Abstract
Foreign investment is becoming more and more common. Millions of investors directly or indirectly invest in foreign markets these days. However, the process of investing in an asset in a foreign market is more complex than that of investing in the domestic market. That is why a stepwise screening process is important to select the potential markets and sites. The standard steps recommended by most of the investment manager investing in foreign markets include the identification of basic appeal, assessment of the business environment, measurement of the potential of the market and selection of site based on financial analysis.
Introduction
Flows of capital from one country to another to get significant ownership of assets or firms can be termed as foreign investment. In general, foreign investment can be divided into two broad categories; foreign direct and foreign indirect investment. Foreign direct investment is an investment into a business or production by a company or an individual of another country for the purpose of buying that company or expanding an existing operation. Foreign indirect investment is the investment made to the securities like stocks and bonds of another country. This type of investment is also known as portfolio investment. In general, foreign investment means foreign direct investment. Foreign investment has gone up tremendously in the developing countries in the last two decades. In fact, the overall cross border capital flow has gone up tremendously in this era of globalization. It has forced the governments to come up with regulations on foreign direct investment. This essay will discuss briefly about the foreign investment regulations, issues that management should consider while choosing potential investment markets and steps of screening process for choosing a foreign investment market.
What is the Purpose of Foreign Investment Regulations?
Foreign investment regulations involve a set of rules for cross-border investments. There are two main purposes for regulations. First and foremost, a country creates a regulatory framework to make it easy and friendly for businesses to invest in that country. The regulations are made in a way to encourage foreign direct investment in most of the cases. Secondly, the country also wants to provide the domestic players with some protection against the global investors to nurture in house growth (Rotten, 2013). The basic purpose of the regulation is to encourage a holistic economic growth by inviting foreign investment in a structured way.
What are the Foreign Investment Regulations?
Foreign investment regulations vary from country to country. There are varied laws and regulations on foreign investment in different countries. It is difficult to discuss all of the regulations. However, we can broadly categorize the regulations in certain groups. The first set of regulations on foreign investment deals with technological development and local productivity. A country is willing to accept capital inflow in a sector where huge technological improvement is possible and improvement of productivity is also expected from the investment (Rotten, 2013). In such cases the investing company will benefit from investing in a company or establishing a company and generating profit. The receiving economy will benefit from improved productivity, tax earnings and overall economic growth in that sector. For example, the oil and gas sector in Nigeria lacks productivity and world class technology. It can create regulations to attract foreign investors in this sector which will improve the overall performance of the sector as well as the overall economy of Nigeria. Most of the countries also create regulations keeping in mind the local players. For example, In India, FDI in retail can only be done in partnership with a local firm, and the maximum investment limit is 49% in a company (Rotten, 2013). This way India safeguards the interests of the local companies. Foreign investment regulations also try to minimize the foreign direct investment to protect sectors and economic areas which are either already developed or still in a highly regulated state. For example, in Brazil, the educational sector is fully protected by the government of Brazil. It does not encourage foreign investment in educational sector as it wants to keep the cost of education relatively low by providing education mostly through government institutions. The primary objective is to provide education for all at low cost rather than very high quality education at high cost. In future, it may open up the market though.
Issues while Screening Potential Markets
There are several issues while screening potential markets. However, from the perspective of managers, there are two main issues they frequently face. Firstly, all the companies or management want to keep the cost of the search as low as possible. The management of a company does not want to spend too much money in the screening process. Secondly, the management also wants to screen all the possible markets and locations while trying to keep the cost down (Rotten, 2013). Ideally, the management wants to screen all the locations and markets where investment is possible but that will make the cost go high. The main challenge is to strike a balance between cost and screening of the markets.
Screening Potential Markets and Sites
Screening of markets and sites is a four step process. The four major steps of the process include 1) Identify basic appeal, 2) Assess the country business environment, 2) Measure market potential and 4) Select the market (Gould, 2002).
The management should first recognize if there is a basic demand for a product or service in the country concerned. What is important in determining the appeal is to understand the climate of the country (Gould, 2002). For example, investing in ice fishing huts in Puerto Rico or investing in snowboards in Sri Lanka will be an absolute disaster as those countries never get snow. Furthermore, the management needs to see if there is any ban imposed on certain goods. For example, import of alcohol in Saudi Arabia is banned. Because of religious reasons, beef is prohibited to the Hindus of India. Another major factor in recognizing the basic appeal is to understand the availability of resources. Resources mean that companies should see if labor and raw material are available. In some cases, it is necessary to check if low cost financing is available in the local market. If a market or site passes the basic criterion of demands, then only step two should be followed.
In step two, markets are assessed for congenial business environment. The first thing considered is the cultural forces that are present in the market. If the cultural forces are very similar to that of the investing company’s country then it is good. If the cultural beliefs, traditions, religion and customs are vastly different, then more research is required to understand the need of changes in product features, packaging and so on (Gould, 2002). There may be some products like soft drinks which do not require any change globally, but products like ready-to-eat meals, magazines and so on require changes. Apart from cultural forces, political and legal forces of the market should also be considered. Government regulation and bureaucracy are extremely important (Gould, 2002). In some of the developing countries, setting up and running a business may be costly but because of political corruption the investing entity may need to spend a lot of money just to keep the government bureaucrats in line with the expectations. Political stability is also an important factor. For example, a glass giant made a huge investment in Venezuela to set up a glass manufacturing plant but the country saw a political instability in 2010. After the government was overturned, the military took over the plant. The glass company lost all its control and investment in Venezuela. Analyzing the economic and financial policies of the country is also important.
In step three of the analysis, market potential is analyzed. Parameters like barriers to trade, GDP growth rate and future outlook of the market are considered. As global market access increases, more and more investors are showing interest in investing in the developing countries (Gould, 2002). Countries like China, Brazil and India are favorite destinations of many international investors. While doing the analysis, parameters like production volumes, volume of export and import, structure of retail distribution network, total expenditure on the product and retail sales volume should be considered. This will provide insight into the potential benefit from the investment and how the product will do in the new market.
Finally, among the selected countries a financial cash flow analysis is done to see what the returns are on investment (Gould, 2002). Field trips by the management to the potential sites are important to understand and verify the actual facts gathered by the management from other indirect sources. Competitor analysis at this point is extremely essential so see which of the potential sites has less competition and more opportunities. Investing managers also should be doing an analysis on the strengths of their products versus competitors.
Conclusion
Foreign investment is becoming more and more common with every passing year. As more and more organizations seek to invest abroad, it is important that they understand the market where they are going to risk their money. There are many steps of validation the management could follow before taking an investment decision. Evaluating the basic demand situation, assessing the business environment, evaluating the market potential and finally selecting the final site through financial viability analysis are the best known screening steps followed by most of the investment managers.
References
Rotten, Vanessa (2013). Analyzing International Opportunities. Queensland University of Technology. Retrieved on 31st January 2014 from <http://aabclnu.com/%E8%B5%84%E6%96%99/200909/1252/Chapter13(422-453).pdf>
Gould, R (2002). International Market Selection-Screening Techniques. RMIT. Retrieved on 31st January 2014 from <researchbank.rmit.edu.au/eserv/rmit:9572/Gould.pdf>
Lobo, Ramiro (2008). A Market-Driven Enterprise Screening Guide. Retrieved on 31st January 2014 from <http://ag.arizona.edu/arec/wemc/nichemarkets/03marketdrivenenterprise.pdf>
SBA (2013). Export Business Planner. Retrieved on 31st January 2014 from <http://www.sba.gov/sites/default/files/SBA%20Export%20Business%20Planner.pdf>
