International Investment:

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Lesson 2

• International Investment
• Theory and Practice

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Lesson 2 International Investment

• Reading Chap. 3, Book 1 Chap. 2 3, Book 2
• Overview
• Foreign Indirect Investment vs. FDI
• Investment vs. Speculation
• Motives for Making FDI
• Organizational Forms of Multinational Enterprise
• Characteristics of the Multinational Enterprise
• Modern Theories of FDI and Multinationals
• Porters Diamond Model
• Cases
• Nestlés Global Drive
• A Global Challenge for Kodak
• Aflacs Success in Japan

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2.1 The Scope of International Investment

• 2 types (1) Foreign Indirect Investment (FII) or
• International Portfolio Investment
• Investing on international financial assets.
• e.g. foreign bonds or stocks
• (2) Foreign Direct Investment (FDI)
• Establish joint venture or subsidiary
• Note FII can be transformed into FDI.
• Under what condition?
• The shareholding of a company exceeds
  10 of its stock in most cases.
• 2.1.1 International Portfolio Investment
• Q How do investment speculation differ? Any
  example?

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Look at great investors speculators

• Find the differences between
• investment speculation
• Warren Buffett George Soros
• God of Stocks Greatest Money Manager

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Q. How do Investment speculation differ?

• (1) Targets
• Mainly stable income v.s.
• profiting from price changes
• (2) Strategies
• Long-lasting war v.s. quick battles
• (3) Tools
• Fundamental analysis v.s. technical analysis
• (4) Style
• Prudent (???) v.s. aggressive (???)

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2.1.2 Foreign Direct Investment (FDI)

• FDI is made to establish
• (a) International ownership control
• Establish joint venture or subsidiary
• (b) Multinational Operations
• Case
• Nestlés Global Drive
• (1) How does Nestlé display basic characteristics
  of the Multinational Enterprise (MNE)?
• (2) Whats the motive for Nestlé to invest in
  other countries? Generally speaking, what are
  different motives for the MNEs to make FDI?
  Explain.

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(1) Basic characteristics of the MNE

• ?Monopolistic advantage
• It is derived from certain proprietary
  intangible assets, such as superior managerial
  skills, patented and unpatented innovations.
• ?International ties of common ownership
• It enables the parent and its subsidiaries to
  draw on a common pool of resources such as
  patents, trademarks, research facilities,
  information and human capital.
• ?Transnational intrafirm trade
• More than 60 of world trade takes place
  within multinational enterprises.

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(2) Whats the motive for Nestlé to invest in
other countries? In general, what are different
motives for the MNEs to make FDI?

• Motives
• To seek
• (1) market
• (2) cheap labor
• (3) raw materials
• (4) information and technology
• (5) free trade
• (6) tax reduction.

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2.2 Organizational Forms of the MNE

• Does MNE or MNF differ from MNC or TNC?
• MNE (Multinational enterprise), MNF
  (Multinational firm)
• MNC (Multinational Corp. ) TNC (
  Transnational Corp.)
• The Multinational Enterprise (MNE) can take any
  of the following legal forms
• Sole Proprietorship One owner with unlimited
  liability
• PartnershipMultiple owners with unlimited
  liability
• CorporationStockholders with limited liability
• Operational organization in foreign countries can
  be
• Branch No independent legal status.
• Subsidiary Independent legal entity entitled
  to issue its own stock and bonds.
• QIs there an one-person-corporation, i.e.,
  shareholding company?

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Caribbean??????????(BVI)
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BVI on the Caribbean Sea

• A corporation set up there
• a. pay no taxes
• b. can have only one shareholder
• c. can have one board member
• d. neednt issue an annual report
• e. can use any currency for registration
• f. can use any amount for registered capital.

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Case Study

• Aflacs Success in Japan
• Discussion Questions
• 1. Based on Aflacs experience, what conditions
  should a firm have to make foreign direct
  investment in a foreign country?
• 2. Can its success be duplicated in China?

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Case Aflac in Japan

• American Family Life Insurance of Columbus
  founded in
• 1955. Now its the worlds leading seller of
  cancer insurance,
• and one of the most successful foreign companies
  in Japan.
• Founders John Amos
• Tipping Point John attended the Osaka Worlds
  Fair in
• 1970, and saw people wearing masks for
  fear of
• getting sick. He came up with the idea of
• selling cancer insurance to
  Japanese.
• Events In 1974, it started its business in
  Japan
• In 1994, it insured one in four
  Japanese households
• The subsidiary generated 70 of Aflacs
  pretax earnings
• Between 1990 and 2002, the subsidiary
  repatriated over 1 billion to the parent
  company.
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  
  

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Digression Basic FDI Theories

• (1) FDI Advantage Hypothesis
• Seminal analysis of the MNF by Stephen Hymer
  (1960), who introduced industrial organization
  theory (IOT) to the study of FDI.
• IOT explains firms performance under different
  market structures .
• Q. Whats the basic problem of making FDI?
• Foreignness
• Firms proprietary asset
• Firm-specific advantage
• compete against local
  firms make FDI

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(2) Internalization Theory

• Peter Buckley Mark Casson
• Q. Given the costs of foreignness, why does the
  MNF choose internalization over market
  transactions?
• Basic views
• A?Internalization of proprietary assets can best
  realize their full value
• B?The MNF is the result of internalizing markets
  across national borders.

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(3) OLI Advantages Theory

• According to John H. Dunning, The MNC must have
  three advantages
• (i) Ownership advantage a proprietary asset to
  give it firm-specific advantage
• (ii) Location advantage favorable investment
  conditions as country-specific advantage
• (iii) Internalization advantage Internalization
  of the proprietary asset across national borders
  can best realize its full value.

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Case Aflac

• Q. 1. Based on Aflacs experience, what
  conditions should a firm have to make FDI?
• Answer
• 1. (1) Ownership Advantage
• The firm possesses proprietary knowledge
• (2) Location Advantage
• Japan is a well-developed economy. Income and
  purchasing power are high. Besides, in-house
  sales subsidiaries in Japanese corporations can
  be set up to handle insurance sales.
• (3) Internalization Advantage
• Aflac cannot realize full value of its
  proprietary asset through market transactions
  like franchising.

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2. Succeed in China? Application Porters
Diamond Model
Government

Firm Structure, Strategy Rivalry
Factor Conditions
Demand Conditions
Related Supported Industry
Chance
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Porters Diamond Model Applicable to China
Government

Firm Structure Rivalry ( in-house sales
subsidiaries, allowed,efficient foreign
insurers, intense competition)
Factor Conditions (plenty human resources, low
cost, good infra. modern communication
Demand Conditions (more civilian-run firms,
rising income, medical system reform credible
foreign insurance)
Related Supported Industry (fast-developing
financial industry, more investment channels,
rapid expansion of foreign banks)
Chance
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Case Aflac

• Q (ii) Can its success be duplicated in China?
• Compare
• Factor conditions
• Firm structure rivalry 0
• Demand
• Supporting industries
• Government -
• Chance
• On the whole, there are location
  advantages.
• In addition, Aflac has a proven business model.
  Thus, success is very likely.

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Theoretical Issue FDI as a Currency Area
Phenomenon

• According to Aliber, a financial economist
• Foreign direct investment is a currency
  area phenomenon.
• Firms in countries with strong currencies have
  a currency-area advantage. They can acquire
  foreign firms and production facilities at low
  costs in countries with weak currencies.

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Q. In 1950s and 1960s the dollar was quite

• strong, and U.S. made substantial FDI in
  Europe and other countries. During the 1970s and
  early 1980s, German mark and Japanese yen were
  appreciating, and there were extensive German and
  Japanese outward investments and the invasion of
  the U.S. by European MNFs. Given this
  development, Alibers theory seems to explain
  well the direction of MNFs investment in the
  post-war world. But Alibers theory has never
  been widely accepted, why?

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Why not widely accepted?

• Its drawbacks
• (1) FDI is a long-term strategic commitment
  while current currency value is a short-term
  phenomenon. Relying on the short-term market bias
  to account for the long-term decision making is
  not logically convincing.
• (2)It is inadequate to explain cross-investment
  between currency areas.

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CaseA Global Challenge for Kodak

• (p12, Book 1) Kodaks crisis
• In early 80s, Fuji had control over 70 of
  domestic film market, and started an aggressive
  expansion into north America and European
  markets, which threatened Kodaks dominant
  position there. Worse yet, Fuji undercut prices,
  and captured large market share, Kodaks profit
  sagged.
• (1) What mode of entry did Kodak use for Japanese
  market prior to 1980s? Why?
• (2) What strategy did Kodak adopt to
  counterattack Fujis aggressive expansion into
  North America markets? Why?
• (3) How can Kodak thrive in the new era of
  digital cameras?

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(1) Licensing. Kodak underestimated Japanese
rivals

• (2) From licensing to export joint venture
  strategy
• Set up joint venture with a Japanese
  distributor, establish its distribution and
  marketing channel, and spend heavily on
  promotion.
• Reasons for the Strategic Change
• a. Exports FDI can bring in more profits than
  licensing
• b. Offense is the best defense.
• Outcome
• Kodak had great success in Japan. In 1990,
  its sales in Japan reached 1.3 billion. Fuji had
  to defend its home market, and withdrew a group
  of best senior executives from abroad.
• (3) Be a leader in digital cameras, or diversify
  its biz?

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Recapitulation

• ?International Portfolio Investment differs from
  FDI
• ? Investment and speculation have different
  characteristics
• ? MNE can take various legal organization forms
• ? Main motivations for FDI are seeking resources,
  markets, and efficiency
• ? Mode of entry into a foreign market is an
  important strategic decision (Kodak)
• ? OLI advantages theory offers a guideline for
  making FDI decision
• ? Porters diamond model provides a useful
  framework for evaluating location advantages.

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Reminder

• After the class discussion of the case, you
  can receive bonus points if a short report is
  submitted. It should compare analyses of the
  professor and others with yours. New ideas may
  also be provided. This report is not required,
  but you are encouraged to do so.
• If you want to do the report, it should be
  submitted at the beginning of the next class. An
  electronic copy should also be sent to TA and my
  e-mail box before the next class.
• Note
• Learning is an exciting journey of new
  discoveries!

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Preparation for the Next Class

• Topic International Trade Theory Practice
• Reading Chap. 4 5, Book 1 Chap. 3 17, Book
  2
• Content Rationale of International Trade
• International Trade Terms
• Remittance Collection
• Letters of Credit
• Case Study An Exchange between Tom Huck
• Can Lee Wang Help Each Other?
• An unexpected development
• What type of L/C is it?
• Note
• Knowledge acquisition vs. skill acquisition
• There are tricks of trade!