Types of foreign direct investment every investor should know

What is Foreign Direct Investment?

Simply put, foreign direct investment is an investment from one country to another by an individual or business. Foreign direct investment can be any form of investment involving starting a new business or making an investment in an existing foreign-owned business.

When investing in the assets of foreign enterprises, the definition is slightly different. The IMF defines a foreign direct investment as one in which the investor buys more than 10% of the firm. Vice versa, if an investor buys less than 10% is categorized as a "stock portfolio". This amount of stock is too small to influence any level of control of the firm.

Foreign investment is what keeps the whole show going

What are the 3 types of foreign direct investment?

1. Horizontal foreign direct investment

Horizontal foreign direct investment occurs when a company retains management of an operation while creating a direct or indirect equity position in it. The term "horizontal foreign direct investment" refers to investments made through mergers and acquisitions (M&A), international partnerships, joint ventures, franchising, and agreements between commercial entities. Foreign market expansion frequently involves horizontal foreign direct investment. The business can decide to buy another business in order to obtain access to its technology, clientele, distribution networks, or other assets.

2. Vertical foreign direct investment

Investments made through vertical foreign direct investment occur inside the supply chain rather than directly in the same sector. In other words, a company invests in a foreign company that it may sell to or supply.

For instance, US chocolate maker Hersheys may consider investing in Brazilian cocoa growers. Due to the fact that the company is acquiring a supplier or potential supplier in the supply chain, this is referred to as backwards vertical integration.

Moreover, forward vertical integration refers to the practice of a corporation investing in a foreign business that is further down the supply chain. For instance, Hershey's may consider buying stock in Alibaba, the online marketplace where it distributes its goods.

3. Conglomerate foreign direct investment

Conglomerate foreign direct investment refers to investments made in entirely unrelated industries. In other words, it has no direct connection to the investor's place of business. For instance, the American retailer Walmart may buy stock in the German automaker BMW.

Advantages of foreign direct investment

Advantages of foreign direct investment

Economic development stimulation - foreign direct investment may promote the growth of the economy of a target nation, improve the business climate, attract investors, and boost the local economy.

Easy international trade - Trading may be challenging because most nations have their own import tariffs. To guarantee sales and goals are reached, several economic sectors often need to be present in the global markets. All of these features of global commerce are significantly facilitated by foreign direct investment.

Employment and economic boost - As investors establish new businesses abroad, foreign direct investment generates additional possibilities and more employment. Locals may earn more money and have more purchasing power as a result, which will help the targeted economies grow more broadly.

Tax incentives - No matter what industry tochoose to operate in, foreign investors are eligible for tax benefits that are quite advantageous.

Development of resources - One key benefit of foreign direct investment is the growth of human capital resources. The workforce's increased skill set contributes to a nation's overall improvement in human capital and education. Countries that receive foreign direct investment gain from the development of their human resources while keeping ownership.

Resource transfer - Resource transfers and exchanges of knowledge, technology, and skills are made possible through foreign direct investment.

Reduced costs - The difference between revenues and costs can be lessened via foreign direct investment. By doing this, nations will be able to guarantee that production costs will be the same and that products may be marketed more easily.

Increased productivity - A workforce's productivity in the target nation can be raised by the facilities and equipment given by foreign investors.

Increase in a country’s income - The national income often rises with more employment and greater pay, which fosters economic growth. Large firms frequently offer salaries that are greater than those found in the target nation, which might result in an increase in income.