TNC FDI firms and domestic linkages: reflecting on SADC case studies

1
TNC FDI firms and domestic linkages reflecting
on SADC case studies

• Presentation of preliminary findings and issues
  arising from an UNCTAD funded project.Glen
  Robbins, Likani Lebani and Mike Rogan
• TIPS Seminar
• 25 April 2007

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Structure of presentation

• Background
• Study brief and methodology
• Issues of interest beyond the brief
• FDI, TNC and SME debates informing the study
• Country cases
• Mozal
• Lesotho aparrel
• SA auto SMEs and Toyota
• Reflections

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Background to the research

• What is UNCTAD?
• Established in 1964, UNCTAD promotes the
  development-friendly integration of developing
  countries into the world economy. It focus on
  knowledge generation and inter-governmental
  processes around
• Trade
• Investment
• Enterprise development
• Infrastructure and services
• Thematic focus emerging from UNCTAD XI The Sao
  Paulo Consensus
• Ensuring developing country gains from trade and
  FDI
• Requires engagement with Trans-National
  Corporations
• Enhancing competitiveness of developing country
  SMEs
• These themes are likely to be endorsed again at
  UNCTAD X11 next week in Accra, Ghana

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Study brief and methodology

• Overall question In what way can developing
  countries enhance linkages between TNC FDI firms
  and domestic SMEs?
• Identify the major lessons from SME-TNC linkage
  programmes from 3 SADC case studies
• Mozambique Mozal aluminium smelter
• Lesotho Clothing and textile investment related
  to AGOA
• South Africa SME suppliers and Toyota (from
  previous UNCTAD report)
• Interview main stakeholders (TNC, government, SME
  and informed observers)
• Review available project documentation and
  literature

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Issues of interest beyond the brief

• In a context where real and relative flows of ODA
  are in decline in relation to FDI, what is the
  scope for securing developmental impacts from FDI
  for developing countries?
• ODA to developing countries was R70bn in 1990 and
  was R50bn in 2006
• FDI flows to developing countries were R50bn in
  1990 and were at R300bn in 2006
• FDI can compensate for domestic savings
  shortfalls and reduce BOP imbalances. In what
  ways can it contribute to lasting structural
  change in developing country production and
  productivity dynamics?
• To what degree do the sector dynamics of FDI
  activities influence the scope for widening the
  net of local benefit?
• To what degree do host country relationships with
  major nodes of value chain governance (often
  represented by TNCs) impact on widening the net
  of local benefit?
• What scope is there for different types of host
  country policy frameworks in widening the net of
  local benefit from FDI? Is it simply a race to
  the bottom or are there real points of leverage?

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Knowledge informing the study

• FDI and development
• Capital shortfalls in developing countries result
  in a dependence on capital inflows (short and
  long term) to sustain economic growth
• FDI projects often allow for exploiting
  opportunities to earn much needed export revenue
  to assist with balance of payments
• FDI has been characterised variously as
• A critical element of any developing country
  strategy to achieve development goals
• An extension of colonial dependencies that
  undermines sovereignty and exposes countries to
  capitalist exploitation
• Policy interest has explored ways of enhancing
  hosting country gains from FDI (international
  regulation, domestic policy adjustment, capacity
  building) in a context where developing countries
  often engage in a race to the bottom to attract
  FDI (incentives, infrastructure discounts)
• TNCs and development
• TNC account for 10 of world GDP
• Foreign affiliates of TNCs increasingly
  accounting for the majority of employment in many
  developing countries
• Some estimates suggest 2/3 of world trade is
  generated with intra-TNC and inter-TNC networks
• Developing country experiences with TNC have been
  variable and often exploitative
• SMEs and development
• The bulk of developing country economies are
  characterised by small and medium enterprises of
  varying levels of formality and capacity that
  provide a significant (if not the most
  significant) share of employment and domestic
  economic activity
• Combinations of historic conditions, domestic
  policies, international asymmetries have
  contributed to the disconnections between these
  domestic SMEs and global economic processes
• Facilitating linkages between domestic SMEs and
  TNC FDI firms is one of a number of possible
  strategies to enhance the gains from FDI through
  systemic improvements in firm competitiveness

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FDI in SADC The context

• African FDI flows doubled 2004-2006
• Africas share of global FDI dropped from 3.1/
  in 2005 to 2.7 in 2006 but is still higher than
  1.2 in 1999
• African share of inward FDI dominated by
  extractive industries but services growing
• Southern African trend heavily influenced by
  South Africas swings, but most countries FDI
  positive

Southern Africa FDI inflows and outflows 2004-2006
FDI category (US millions) 2004 2005 2006
Inflows 3 629 6 202 -195
Outflows 1 337 1 171 6 779

• Lesotho and Mozambique have seen solid flows
  since 2000, although Mozambique FDI reflective of
  greater levels of capital investment
• South Africa has had major swings depending on
  sales of interests, foreign listings etc.

Case study country FDI inflows 2004-2006 (US
millions)
Country 2004 2005 2006
Lesotho 53 57 57
Mozambique 245 108 154
South Africa 799 6251 -323
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Mozambique FDI and the Mozal Experience
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FDI Inflows 1992-2006

• Average GDP growth of 8 between 1994 and 2004
  (IMF 2006)
• Annual FDI has increased from US21 million to
  US153million between 1994 and 2000 (UNIDO 2002)-
  largely tied to mega project investments
• Mega project intensive 60-70 of total exports
  tied to mega projects (IMF 2006)

(US million) (SourcesUNIDO, UNCTAD and World
Bank)
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Aluminium Sector (Mozal)

• Mozal smelter is the largest mega project in
  Mozambique and accounts for 75 of mega project
  contributions towards GDP, BoP and tax revenues
  (IMF 2006)
• Southern Africa now produces 7 of the global
  aluminium supply and Mozal is currently one of
  the most efficient producers of aluminium in the
  world- exports 2 of global aluminium consumption
  (Pretorius 2005)
• Mozal granted IFZ status which allows it to
  import inputs duty free, is exempt from VAT and
  pays no more than 1 of total sales as corporate
  tax (Castel-Branco 2004)

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The Linkage Process

• 1997- Linkages form a key component of the
  governments Investment Attraction Strategy for
  1997-2000
• 2001- SMEELP is initiated for a two year period
  to assist local firms to win contracts for the
  expansion of the Mozal plant
• 2003- Mozlink I is introduced by Mozal to build
  on the successes of SMEELP
• 2007- Mozlink II is an extension of Mozlink I and
  is planned to continue until the end of 2008. It
  is intended that Mozlink II be rolled out to
  other sectors.

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Findings Mozal

• Success of linkages the result of a formal
  linkages programme initiated by government and
  supported by Mozal and international lending
  institutions a good practice model
• Mozal is perceived to be important by local SMEs
  themselves (Goldin 2004)
• Between the first two phases of the linkage
  programme, local contracts increased from US 5
  million to US 11 million
• Evidence of SME expansion and increasing revenues
  (Goldin 2004)
• Local SME performance has improved by roughly 20
  per cent through the Mozlink programme (IFC 2007)
• Challenges
• Low employment impact
• Lack of transparency in contracts
• How to work with other sectors where there is
  less TNC commitment
• Driver project viability driven mainly by
  discount power and tax conditions

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The experience of Lesotho with textile and
apparel FDI
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Background to apparel sector in Lesotho

• Clothing industry dominated by export oriented
  manufacturing and subsidiaries of foreign owned
  firms (80 Taiwanese, balance China and SA)
• Growth of clothing industry a result of the 2000
  AGOA trade privileges. From 1999-2005, clothing
  industry grew form US100m to US460m.
• Dominance of US markets, 93 of garments
  channeled to the US (for The GAP, Walmart, Levis
  etc)
• Government has consciously focused on the garment
  industry due to its employment creation capacity
• 40 000-55 000 workers employed in the garment
  industry out of a workforce of 84 000
• Clothing industry contributes 20 of GDP and 70
  of exports

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Global garment industry dynamics and country
constraints

• Post the MFA era a three-legged network has
  emerged
• production strategy coordination is driven from
  Taiwan/Hong Kong
• Production Lesotho
• Market strategy, design and sales US/Europe
• It is a buyer driven value chain but key
  decisions are taken on responses to this at
  production coordination hubs. Actual production
  hubs are very disconnected.
• TNC articulated constraints which has impacted on
  the sector
• Future status of 3rd country fabric provision
• the Maloti-Rand which is pegged to the ZAR,
  Lesothos garments exports become less
  competitive when the Rand appreciates
• Low productivity and wage demands
• lack of local fabric mills (1 denim plant)
• water quality and quantity
• problems with solid waste disposal
• inefficient transport infrastructure impacting on
  lead times
• excessive bureaucracy within Lesothos government
  departments
• These concerns led to the formation by the
  Lesotho government of an Inter-Ministerial Task
  Team (IMTT) to address business concerns and
  create a viable environment for employment
  generating firms

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Lesothos experience with linkages

• This local SME service and supply linkages were
  not a priority for
• Government This is all about jobs
• TNC garment firms It is not our job to resolve
  the countrys economic problems. Things are
  already tough for us.
• Some attempts were made to secure outsourcing
  contracts but failed due to supplier shortcomings
  and financing problems.
• Indirect linkages with a service orientation have
  been generated
• Accommodation
• Transport
• Business and legal services
• New attempts are being contemplated by BEDCO but
  limited success forecast without comprehensive
  support mechanism

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Findings Lesotho apparel

• Limited scope to engage local SMEs Ownership
  structure, lack of interest by global players and
  the nature of global sourcing hinders linkage
  activities. Most decisions made in Taiwan - e.g.
  Trims pre-approved in Taiwan
• No particular policy to create linkages, existing
  linkage activities are of an ad hoc and informal
  nature (e.g. transport, packaging, s-printing)
• Lesotho government priority is employment
  creation and no consistent engagement has been
  pursued with TNC firms
• Competition for FDI and the need to create
  employment is a major challenge for the
  government that dominates interaction
• Lesotho SMEs lack the requisite capabilities to
  produce for TNCs. Major issues relate to quality,
  poor work ethics, pricing.
• The combined effect of complex sector conditions,
  a meek government and unwilling TNCs does little
  to encourage linkages.
• Is there any scope for Lesotho to use this TNC
  investment as a basis for future
  industrialisation? especially with AGOAs
  limited lifespan.

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SA SMEs in Toyotas global value chain
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SMEs in South Africas auto sector

• Prior to the restructuring of the early 1990s SA
  SME suppliers were
• Diversified operations supplying the auto sector
  as just one of their markets
• Producing products of low value, low volume and
  low technical specifications
• Operating licensed technology - much of it quite
  outdated
• Reliant on personal and relatively informal trust
  relations rather than formal contracts
• Often kept in the dark about OEMs strategy and
  price was the dominant aspect in many procurement
  decisions
• Weak performers in relation to international
  benchmarks
• One could conclude that they were marginal
  players in a relatively truncated South African
  automotive value chain

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SMEs in South Africas auto sector

• Since the early 1990s SME suppliers have
• Restructured relationships with domestic OEMs who
  have in-turn slotted in into global supply
  relationships
• Needed to acquire complex standard and quality
  certifications
• Either had to forgo the automotive market or to
  remain part of it
• As aftermarket producers
• As scaled up volume suppliers to the OEMs
• Required major capital investment and
  re-organisation of production systems to maintain
  a foothold in automotive supply
• Participated in emerging networks of
  collaboration between SME suppliers and the OEMs
  to deal with common problems
• And have been supported through the Governments
  Motor Industry Development Programme (MIDP)
• Some supplier firms have strengthened their
  position in the value chain whilst for many their
  experience has been one of increased
  marginalisation

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A look at some of the impacts

• SAs auto industry is now connected with the
  global arena
• Since 1995 exports experienced a 9-fold increase
  from R4.2 to R39.2 bn in 2004
• SAs share of global auto production was 0.61 in
  2000 and grew to 0.79 in 2006
• Total vehicle production in 2006 was 621 900
  units more than double the units produced in
  1999

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Toyota and its SME suppliers

• In the late 1990s
• TSA produced 80 000 units across seven model
  platforms
• Almost exclusively for the South African market
• It had 154 suppliers
• 28 of suppliers to TSA could be characterised as
  global sourcing partners
• In 2007
• TSA will produce over 200 000 units mainly across
  two models
• 65 of production will be for export to Europe
• The firm will have 78 suppliers (to be reduced in
  the next few years to 62)
• 82 of suppliers which will be what TSA refers to
  as global sourcing partners
• Global sourcing had seen South African costs for
  the production of the Corolla reduced by 32 in
  the past 5 years
• Between 2003 and 2006 the proportion of supply
  into TSA from suppliers not party to global
  sourcing arrangements dropped from 41 of total
  sourcing to 18
• The value of local purchasing has increased in
  this period from R2.3 billion to R5.4 billion.
  Today 70 of the Hilux is sourced locally up from
  60 five years ago.

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Changing component supply proportions to Toyota SA
Local SMEs
Local SMEs
Local SMEs
Imports
Imports
Imports
Locally based MNCs
JVs Local SMEs and MNCs
Locally based MNCs
OEM aligned MNCs
Locally based MNCs
JVs Local SMEs And MNCs
Prior to liberalisation
Early liberalisation
Alignment with Toyota GVC
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Exploring SAs SME policy response?

• South Africa has sought to develop industrial
  policy and SME support systems favourable to
• reducing the bias against SMEs in the large-firm
  dominated economy, and
• responding to growing international competition
• However, the bulk of SME support has been geared
  to relatively recently established
  micro-enterprises
• Some automotive component firms did qualify for
  some limited support such as that offered through
  manufacturing advisory centres
• National sector strategies identified the
  imperative of supporting the role of SMEs and the
  MIDP created the space for a continued presence
  of SMEs in OEM supplier processes, but beyond
  creating the space there was little in terms of
  meaningful SME support
• Government at the national, provincial and local
  level did, for a time, support nascent regional
  clusters of firms engaging in networking
  activities
• It has been the locally framed cluster/firm
  networking activities such as the Durban Auto
  Cluster and KZN Benchmarking Club - to which SME
  firms and OEMs attribute most of their linkage
  successes MIDP was a necessary but not
  sufficient condition

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Some reflections by the SA SMEs on GVC
participation/linkages

• Positive
• Improved growth potential for firms on basis of
  increased volume orders allowing for scaling up
• Investment and technical support
• Access to knowledge networks of intermediary
  supplier firms
• Greater strategic engagement on new model
  platforms
• Negative
• Threat to risk-diversifying non-auto activities
  the need to specialise
• Profit margins shrinking despite adoption of
  required standards
• Inability to leverage many auto-supply systems
  and standards to other markets (no scope to
  recover investment through increased premiums)
• Uncertainty about character of MNC suppliers
  acting as intermediaries with OEMs

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Auto SME policy issues in SA

• Supporting improved access of SMEs to GVCs must
  be combined with enhancing benefits to SME firms.
  This requires the examining of
• Global trade compacts, investment protocols and
  industrial policy frameworks
• Continuous upgrading support for firms (quality,
  delivery reliability, innovation, lead time
  flexibility etc)
• Countries need to continue to attend to basics of
  infrastructure quality, services costs and other
  operating environment factors in non-core sites
  where SMEs operate
• Failure to address these weakens the SMEs links
  to chains of production
• The importance of physical proximity for
  integrated JIT suppliers OEMs is being challenged
  by the growing importance of networked supply at
  key GVC nodal points often via first tier
  suppliers
• Therefore SME support frameworks need to
  accommodate globalisation of firms and be
  flexible in relation to new geographies of firm
  activities
• SMEs also continue to emphasise enhanced local
  networking with OEMs and their first and second
  tier follow suppliers. These need ongoing policy
  support with an emphasis on active and not just
  passive collaboration.

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Reflecting on the 3 cases

• FDI processes without negotiated and facilitated
  linkage effects to host country SMEs is a missed
  opportunity
• Active facilitation and support from a range of
  institutions is critical to ensure the programmes
  function effectively
• Firm and sector dynamics do matter in that they
  impact on the scope for and nature of linkage
  opportunities
• The approach of TNCs to FDI in specific contexts
  is important both in terms of TNCs position in
  the value chain and in terms of their attitudes
• Host country governments, regional bodies and
  multi-laterals should work collectively to extend
  and enhance linkage processes alongside FDI
  related efforts in fields such as
• tax/royalty/incentives regimes
• regulatory reform
• export infrastructure