Outward FDI from Brazil, Russia, India and China:
Is There a South – North Trend?
T.J. van der Velde
Rijksuniversiteit Groningen
Is There a South – North Trend?
Author: T.J. van der Velde
Mounedyk 8 8491 CC Akkrum +31 619786228
tjerk.vdvelde@chello.nl s1583425
First supervisor: drs. H.C. Stek
Second supervisor: dr. A.B. Kibriscikli-Ozcandarli
ABSTRACT
The focus of this research is on the outward FDI of Brazil, Russia, India and China. We investigate whether there is a trend of South – North FDI flows from these countries. This is done by investigating the target countries of BRIC outward FDI. Furthermore, we explain the differences in outcomes between the BRICs by investigating their comparative advantages and the target industries in which they have invested.
Key results: Despite the fact that there is clearly an increased commitment in developed countries, we could not find evidence of a South – North trend in all BRICs. The country that positively stands out is India. Companies from this country may be the ‘big threat’ for Western MNEs. This is caused by the type of comparative advantage of this country, which has proven to play an important role in the flow of FDI.
PREFACE
This master’s thesis is my final piece of work as an International Business & Management student at the Rijksuniversiteit Groningen. I have enjoyed to perform this research on the topic of developing countries and the entire research process has been a valuable learning experience. I have attempted to explore a relatively new phenomenon and I hope that the outcomes will suit the interests of the reader.
I hereby want to especially thank my first supervisor drs. H.C. Stek for his valuable comments and for slowing me down from time to time, in order to take a more careful look at my thesis. I would also like to thank my second supervisor dr. Kibriscikli – Ozcandarli for her feedback. Furthermore, I would like to thank my family and friends for their support and understanding during the period of writing this thesis.
LIST OF ABBREVIATIONS
BRIC Brazil, Russia, India and China
DCMNE Multinational enterprise from developing country
FDI Foreign direct investment
GDP Gross domestic product
ICB Industry classification benchmark
IDP Investment development path
IMF International Monetary Fund MNE Multinational enterprise M&A Merger and acquisition NIC Newly industrializing country
TABLE OF CONTENTS ABSTRACT………...2 PREFACE………...3 LIST OF ABBREVIATIONS………...4 1. INTRODUCTION……….7 2. RESEARCH DESIGN………11
2.1 Formulation of the Problem………...11
2.1.1 Problem Statement………...11
2.1.2 Research Objective………...13
2.1.3 Main Research Question………13
2.1.4 Method of Answering Research Question………..13
2.1.5 Demarcation………..15
2.2 Research Methodology………17
2.2.1 Type of Research………17
2.2.2 Methods of Data Collection and Analysis………..17
2.2.3 Limitations……….20
3. LITERATURE REVIEW………...21
3.1 FDI Theory and Comparative advantages………21
3.2 Competitive Advantages of Nations………...22
3.3 Investment Development Path………23
3.4 Developing Countries………..24
3.4.1 Comparative Advantages………...24
3.4.2 Outward Foreign Direct Investment………..25
4. RESULTS……….26
4.1 Target Countries………..27
1. INTRODUCTION
Foreign direct investment from developing countries is not a new phenomenon. Already in 1928, an Argentinean gasoline pump manufacturer established a subsidiary in Brazil, and around that period the company also set up manufacturing projects in Chile and Uruguay and commercial offices in New York and London (Wells, 1983). Nonetheless, despite a large amount of literature on the combination of FDI and developing countries, the vast majority of this research is on inward FDI from developed or industrialized1 countries into the developing countries of the world. For a long period of time, emerging markets2 have been primarily seen as host countries for FDI by Triad firms and the reaction on the notion that these countries could also penetrate the markets of developed countries was scepticism or utter disbelief (Kumar & McLeod, 1981).
Although there is no commonly accepted definition, a ‘developing country’, which have also been called ‘emerging markets’, ‘Third World countries’, or ‘Newly Industrializing countries’(NICs) are often defined based upon a set of features which these countries have in common. First, it are countries which fall in the classification of low to upper-middle per capita income, according to World Bank data. Besides this first feature, which covers a huge set of countries, the most important feature of a developing country is the state of transition which it is in. Transition is often described as moving from a closed to an open market economy. A developing country, is a country which is implementing economic reform programs which will lead to stronger and more responsible economic performance levels. A third key characteristic of an emerging market is the increase of both local and foreign investment. This growth in investment is a sign that a country’s developments and reforms have increased the confidence of investors. This will ultimately result in a rising employment level, labour and managerial skills will become more refined and a sharing and transfer of technology will occur. In the course of time this should result in lessening the gap between the advanced and the developing countries (Arnold & Quelch, 1998; Heakal, 2003).
Besides a stream of research from the 1970s till the mid 1980s, on the developing countries of that period, relatively little research has been performed on the topic of outward FDI from
1
The terms ‘advanced countries’, ‘developed countries’, and ‘industrialized countries’ are used interchangeably in this thesis.
developing countries. This is probably caused by the fact that FDI from emerging markets has always been just a tiny portion of total world wide FDI flows, but also the prejudice on the supremacy of the Triad countries may have caused this fact.
The above mentioned stream of research on FDI from developing economies has investigated these countries’ FDI flows and came to a number of conclusions in three different areas: the “how” of investment abroad; the “why” of investment abroad; and the “where” of investment abroad. For this thesis the latter area of research is most important. The outcomes of these investigations were that MNEs from developing countries (DCMNEs) invested in neighbouring, developing countries with lower levels of industrialization and technological capabilities, in which demand conditions, market size, factor costs and input characteristics were similar to those in their home countries (Lecraw, 1992). Furthermore, access to the markets of developed countries would be almost impossible to achieve by DCMNEs, because of patenting constraints and innovation or increased marketing efforts, approaches followed by advanced country firms, are no options for most DCMNEs, due to the fact that they do often not posses the know-how and capabilities to pursue these strategies.
Also a future outlook in Louis T. Wells’ book “Third World Multinationals: The Rise of Foreign Investment from Developing Countries” (1983), which is seen as a leading work on the topic of FDI from emerging markets, did not portray a very rosy picture for DCMNEs presence abroad. The author felt that many DCMNEs could not maintain their competitive advantages on the long run. Therefore, many firms would eventually need to sell their foreign subsidiaries. Only the few large diversified DCMNEs could maintain their internationalisation paths and continue growth. This outlook was supported by other authors, for instance Riemens comes to the same conclusions in his study on the foreign operations of Third World firms (1989).
(UNCTAD, 1994). In 2005, FDI from developing countries amounted $ 133 billion, which represents approximately 17 percent of world outward FDI flows (UNCTAD, 2006).
This increase in FDI is not only directed to peer developing countries. In recent history we have witnessed a number of remarkable acquisitions of Western firms by DCMNEs. Large DCMNEs, have entered the markets of developed countries. Some media see these mergers and acquisitions (M&As) by the large companies of the emerging markets as a sign that there is a shift in FDI flows. They claim that the so-called ‘North - South’ and ‘South-South’ flows are being complemented by the ‘South - North’ flow of FDI. The terms ‘North’ and ‘South’ are used to demarcate the rich, developed countries from the ‘poor’, developing countries. Although the terminology has lost significance in the past decades, because the analytical framework has been upset by competing approaches (Thérien, 1999), they are still used as synonyms for the more common terms developed and developing countries. Although most wealthy countries are located in the Northern Hemisphere, North is not divided by South purely geographically, since for instance Australia and New Zealand belong to the North. The term North – South divide is used to illustrate the development gap that exist between the two groups, which should be closed according to many researchers and institutions. This topic has received a lot of attention in the 1980s and 1990s (Broad & Landhi, 1996). Nevertheless, despite acknowledging that there is a positive trend, knowledge about FDI from the South is still limited (OECD, 2006)
2. RESEARCH DESIGN
2.1 Formulation of the Problem 2.1.1 Problem Statement
In recent history, the role of firms from developing countries has changed drastically. From initially being dominantly large receivers of FDI, developing countries and transition economies have emerged as significant outward investors (UNCTAD, 2006). The magnitude of today’s outward investment by emerging markets has reached the highest level ever recorded (OECD, 2007). Although the bulk of developing country outward investment is directed towards other developing or less developed countries, which are the so-called ‘South-South’ FDI flows, there is also increasing evidence that there might be a trend of ‘South - North’ FDI flows.
This alleged South – North trend is fuelled by large MNEs from developing countries (DCMNEs) which have recently been in the news with acquisitions of Western companies. But are these acquisitions by the large DCMNEs a sign that there is truly a new trend? It are usually these large acquisitions that make the news, but activities by smaller DCMNEs are not visible to a large public. According to the OECD, the media attention in the developed economies, for the rise of outward FDI from developing countries, has been disproportionate with respect to the actual amount of FDI from these sources (ibid).
We feel, although this statement may be true, we must absolutely not trivialize this new role of emerging economies. Roughly twenty years ago, there was nobody who would have anticipated such a fast growth rate in the emerging economies, which in those days were still known by the hardly flattering term Third World countries. In this short amount of time countries such as Singapore, South Korea and Taiwan have closed the development gap and have now been assigned the term developed countries.
global investment banks. Goldman Sachs expects that the BRIC countries have got the potential to be amongst the four most dominant economies by the year 2050. If the projections of the investment bank become reality, the BRIC economies will be larger than those of the G6 within forty years. And of the current G6 only the United States and Japan will remain to be amongst the world’s largest economies. Furthermore, the annual increase of US dollar spending from the BRICs will exceed that of the G6 as early as 2009. The key assumptions behind the forecasts of Goldman Sachs are, that the BRICs will maintain their policies and keep developing institutions which will support their growth. Therefore, it will be doubtful if these projections will become true, because the countries will face many challenges in keeping their development on the current track. Nonetheless, the recent rapid development of especially China and India is a sign that the forecasts made by Goldman Sachs may be in the right direction. This is even strengthened by a follow-up paper by Goldman Sachs on the BRIC issue from 2005. In this paper Goldman Sachs argues that the growth rate of the BRICs has been even higher than their initial projections of 2003.
Therefore, we feel it is important to do research on the field of outward FDI by developing countries and the BRICs in particular. Unfortunately, research on this topic is still in its infancy and is furthermore hindered by often poor, and particularly sketchy FDI data from developing countries (OECD, 2007). Furthermore, the current literature on FDI from developing countries is often focussed on specific cases of certain countries, specific issues of certain types of firms (Yang, 2003) and is cross-sectional.
trend of South – North FDI flows within the set of countries of our research. We feel this is an important issue, because Western companies must surely not underestimate DCMNEs, since within a short amount of time they can become serious competitors for the established order of Triad MNEs.
2.1.2 Research Objective
The research objective of this thesis is to give insight into the outward FDI flows from the BRIC countries in order to see whether there is a South-North trend visible. The term ‘trend’ is multi-interpretable, but in the light of this research we want to see whether there is a constant rise in outward FDI towards developed countries, within the period 1997 – 2007. In order to come to a conclusion whether there is a constant rise of FDI towards developed countries, we will use trend lines in the graphs of the collected data per country. Trend lines are used to detect a regular rise or decline in data series, which is the main objective of this research. Furthermore, we would like to see which comparative advantages in certain industries are behind the entry of firms from developing countries in developed markets. The outcomes of this research will shed light upon the, claimed, new role of DCMNEs, which can help companies from developed countries to map their future competitors.
2.1.3 Main Research Question
The main research question resulting from the research objective is:
“To what extent is there a trend of ‘South-North’ foreign direct investment flows visible from the BRIC countries in the period 1997 – 2007 and which role do the comparative advantages of the BRIC countries play in this trend?”
2.1.4 Method of Answering Research Question
In order to answer our main research question a number of steps need to be taken. The main research question consist of two parts, which will be answered separately. We will discuss how we will answer both parts.
the BRICs. For the denominator ‘North’ we have chosen for the set of countries which, according to International Monetary Fund (IMF) standards, are considered ‘developed’ or ‘advanced’ countries. The term advanced country is assigned to countries which share a number of important industrial country characteristics, including per capita income levels well within the range indicated by the group of industrial countries, well-developed financial markets and high degrees of financial intermediation, and diversified economic structures with relatively large and rapidly growing service sectors (IMF, 1997). This group consists of thirty countries: Australia, Austria, Belgium, Canada, Cyprus, Denmark, Finland, France, Germany, Greece, Hong Kong SAR, Iceland, Ireland, Israel, Italy, Japan, Korea, Luxembourg, Netherlands, New Zealand, Norway, Portugal, Singapore, Slovenia, Spain, Sweden, Switzerland, Taiwan Province of China, United Kingdom and United States (http://www.imf.org). The denominator ‘South’ is used for the wide range of countries that are not considered developed. This diverse group contains countries ranging from least developed countries (countries with no significant economic growth, a per capita GDP of below $1,000 and low literacy rates, also called undeveloped countries (CIA World Fact Book )) to NICs (countries which have outperformed their developing counterparts, but have not yet entered the group of countries with the developed status, also known as advanced developed countries (ibid)).
Besides giving insight into the outward FDI flows by the BRICs, in order to see whether there is a South – North trend, a second objective of this research is to find out why FDI is now, possibly, flowing in the reverse direction. Initially from advanced countries to developing countries (Aykut & Goldstein, 2006) and now possibly from developing countries to advanced countries. A possible explanation for such a reversal of FDI flows are the comparative advantages that nations posses in certain industries. Porter’s National Diamond framework has proven that country characteristics play a crucial role in the developing and sustaining of comparative advantages by firms (Grant, 1991). Furthermore, this comparative advantages plays an important role in the choice of servicing a foreign market through FDI (Dunning, 1980, 1988, 2000).
backgrounds. Brazil’s driver of economic growth is the exploitation of raw materials and a currently strongly developing industrial sector, led by machinery and transportation equipment. Russia is highly dependent on the exploitation of energy resources. India’s growth is boosted by software services and call centres, while China’s impetus for growth stems mainly from manufacturing (Grant Thornton, 2007). Furthermore, research has shown that a comparative advantage in a certain industry can have an impact on the choice of investing in a developed country or a developing country. For instance Pradhan and Abraham (2004) argue that India’s strong position in technology and health care draws Indian companies to developed countries, because these advanced economies offer larger markets for their products than developing countries. We want to see if we can find a similar pattern, thus, if the comparative advantages of the countries and the leading industries in the BRICs play a role in the choice of investing in the North or the South.
2.1.5 Demarcation
In order to narrow the thesis down into a manageable and researchable piece of work, the researcher has made a number of demarcations. A number of them have already been discussed above, but we will briefly mention all demarcations.
We have decided to focus on the developing countries Brazil, Russia, India and China. Next to the fact that they are seen as the emerging markets which could become amongst the leading economies of the world in the next decades (Grant Thornton, 2003, 2005), we also address these countries, because we feel that they are further than many other developing countries in the so-called investment development path (IDP). This is a theory which claims, that outward FDI is undertaken when a country reaches a certain minimum economical development (Dunning, 1981, 1986). In the IDP theory countries are classified in one of four groups, corresponding to four stages of development. In our opinion the BRICs are in the third group, which makes them suitable candidates for a study on outward FDI. We will discuss the IDP theory in more detail in the literature review.
organization (Estrin & Meyer, 2001), are not investigated because this does not involve the acquisition of an existing firm. The acquisition of entire, wholly-owned, companies and entering into joint ventures are present in our database. It might also be the case that we have investigated Brownfield investments, but we could not derive this from the information which has been provided by our data source. A Brownfield investment is the acquisition of an existing company which is than restructured in such an extensive way that it resembles a Greenfield investment (ibid). We have only documented the initial purchase, not the process afterwards. The choice for investigating M&As has been made because information on this type of FDI was available to us, whereas information on Greenfield investments was hard to come by. Our choice is furthermore supported by the fact that M&As account for at least two-thirds of world-wide FDI flows (Raghavan, 1999) and M&As are also the most commonly used type of FDI by DCMNEs, especially towards developed countries (UNCTAD, 2006). M&As are usually defined as the purchase of the majority of a company (Cantwell & Santangelo, 2002). For this research we have a different perspective on the term M&A. We have investigated not only acquisitions of the majority of companies, but also included minority stakes and joint ventures into the dataset. We have included minority stakes, because this is an important form of foreign involvement for DCMNEs, because they often do not have the financial means to purchase a whole firm (Dunning, 1981). We have included joint ventures in our dataset, because a number of authors on FDI from developing countries such as Wells (1983) and Riemens (1989) have seen joint ventures as a form of FDI in their works. In addition, this approach enlarged our dataset, which might strengthen the outcomes.
Another demarcation is the choice for investigating the target industries in which FDI from the BRICs have flown, in order to find an explanation for the flows towards developed countries. There are many possible explanations for the flows towards developed countries, but we have decided to focus on just one in order narrow down the thesis. Our argumentation behind this choice has been briefly discussed above and the theories supporting our choice will be addressed in more detail in the literature review.
a relative notion, but other papers on, for instance, the outward FDI by Indian firms have used the same timeframe (Accenture, 2006).
2.2 Research Methodology 2.2.1 Type of Research
Following the objective of this research, which is to describe the phenomenon of FDI from developing countries, thus, the who, what, when, where and how of this topic, this thesis can be classified as a descriptive study (Cooper & Schindler, 2006). Descriptive research is often concerned with generality and requires extensive research (Gill & Johnson, 2002). A quantitative methodology is the best way to approach such a research. This type of study has some implications for its design. One of the most prominent is that the research design is determined before commencing the project (Cooper & Schindler, 2006). One must know in advance what he or she is looking for. We have done so in this research by selecting a set of variables which needed to be investigated. These variables came forth from the initial desk research which preceded the ultimate research. The variables will be discussed in the following section.
2.2.2 Methods of Data Collection and Analysis
In order to keep the research manageable, given time and financial constraints, we felt that gathering primary data was not an option for this thesis. Therefore, we had to focus on selecting an appropriate secondary data source for collecting the necessary data.
In order to answer our research question we need to gather information on the number of M&As and the value of these M&As from the BRIC countries. We are interested in the value of the M&As, since most research on FDI flows is interested in this variable. By investigating the same variable we are able to compare our findings with existing literature. The second variable is the country in which the acquisitions or joint ventures have taken place. In this way we would be able to categorize the deals as ‘North’ or ‘South’. Furthermore, the year in which the deals have taken place is a vital variable for this research. We need this variable in order to see how the number of M&As have developed over the time period. The final variable, is the target industry in which the acquisitions or joint ventures have taken place.
For conducting our data-analysis we have chosen for the Zephyr M&A database, which was available to us, since the University of Groningen is subscribed to this database. We have also considered to use other sources such as the websites of the national bureaus of statistics of the BRIC countries. Unfortunately, these institutions could not provide us with the necessary data on the variables we needed. Another option was to contact embassies or other governmental institutions from the BRICs or international institutions to ask for their cooperation and to send the country data on outward M&A deals of the ten-years period we requested. Nonetheless, experience from other projects has thought us that gathering data in this way is often fruitless. One example has taken place in the first phase of this research, when we have contacted institutions such as embassies for information, without any results. These institutions are probably being flooded with requests for data, they lack time and often do not even react on the messages that are sent. Furthermore, we have though of commercial M&A transactions and deals databases which are frequently used in other literature. Examples of these sources are for instance Mergerstat and Thompson. Nonetheless, these databases are not freely available and access to these sources is extremely costly which made it impossible for us to use these databases.
can search for M&A deals based on, for instance, company name, time period, deal status (announced, completed, rumour, etcetera), deal type (acquisition, joint venture, merger, etcetera), industry in which the deal has taken place, location of the acquirer, target and/or vendor and the value of the deal. Therefore, this database could provide us with information on all the variables that were necessary for our research. In order to be able to meet our research objective, we have selected a ten year time period, a completed deal status, any possible deal type, any possible industry, the BRICs as acquiring countries and any other country as target, and any deal value. The database also allowed us to access detailed company information per deal, which was extremely helpful when we were checking the individual deals if they met the set of criteria which we will discuss below. The Zepyhr database is widely used for research on (global) mergers and takeovers. For instance the Centre for European Economic Research makes use of this database for M&A Reports.
For selecting the appropriate target industry in which a deal has taken place we have used the Industry Classification Benchmark (ICB) system. This is a classification system which is created by the Dow Jones Indexes and FTSE. ICB is a detailed and comprehensive structure for sector and industry analysis, facilitating the comparison of companies across four levels of classification and national boundaries. The four levels of classification are Industry, Super sector, Sector and Sub sector. The system allocates companies to the Sub sector whose definition most closely describes the nature of its business. The nature of a company's business is determined by its source of revenue or where it constitutes the majority of revenue (http://www.icbenchmark.com). In the Zephyr database, an ICB industry number is mentioned and we have placed the deals in one of the ten industries (Oil & Gas, Basic Materials, Industrials, Consumer Goods, Health Care, Consumer Services, Telecommunications, Utilities, Financials and Technology).
once. For a few companies no ICB number was available. To be able to assign an industry to these companies we have visited the company websites in order to select an industry that was most appropriate in our opinion.
For a consistent dataset, for strengthening the results and in order make to the research comparable to existing literature, we have formulated a set of criteria which the M&As in our dataset should meet. As already mentioned above, these criteria are extracted from a work of Wells (1983). In accordance with Wells, we have excluded the M&A activities from firms of which the parent firm is not owned by nationals from the BRIC countries. With this is meant that we have not used M&A deals by a company like, for instance, Volkswagen Brazil, since the ultimate ownership of this company is German. The purpose of this research is to investigate cross-border activities by MNEs from the BRICs. When the ultimate ownership, and thus, probably, the ultimate decision making, is not from these countries, the deals are not rated as such. A second criterion in selecting our data set, is that we have only used deals with the purpose to enter a foreign country. In a number of instance, firms entered into joint ventures with foreign partners, but the newly formed entity was set up in the home country. These deals have been excluded from the dataset. For checking the deals we have used the company information in the Zephyr database which we have mentioned above. When the information was unavailable in the database we have consulted company websites to retrieve the necessary information.
2.2.3 Limitations
3. LITERATURE REVIEW
In this literature review we will give attention to the theories that form the basis of this research. We will discuss FDI theory and the role that comparative advantages play in these theories. After that we will discuss the role of the home country in developing and sustaining a comparative advantage by a firm. Furthermore, we will address one of the reasons behind selecting the BRICs as subject for this thesis: their IDP. We will also give attention to the phenomenon of developing countries. What are usually seen as these countries’ comparative advantages and we will discuss their pattern of FDI. In continuation of the IDP theory, a number of characteristics have been mentioned on the different stages of development of developing countries with respect to their pattern of FDI.
3.1 FDI Theory and Comparative Advantages
A large amount of literature has been devoted to explaining what drives a company abroad and which determinants form the basis in the choice of entering a foreign market. The need of having a comparative advantage vis-à-vis competitors in the host country is one of the corner stones of FDI theory. Stephen H. Hymer has named this as one of two determinants of FDI in his doctoral dissertation of 1960. Hymer’s dissertation is perceived as a path-breaking work, which has been essential in reformulating a theory of FDI. Many of the later works on FDI have taken this work as a basis for their own analysis. Kindleberger stated for instance that “the multinational corporation without Hymer is Hamlet without the prince” (1984, 180) and Dunning (1981a) mentioned that Hymer was the first to explore features of FDI in depth. Hymer was the first to escape from the assumption of perfect competition. On the contrary, many firms have advantages over other firms in certain activities, which can be for instance brands, innovations, skills and size and network advantages. The different ventures of a company can be independent and can be located in different countries (Cohen, et al., 1979). The second determinant of FDI is the desire to ‘control’ foreign operations and in this way eliminate competition between themselves and companies in other countries (Horaguchi & Toyne, 1990).
most literature on the MNE and FDI has been developed around this framework (Gattai, 2005).
Dunning (1980, 1988, 2000) has combined a number of streams within the FDI theories into his eclectic theory of foreign direct investment. According to John H. Dunning the tendency for firms for international production rests on three main determinants. Dunning labelled these determinants ownership advantages, location advantages and internalization advantages. Ownership advantages are the extent to which the firm possesses or can acquire assets which its competitors do not posses. This determinant stems from Hymer’s theory that we have described above. Location advantages are the extent to which it is profitable to exploit the assets of the investing company, in combination with the resources of foreign countries, rather than with the resources of the home country. In other words, this is the local attraction of a country or a region. Examples of this can be for instance favourable production or transportation costs or the relative market size. The final determinant are the internalization advantages. This means, whether it is in the interest of the company to sell or lease its assets to other companies, or make use of – internalize – it themselves (Dunning, 1980). When the three conditions above are satisfied, a firm should feel the propensity for servicing a foreign market through FDI (Dunning & McQueen, 1982).
3.2 Competitive Advantages of Nations
It is commonly understood that countries posses certain capabilities which gives them an advantage over other countries. Classical economists developed this basic truth already in the eighteenth and nineteenth century. Adam Smith’s statement on absolute advantages in 1776 and later on David Ricardo’s concept of comparative advantages in 1817 are works which illustrate that this is common knowledge for a long period of time (Dunn Jr. & Mutti, 2004).
the home base has got a continuing influence in determining the availability and qualities of the resources available to a firm (Grant, 1991).
According to Porter’s National Diamond framework, the ability of a firm to develop and sustain a competitive advantage within international markets rests on four components provided by the home base: Factor conditions, such as natural resources or sophisticated skills and research facilities; Demand conditions, which are essential for the need to upgrade the competitive advantages of a firm; Related and supporting industries, which are an important driver of growth for industries, since they produce spill over effects and often result in clusters of industries such as Silicon Valley in the United States, and finally; Firm strategy, structure and rivalry, because competition plays an important role in sustaining and upgrading the competitive advantage of firms and nations (ibid).
3.3 Investment Development Path
We have selected the BRICs as subject for this research on outward FDI by developing countries based upon the stage in their IDP. The IDP theory has been introduced by Dunning in 1981 and has been revised several times by Dunning and his colleagues. The IDP theory is based around the notion that there is an “… interaction between the international investment position of a country and its stage and character of economical development” (Dunning, 1981, 34). The first version of the IDP proposed four groups of countries which corresponded to four stage of development. Later on Dunning and Narula have readapted the model and added an extra phase which only applied to developed countries (Durán & Úbeda, 2005). Therefore, for this research we have focussed on the framework with the initial four stages3.
Countries are classified in of the four country groups based upon their net outward investment (NOI), which is the difference between their gross outward investment and gross inward investment. The first group consist of countries which have little inward investment and no outward investment and, thus, a small, negative NOI. This group includes the least developed
3
countries. The second group is made up by countries in which inward investment is rising and outward investment remains very small, thus, with a negative and rising NOI. In the third group, the NOI is still negative, but becoming smaller. This can be either through a constant outward and a falling inward investment, or when outward investments are rising faster than inward investments. The final stage is the group of countries with a positive and rising NOI. This means that inward investments have fallen below the level of outward investments, or that outward investments are rising faster than inward investments. The first three stages correspond to developing countries and the fourth stage consist only of developed countries (Dunning, 1981). We have argued that the BRICs are in the third phase of the IDP model, because inward investments have been at a very high level in these countries and they now posses the abilities to invest in foreign markets themselves. They have developed their own comparative advantages which they exploit through FDI, which is a feature of this phase.
When one takes into account the IDP model, FDI from South countries are for a large part constricted to the countries in phase three, and possibly a few countries in the second phase. Countries in the first, and for a large part in the second stage do not have the abilities to invest abroad. Therefore, the term South in the context of outward investment flows relates to the more advanced developing countries.
3.4 Developing Countries 3.4.1 Comparative Advantages
In general, it is commonly understood that the comparative advantages that DCMNEs posses, largely result from the simple fact that they are originated from developing countries. Because of this they can provide lower priced products to markets than countries from advanced economies. The primary source of developing country comparative advantages have been low labour costs in their home market (Vernon – Wortzel & Wortzel, 1988). Furthermore, low costs of natural resources are an important source of comparative advantages by DCMNEs (Cuervo-Cazurra, 2007). Because these companies posses few firm-specific advantages, such as technological know-how, they need to exploit these location specific advantages (Yeung, 1994).
developing countries have emerged, which posses capabilities that are associated with more advanced products and services (Aulakh, 2006). Besides exploiting local advantages, there is increasing evidence that DCMNEs are rapidly exploring and acquiring resources and capabilities to develop state-of-the-art products and move up the value chain (Chittoor & Ray, 2007).
3.4.2 Outward Foreign Direct Investment
Outward FDI by developing countries has witnessed a remarkable increase in the past decades. This type of FDI has multiplied by eleven since 1985 (Goldstein & Miroux, 2006), and has reached its highest recorded level ever with $ 133 billion, which represents approximately 17 percent of world outward FDI flows, in 2005 (UNCTAD, 2006). The majority of FDI by developing countries is directed to neighbouring and fellow developing countries, but in the past decades a rising number of investments in advanced economies have been documented. In an attempt to explain these changing outward FDI flows by developing countries, Dunning, Van Hoensel and Narula (1997) have characterised this phenomenon by using the IDP theory, which we have discussed above.
These authors have characterised a ‘First Wave’ and a ‘Second Wave’ of investors from developing countries, which have been linked to, respectively the second and third stage of the IDP model. A third characteristic is added, which are the ‘Conventional’ MNEs from advanced countries in the fourth stage of the IDP. The first wave investments are regional, in neighbouring and other developing countries, the so-called South – South flows. The second wave investments are largely regional, but are expanding to a global basis. The conventional MNEs invest on a global basis. Second wave investors are increasingly becoming global and are demonstrating features of conventional MNEs.
4. RESULTS
In this chapter we will present the results that we have gathered from our data-analysis. We will address the two parts of our main research question separately. In paragraph 4.1 we will present the results from investigating the target countries in which the BRICs have invested. We will present the percentages in North and South countries and the development of the number of investments in the North over the ten year period.
In the second part, paragraph 4.2, we will discuss what, according to literature, the comparative advantages of the BRICs are and we will see if we can relate this to the target industries of the BRICs. We will also discuss what might be causes for possible differences between the number of investments and the share of investments in the North between the countries.
4.1 Target Countries 4.1.1 Brazil
We have come across 131 cross-border M&As by Brazilian MNEs in the period 1997 – 20074. In figure 1 we can see that Brazilian firms have invested almost as much in developed countries as in developing countries. The South sub-group has received a slightly higher percentage of deals than the North group of countries.
Figure 1
Country Classification Brazilian Outward FDI 1997 – 2007
Brazil
North 47% South
53%
Argentina, a South country, is the largest receiver of Brazilian FDI, with nineteen deals towards this country. Other countries with a relatively large share of deals are the US and Portugal with both fourteen M&As. Portugal, thus, receives more FDI than the traditionally large receivers Great Britain and Germany. One might assume that this has got to do with the colonial background and the avoidance of language barriers.
When we focus our attention on the development of the number of deals over the ten year time period in figure 2 we can see quite a flat timeline for the Brazilian cross-border M&As. Also the linear trend line which represents the average rise over the ten years is almost completely flat. Nonetheless, we can see a slight increase in activities towards the North, while our research has also shown that activities in the South are declining.
ar d F D I f ro m B ra zi l, R u ss ia , I n d ia a n d C h in a: er e a S o u th – N o rth T re n d ? 2 8 0 10 20 30 40 50 60 70 80 90 100 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 Year N u m b e r o f D e a ls
Brazil Russia India China
Lineair (Brazil) Lineair (Russia) Lineair (India) Lineair (China)
Figure 2
4.1.2 Russia
In the time period 1997 – 2007 we have documented 442 Russian cross-border M&As in the Zephyr database. By far the largest part of these deals has taken place in fellow South-countries as we can observe from figure 3.
Figure 3
Country Classification Russian Outward FDI 1997 - 2007
Russian Federation
North 31%
South 69%
The largest receiver is neighbouring country Ukraine with eighty-seven deals. Other South countries with a large inflow of Russian FDI are Kazakhstan and Moldavia with twenty M&As. Developed countries with a relatively large number of Russian M&A activities are United States (20), Great Britain (19) and the Netherlands (14).
4.1.3 India
In the time period 1997 – 2007, 474 cross-border M&A activities have taken place from India. By far the largest part, almost three-quarters, have taken place in the group of developed countries, as we can observe from figure 4.
Figure 4
Country Classification Indian Outward FDI 1997 - 2007
India
North 72% South
28%
It is interesting to mention that India is the only country that has not invested the majority of its FDI in its own continent. North America and Europe are by far the largest receivers of Indian FDI. The United States are the absolute number one receivers of Indian FDI with 131 deals, which is more than one-quarter of the total number of deals. Other countries with a relatively high inflow of FDI are Great Britain (59), Singapore (29) and Germany (22).
4.1.4 China
As we can see in figure 5, the bulk of China’s 332 M&A activities has taken place in the North-countries. As in India, almost three-quarters of M&As have taken place in this sub-group of countries.
Figure 5
Country Classification Chinese Outward FDI 1997 – 2007
China
North 71% South
29%
The largest single-country receiver of Chinese FDI are the United States with sixty-three M&A activities. They are followed by Hong Kong (54) and Singapore (24). The small amount of FDI towards Europe is noteworthy. Where the European continent receives approximately one-third of FDI flows in Brazil and India and almost three-quarters in Russia, only seventeen percent of Chinese FDI is directed to this continent.
4.2 Target Industries
In the previous section we have seen remarkable differences between the total number of investments and the percentages of M&As towards developed countries by the BRICs. Brazil has by far the smallest number of activities of the BRIC countries. Furthermore, in Brazil the division between North and South is close to fifty-fifty. India and China both invest by far the largest number of times in developed countries, which represent approximately three-quarters of their FDI flows, whereas almost three-quarters of Russian FDI is directed towards South countries.
4.2.1 Brazil
Brazil’s largest comparative advantage is the highly competitive and large scale agricultural sector. Porter (1990) has named this the ‘physical resources’ of a country. Brazil has got enormous stretches of agricultural land and the level of agricultural technology is extremely high for a developing country. Technology wise, Brazil can compete with, for instance, the Netherlands (Hillen, 2006). Because of this, Brazil’s driver of economic growth is the exploitation of raw materials and, furthermore, a currently strongly developing industrial sector (Grant Thornton, 2006). We can observe this in figure 6. Basic Materials and Industrials are the two largest sectors in which Brazilian firms are investing abroad.
Figure 6
Target Industries Brazilian FDI Towards Developed Countries 1997 – 2007
Brazil Basic Materials 21% Consumer Goods 16% Consumer Services 13% Financials 18% Industrials 18% Oil & Gas
3% Technology
8% Telecommunication
3%
Because of their comparative advantage, Brazil’s exports of agricultural goods are amongst the largest of the world (Matthey, Fabiosa & Fuller, 2004), but Brazilian firms do not seem to be able to move up the value chain and enter North countries. Furthermore, it is a fact that FDI is predominantly undertaken in more R&D intensive industries (Braunerhjelm, Oxelheim & Thulin, 2005). Since agriculture is usually not regarded as a R&D intensive industry and Brazil’s share in such industries (Health Care and Technology), is very small, this may also cause Brazil’s relatively weak position in outward FDI.
4.2.2 Russia
Russia’s main comparative advantage are the enormous reserves of oil and gas which the country possesses (Hillen, 2006). Figure 7 shows us that the industries corresponding to this comparative advantage, Basic Materials and Oil & Gas, account for a high percentage of M&A activities. Despite the fact that there are industries which account for a larger share than Oil & Gas’s fourteen percent, we must be aware of the limitation of our research. We have investigated the number of activities, in stead of the value of these M&As. One can assume that investments in Oil & Gas are usually much larger than in the other industries. Therefore, we feel that this industry’s figure is very high.
Figure 7
Target Industries Russian FDI Towards Developed Countries 1997 – 2007
Russian Federation Basic Materials 18% Consumer Goods 10% Consumer Services 12% Financials 14% Health Care 1% Industrials 20% Oil & Gas
14% Technology
7% Telecommunication
4%
4.2.3 India
Where for Brazil and Russia the comparative advantages are in the physical resources of the country, India’s comparative advantage is in ‘human resources’ and ‘knowledge resources’ (Porter, 1990). Because of a superb educational system, India has a large highly educated, cheap labour force (Hillen, 2006), which has resulted in a strong position in Technology and Health care. This is very well illustrated in figure 8; these two target industries combined account for fifty percent of India’s M&As towards developed countries.
Figure 8
Target Industries Indian FDI Towards Developed Countries 1997 – 2007
India Basic Materials 8% Consumer Goods 10% Consumer Services 9% Financials 2% Health Care 11% Industrials 18% Oil & Gas
1% Technology 39% Utilities 1% Telecommunication 1%
4.2.4 China
China is a country with a strong position in manufacturing (Grant Thornton, 2006). It a an assembly country, which produces parts and components (Lemoine & Ünal – Kesenci, 2002). This strong position in manufacturing can be observed in figure 9 by the large percentages in the industries Consumer Goods and Industrials. These industries contain sub sectors such as Electronic & Electrical Equipment and Personal & Household Goods.
Figure 9
Target Industries Indian FDI Towards Developed Countries 1997 – 2007
China Basic Materials 11% Consumer Goods 14% Consumer Services 12% Financials 10% Health Care 7% Industrials 20% Oil & Gas
3% Technology 20% Utilities 0% Telecommunication 1%
5. DISCUSSION
In this chapter we will discuss the above presented results. We will summarise our results, compare them with existing literature and we will try to find theoretical explanations for remarkable outcomes.
From the results of our first sub research question we have observed that China and India are by far the largest investors in developed countries of the BRICs. These countries show impressive shares of almost three-quarters of FDI flows towards developed countries. When we compare our results to a research by Dunning, Van Hoensel and Narula (1997) we can see that there are large differences between the period in which Dunning et. al. have investigated outward FDI by developing countries and our results. These authors have investigated the outward FDI by developing countries in 1980/1981 and 1990 – 1993 towards developed and developing countries. For Brazil, India and China these figures have been published, unfortunately Russia has not been investigated in this research.
difference which can affect the outcomes between both studies is that Dunning et. al. have investigated the value of FDI and we have investigated the number of activities. Nonetheless, despite these different research approaches, the enormous rise of India remains and is very impressive.
Besides investigating the share of FDI towards developed countries, the main aim of this research was to see whether a continues trend of South – North FDI flows was visible from the BRICs. In figure 2 we have seen that until 2001 the BRICs have kept pace with each other with the, relatively low, numbers of activities in developed countries. After this period, Brazil does not show signs of a positive trend and M&A activities from this country towards developed countries have remained on a low level. Since 2004 Russia shows an increased commitment towards developed countries. Indian FDI towards developed countries has made a leap since 2001 and kept on growing to impressive numbers of activities. China also has witnessed a substantial increase, but the number of activities have, to our surprise, declined since 2004.
Brazil performs worst of the BRICs when it comes to the total number of M&As (131) activities and the development of the number of activities in the North. Despite the fact that Brazil is seen as an important developing country for several decades now, there are researchers which state that Brazil might be “forever the country of the future” (Van Leeuwen, 2005). The country does not seem to be able to fulfil its huge potential. It might be the case that the so-called ‘curse of natural resources’ is affecting Brazil. This curse means that countries with great natural resources tend to grow slower than resource poor countries (Sachs & Warner, 2001).
because in the past few years Russian FDI towards developed countries shows a sharp increase, while investments in the South remain stable.
India shows the most impressive rise of FDI towards developed countries, while China’s number of M&As in the North are decreasing. This amazed us, since China is seen as the leading developing country and the biggest threat to advanced country MNEs. What might explain the decreasing number of investments in developed countries is that China has recently invested significantly in emerging economies in order to secure natural resources which are essential for their own growth, while Indian firms have pursued another strategy and invested in developed countries (Accenture, 2006). This might explain the differences between both countries.
By investigating the countries in which the activities by the BRICs have taken place we could also see that in most instances the largest part of M&As have been directed to their own continent or region. India was the only country in which this was not the case. When we relate this to the IDP and the characteristics of countries in the different stages of the model we can say that Brazil, Russia and China are in the third stage and thus ‘Second Wave’ investors. Their investments are largely regional, but expanding to a global basis. This is also the case in China, despite their large share in North countries. Chinese firms have invested heavily in Hong Kong and Singapore; developed countries within Asia. India’s investments are truly on a global basis, since Europe and North America receive the largest portions of Indian FDI. India seems to be the only country that is demonstrating features of having conventional MNEs.
(Braunerhjelm, et. al., 2005) such as agriculture. Russia’s advantage in oil and gas is very well illustrated in the relatively high share of this sector in their target industries. Nonetheless, it is hard to asses the outward FDI of Russia’s most important industries, because we must be aware of the fact that FDI by Russian firms, are often controlled by the political agenda of the Russian government. For India and China the comparative advantages are in their cheap labour force. The differences between both countries is that India has got a large share of highly skilled workers, whereas China’s advantage is in low skilled labour. Because of this, it is easier for Indian firms to enter Western countries and still sustain their initial comparative advantage. They are able to move up the value chain and take over the intermediary role that has been played by Western firms. Furthermore, Indian firms seem to adapt easier to cultural differences than Chinese firms, because of the diverse cultural background of the country.
6. CONCLUSION
The aim of this research was to give insight into the outward FDI flows by the BRICs and to find an answer on the main research question which is “To what extent is there a trend of ‘South-North’ foreign direct investment flows visible from the BRIC countries in the period 1997 – 2007 and which role do the comparative advantages of the BRIC countries play in this trend?” In our opinion we have come across some interesting issues and the results of this research are different than we and perhaps other people would have anticipated prior to this thesis.
For answering the first part of our main research question we needed to see whether there a constant rise of FDI from the BRICs towards the developed countries of the world. Although most countries have shown an increase in commitment towards developed countries, we have seen that this is not the case for all BRICs. The trend lines of Russia, India and China show a regular rise over the ten year period, whereas Brazil’s trend line is almost completely flat and does not show an increased commitment towards developed countries. Despite the fact that the trend lines show a regular rise over the period of this research for three countries, we can not only focus on this indicator. When we compare the number of M&A activities over the ten years, only India has maintained and increased their performance over the entire period. Initially China also witnessed a tremendous increase, but to our surprise the performance of this country has stagnated in the past two years. Russia has shown significant increases, but there was no sign of a constant rise. For a long period of time Russia’s performance of M&As towards developed countries has stayed in the margin and has only taken of since 2004. Perhaps, if this country can maintain this performance we can speak of a trend, but this is not yet the case. Reviewing the above, we must conclude that only India has shown such a tremendous increase of which we can say that this can be classified as a trend of South-North FDI flows. The performances of Brazil, Russia and China have fluctuated to much to be classified as a constant rise and thus a trend.
theoretical explanations we have been able to explain the large differences between the BRICs. The comparative advantages of Brazil and Russia are in their natural resources. Brazil’s advantage in agriculture causes the weak position in FDI, because this is not an industry in which FDI is predominantly undertaken. The FDI by Russia’s oil and gas companies is hard to asses, because they are often used to execute the Russian governments foreign policy. The comparative advantages of India and China are in their cheap workforce; in India a highly skilled and in China a low skilled workforce. This difference has resulted in a strong position in two very different industries. Manufacturing in China and IT and Health Care in India. Because of these two extremely different positions, Indian firms seem to be better able to enter Western markets while still sustaining their initial comparative advantage. Combined with India’s ability to manage cultural differences, this is one of the reasons for India’s global pattern of investments, while China invests heavily in developed countries in Asia such as Singapore and Hong Kong. Furthermore, we have seen that a large number of investments in high-tech industries seems to be an indicator for a large share of investments in the North. This might be a subject for further research, in order to investigate if this relationship truly holds.
Despite the fact that we have not found evidence for a trend of outward FDI towards developing countries by all BRICs, we have seen that the investments in the North by these countries is on the rise and shows significant numbers, while investments in the South are stabilizing or declining. This is something that has not been anticipated by researchers two decades ago. Therefore, we must not trivialize the importance of DCMNEs and Indian firms in particular. Where China is often perceived as the ‘big threat’ for Western companies, our research has shown that not Chinese, but Indian firms are on the verge of entering the stage of conventional MNEs. With a highly educated and cheap labour force, Indian firms have a very strong international comparative advantage. Therefore, Western firms must be aware of companies from this country as the future major competitors on the world market.
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Websites:
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