Foreign Direct Investment: maximising shareholder wealth in multinational companies

FDI is the purchase of physical assets or a significant amount of the ownership (stock) of a company in another country to gain a measure of management control. As with all companies their aim is to increase shareholder wealth maximisation; and by saturating untapped or developing markets; where foreign governments have adjusted their policies to allow for FDI to take place, is an ideal investment opportunity.

China has been a magnet for FDI since the 1980’s, and has seen a huge rise in wages of 12% after adjusting for inflation over the past few years. But instead of FDI going elsewhere they have opted to go to China’s inland provinces. The shift inland has attracted the likes of Hewlett-Packard to the lower wage costs. China has managed to fight off competition due to its superior education levels in workers to that of other developing Countries like India and Indonesia. But in December it was reported in the Financial times that China’s economy was down for the first time in 28 months and that there was evidence of a growing economic slow down.

With this in mind, companies are looking for new areas to saturate and maximise share holder wealth as there are not many untapped retail markets left; and India with a population of 1.1billionn is a major source of future revenue growth. The Indian government now believes liberalisation of legislation regarding FDI will secure much needed investment into India’s farming sector and control continually high food inflation. Investment by Multinational companies will be capped at 51 per cent of any retailer; and the government will require foreign forms to commit a minimum of $100m of investment in the country. There would also be strict rules on acquiring their products from small to medium sized traders.

But with so many restrictions in place will it attract multinational companies to India? Carrefour, the French supermarket chain which has been in talks with the Indian government for over a year had warned that placing restrictions on local sourcing and requirement of minimum investment might affect viability of the projects. Other supermarkets which have jumped on the multinational band wagon are Walmart and Tesco’s, which may soon be allowed to open stores under stringent norms.

The legislation being set, in theory, helps the Indian economy and promotes employment opportunities. Marks and Spencer’s, started in India ten years ago as a up market chain as it was restricted by expensive imports, which had to be passed onto the customers. It has now successfully focused on the middle market, expending its network, cutting expensive imports and has started buying locally. This has allowed them to tailor their products to the local market. M&S first came to India in 2001and ran its stores as a franchise using a local Partner, Planet Retails which imported goods from the UK but this caused high duty costs. M&S are a perfect example of maximising shareholder wealth and increasing profits, through opening its doors to a larger market area by sourcing locally. It has also adapted to its environment, selling colourful clothing. Reaching out to its target audience as colour is an important factor in Indian Culture.

The concerns with FDI from multi brand firms are that local businesses in developing countries could be pushed out of business. Which when you look at the bigger picture just means that they may not be increasing employment but just replacing the jobs that were already there in the first place. But with the absence of adequate roads, airports, power and the world class telecommunication network can they afford not to allow FDI not to happen?


Source: Arnold, G. (2008), Corporate financial management'.
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