McDonalds, Subway, 7-11, Microsoft Office

Dunkin Donuts
control: Franchiser exercise control licensor does not have control

overfranchisee. over licensee
Licensing
It is an arrangement in which a firm (the licensor) grants

legal permission to another firm or individual (the
licensee) to use specified components of its production
or marketing process for a limited period of time.
The licensed components may include patents,

copyrights, trademarks, technology, managerial skills
and so forth. The licensee then produces and markets a
product in the foreign country similar or different to one
the licensor produces and markets at home.
Franchising
It is an arrangement in which a firm (the franchisor)

grants a package of support services to another firm or
individual (the franchisee) to undertake production
and/or marketing in a specified location. Franchise
contracts usually cover more aspects of the foreign
operation and have a longer duration than the licensing
contracts.
The package may include product input supplies,

production equipment, ongoing management assistance,
advertising and promotional materials, strategic planning
and so on. Franchising may also involve some financing,
particularly in the early stages of developing the foreign
business.
Cont..
 Under both licensing and franchising agreements, the
licensee/franchisee compensates the
licensor/franchisor with royalties and fees.
Joint Venture
Partial commitment for capital investment

supplemented by remaining commitment for capital
investment by another form for a business project.
Merger & Acquisitions
 Horizontal M & A: In this, two or more firms engaged in
similar activities join hands. For example, if two firms
manufacturing automobiles merge, it will be called horizontal
merger. It helps create economies of scale because the size of
the firm becomes larger to reap such gains.
 Vertical M & A: This occurs among firms involved in different

stages of the production of a single final product. Thus, if an
oil exploration firm and a refinery unit merge, it will be called
a vertical merger. It reduces cost of transportation and of
communicating and coordinating production.
 Conglomerate M & A: It involves two or more firms in

unrelated activities.
Foreign Direct Investment (FDI)
It involves the establishment of new production facilities
in foreign countries . Through FDI, a company becomes
multinational.
FDI could be a greenfield investment i.e., building brand

new production facilities or brownfield investment i.e.,
purchasing existing building and other assets.
Reasons for Foreign
Investment
 Trade Barriers
 Imperfect labor market
 Intangible Assets
 Vertical integration
 Product life cycle
 Shareholder diversification
kanchan.kandel399@gmail.com services
Trade Barriers
• Government may impose tariffs, quotas, embargo and
other restrictions on export and imports goods and
services hindering the free flow of these products across
national boundaries.
 Classic example for trade barrier motivated FDI is
Honda’s investment in Ohio. Since the cars produced in
Ohio would not be subject to US tariffs and quotas,
Honda could circumvent these barriers by establishing
production facilities in the United States.
Imperfect Labor Market
• Labor services in a country can be severely

underpriced relative to its productivity because
workers are not allowed to freely move across
boundaries to seek higher wages. Among all factor
markets, the labor market is the most imperfect.
• When workers are not mobile because of

immigration barriers, firms themselves should move
to the workers in order to benefit from the
underpriced labor services. This is one the main
reasons MNCs are making FDIs in less developed
countries such as Mexico, China, India and
Southeast Asian countries.
Intangible Assets
• MNCs may undertake investment projects in a foreign country,
despite the fact that local firms may enjoy inherent advantages.
This implies that MNCs should have significant advantages over
local firms. Examples are: technological, managerial, and
marketing know how, superior R&D capabilities, and brand
names.
• Coca-Cola has invested in bottling plans all over the world

rather than say, licensing local firms to produce Coke. The
reason is it wanted to protect the formula for its famed soft
drink. If Coca-Cola licenses a local firm to produce Coke, it has
no guarantee that the secrets of the formula will be maintained.
Product Life Cycle
 FDI takes place when a product reaches maturity and

cost becomes an important consideration. FDI can thus
be interpreted as a defensive move to maintain the firm’s
competitive position against its domestic and foreign
rivals.
 Personal computers ( PCs) were first developed by US
firms ( such as IBM and Apple Computer) and exported
to overseas markets. As PC’s became a standardized
commodity, however, the US became a net importer of
PCs from foreign producers based in such countries as
Japan, Korea and Taiwan as well as foreign subsidiaries
of US firms.
Shareholder Diversification Services
• If investors cannot diversify their portfolio holdings
internationally because of barriers to cross-border
capital flows, firms may be able to provide their
shareholders with indirect diversification services by
making direct investments in foreign countries.
Global FDI Market
• During the five year period during 1997-2001, total
annual worldwide FDI flows amounted to about USD
830 billion on average. The United States is the largest
recipient, as well as initiator, of FDI. Besides USA,
France, Germany, the Netherlands and UK are the
leading sources of FDI outflows, whereas the UK,
China, France, Germany and the Netherlands are the
major destinations for FDI in the five year period.
FDI in Nepal
• History of foreign investment in Nepal began from
the establishment of Biratnagar Jute Mill in 1936.
• Post-1990, market liberalization has played a vital

role in attracting foreign investment.
• But the trend, unfortunately could not continue, as

the post-1990 governments did not realize that the
free market economy could not survive only on
political foundation. Without social foundation, it
became meaningless.
Total FDI inflows
FDI inflows (US$ million) 1990-1995 1996-2000 2001-2005 2006-2010 2009 2010
Afghanistan -0.01 571.81 566.38 1041.65 185.00 75.65
Bangladesh 125.85 4608.81 2338.69 4158.61 700.16 913.30
Bhutan 2.25 18.93 17.18 138.28 14.68 11.69
India 4220.69 43360.95 28827.96 148512.08 35648.78 24639.92
Maldives 41.57 249.65 182.86 565.43 112.34 163.82
Nepal 8.16 89.80 31.70 77.89 38.56 38.99
Pakistan 2591.56 7556.31 5059.00 19655.00 2338.00 2016.00
Sri Lanka 658.88 2191.96 1102.01 2717.20 404.00 477.60
Total FDI inflows
FDI inflows (US$ billion) 1990-1995 1996-2000 2001-2005 2006-2010 2009 2010
World 1349.12 7825.63 3750.82 7605.60 1185.03 1243.67
Developing economies 423.78 2214.48 1199.64 2744.64 510.58 573.57
South Asia 7.53 72.40 51.56 188.43 42.46 31.95
Least developed countries (LDCs) 8.40 79.49 56.34 132.93 26.54 26.39
Landlocked developing countries 7.81 65.02 42.29 102.30 26.19 23.02
All data are sourced from the latest UNTCAD’s World Investment Report 2011. Here is a WIR’s FDI profile of Nepal
Nepal’s Prospect in tapping FDI
The FDI potential in Nepal can be segregated into three

types:
 FDI potential in short term
 FDI potential in medium term
 FDI potential in long term
Cont…
• FDI Potential in short term
 Tourism
 Export Manufacturing under Trade Preferences
• FDI Potential in medium term

 Hydropower for the Indian and domestic market
 Agro based industries
 Privatization of PSUs
• FDI Potential in long term

 Regional services
Tourism
• Nepal have plenty of area to attract tourist like
mountain, one horn rhino, culture and tradition.
• Low expenditure also attract tourist.

To increase FDI in Tourism following step should need
 Removal of the ban on overseas tour operators’ and

travel agencies ownership of operations in Nepal
 Formulation of a tourism development certificate &

incentive
 Structuring of tourism development zones
Export Manufacturing under trade
preferences
 In backdrop of Nepal’s trade treaty with India, there is

potential for international investors to invest in Nepal
keeping in view the opportunities to export the products
to India.
Hydropower
• Nepal has a huge potential of hydro power that comes to
about 83,000 MW out of which 43,000 MW is
economically viable.
• Until now, Nepal has not been able to exploit much of its
potentiality and the people in Nepal still face severe
power shortages.
• In order to harness and develop hydropower, private

sectors were involved to carry out small and medium
sized hydro power projects.
• Similarly the government is encouraging private foreign

investment in this sector.
FDI Potential in Agro-based industries
 Nepal has potential for producing vegetable and flower
seeds. It also has an ideal climate for cut flowers,
strawberries, mushrooms and other crops.
FDI Potential in Regional
Services
• Nepal has the opportunity in the long run to be an
offshore services centre for regional countries,
especially India.
• These services could include offshore financial

services for Indian residents and location of basic
business and professional and back-office services
focused on regional markets.
• Nepal's core attributes are a temperate climate,

low wage costs, a smaller and more accessible
bureaucracy, and an attractive expatriate lifestyle.
Strength
 Location between the two potentially largest markets in
the world: China and India
 Trainable and low-cost workforce
 Substantial natural and cultural assets
 Small and accessible bureaucracy and a generally
business-friendly Government
 Macroeconomic stability and a relatively liberal economy
Weakness
• Lack of direct access to airports
• Poor ground transportation
• Lack of skilled labor and technological expertise
• Inadequate power
• Inadequate water supply
• Few local raw materials
• Non-transparent and arbitrary tax administration
• Inadequate and obscure commercial legislation
• Rigid and intrusive labor legislation
• Political instability and weak implementation
Opportunities
 Tourism, including sports and adventure tourism, health
tourism and cultural tourism
 A variety of niche agricultural and agro-business activities
 Hydropower generation and infrastructure development

generally
 IT-based services
Threats
 Land lock country
 Natural infrastructure
 Giant neighbor countries
Foreign portfolio Investment
(FPI)
• A grouping of investment assets that focuses on
securities from foreign markets rather than
domestic ones.
• An international portfolio is designed to give the

investor exposure to growth in emerging and
international markets and provide
diversification.
Benefit of FPI
 Increases the liquidity of domestic capital markets, and
can help develop market efficiency as well
 Researching new or emerging investment opportunities
 Development of equity markets and the shareholders’
voice in corporate governance.
 Introducing more sophisticated instruments and
technology for managing portfolios
FDI FPI
Involveme Involved in management and No active involvement in management.
nt - direct ownership control; long-term interest Investment instruments that are more easily
or traded less permanent and do not represent a
indirect: controlling stake in an enterprise.
Sell off: It is more difficult to sell off or pull It is fairly easy to sell securities and pull out
out. because they are liquid.
Comes Tends to be undertaken by Comes from more diverse sources e.g. a small
from: Multinational organizations company's pension fund or through mutual
funds held by individuals; investment via
equity instruments (stocks) or debt (bonds) of
a foreign enterprise.
What is Involves the transfer of non-financial Only investment of financial assets.

invested: assets e.g. technology and intellectual
capital, in addition to financial assets.
Stands Foreign Direct Investment Foreign Portfolio Investment

for:
Volatility: Having smaller in net inflows Having larger net inflows
Managem Projects are efficiently managed

kanchan.kandel399@gmail.com Projects are less efficiently managed
ent:
Risks Foreign Investment vs. Domestic
Investment
Investment in foreign companies carry some additional risks when
compared to domestic investment. These risks stem from the
uncertainties related to the conversion of the realization proceeds
into the domestic currency which can be broadly classified under
Country risk as follows:
• Country Risk
 Political risk (Risk of host government interference)
 Governance risk (The ability to exercise effective control over the

foreign affiliate within the country’s legal environment)
 Transfer risk (The ability to move capital freely and efficiently in and
out of the host country)
 Foreign Exchange Risk (The value of the local currency cash flows
generated and remitted to the parent in parent currency terms.)


FDI Vs FPI

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FDI Vs FPI

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Foreign Direct Investment

(FDI) and Foreign Portfolio

Governed by: Securities law Contract law

Support and Provided by franchiser Not provided

Royalty Yes Yes

Examples: McDonalds, Subway, 7-11, Microsoft Office

control: Franchiser exercise control licensor does not have control

It is an arrangement in which a firm (the licensor) grants

The licensed components may include patents,

It is an arrangement in which a firm (the franchisor)

The package may include product input supplies,

Partial commitment for capital investment

 Vertical M & A: This occurs among firms involved in different

 Conglomerate M & A: It involves two or more firms in

FDI could be a greenfield investment i.e., building brand

 Imperfect labor market

 Product life cycle

• Labor services in a country can be severely

• When workers are not mobile because of

• Coca-Cola has invested in bottling plans all over the world

 FDI takes place when a product reaches maturity and

• Post-1990, market liberalization has played a vital

• But the trend, unfortunately could not continue, as

Afghanistan -0.01 571.81 566.38 1041.65 185.00 75.65

Bangladesh 125.85 4608.81 2338.69 4158.61 700.16 913.30

Bhutan 2.25 18.93 17.18 138.28 14.68 11.69

India 4220.69 43360.95 28827.96 148512.08 35648.78 24639.92

Maldives 41.57 249.65 182.86 565.43 112.34 163.82

Nepal 8.16 89.80 31.70 77.89 38.56 38.99

Pakistan 2591.56 7556.31 5059.00 19655.00 2338.00 2016.00

Sri Lanka 658.88 2191.96 1102.01 2717.20 404.00 477.60

Total FDI inflows

World 1349.12 7825.63 3750.82 7605.60 1185.03 1243.67

Developing economies 423.78 2214.48 1199.64 2744.64 510.58 573.57

South Asia 7.53 72.40 51.56 188.43 42.46 31.95

Landlocked developing countries 7.81 65.02 42.29 102.30 26.19 23.02

The FDI potential in Nepal can be segregated into three

 FDI potential in medium term

 FDI potential in long term

 Export Manufacturing under Trade Preferences

• FDI Potential in medium term

 Agro based industries

• FDI Potential in long term

• Low expenditure also attract tourist.

 Removal of the ban on overseas tour operators’ and

 Formulation of a tourism development certificate &

 Structuring of tourism development zones

 In backdrop of Nepal’s trade treaty with India, there is

• In order to harness and develop hydropower, private

• Similarly the government is encouraging private foreign

• These services could include offshore financial

• Nepal's core attributes are a temperate climate,

• Poor ground transportation

• Lack of skilled labor and technological expertise

• Inadequate water supply

• Few local raw materials

• Non-transparent and arbitrary tax administration

• Inadequate and obscure commercial legislation

• Rigid and intrusive labor legislation

• Political instability and weak implementation

 A variety of niche agricultural and agro-business activities

 Hydropower generation and infrastructure development

 Giant neighbor countries