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Unit 27: FDI : Types and Issues

view many of these incentives as uncertain over time and marginal in importance by comparison Notes
with long-term market considerations.
Market-development investment is marked by many uncertainties of the most central kind from a
business standpoint : How quickly will a market develop ? Can the firm speed up the market-
development process ? What share of the market can the firm capture ? Owing to these and other
uncertainties regarding product acceptance and market development, many manufacturing firms
are likely to prefer to explore the market initially by exporting. As the market develops and investors’
knowledge and confidence grow, and they become more familiar with the risk involved, they may
expand gradually into assembly activities.
This type of investment may be illustrated by the following examples, as reported in Reuber. A major
manufacturer of tractors approached the Brazilian market by exporting initially and working directly
with Brazil to establish a strong local distribution network. This required extensive training of Brazilian
distributors, not only in how to sell tractors but also in how to use, service and repair them. In many
cases certain business practices were also transferred, such as inventory control for parts and record
keeping for internal control purposes. The Brazilian distributors were allowed to make attractive
margins in return for their inputs. The distribution system added more value to the host country than
did the company’s eventual manufacturing activities. Furthermore, after the firm had developed a
large-enough market to begin the integrated manufacture of tractors in Brazil, the distribution network
proved effective in handling imported combines and other farm equipment as well. The firm’s next
step was to develop the integrated manufacture of combines in Brazil, and the gradual diversification
of the product range is expected to continue into the future.
A second example in Reuber relates to a major US chemical company which bought out the only local
plastics manufacturer in a small Latin American country and operated on a reasonably profitable
basis. The American firm was not very interested in the modest return available from the existing
firm, but was interested in the potential returns after market development and the related infusion of
technology. Their long-term objective was to create a technologically advanced self-contained plastics
industry in the host country as they knew that the existing manufacturer was operating with old
technology and that the inferior quality of the output limited the number of possible end users.
Furthermore, the size of the market as it stood was less than half that required to justify building the
new facilities using new technology needed to bring about market growth. The American firm’s
strategy in the light of these conditions was three-fold :
(i) to develop the country’s market potential; (ii) to export more sophisticated products from other
countries to the host country; and (iii) to build a new plant with advanced modern technology in the
host country after the market had developed to a sufficient level. An important feature of such a
strategy is that it is very long term in its conception. This strategy also looks more creative and will
benefit both the investor and host country.
Market-development FDI takes many different forms. A major aluminium company began its
operations in India by selling aluminium pans and utensils door to door. Over time this led to
fabricating activities, bauxite mining and smelting within India, thus forming a well-integrated local
industry. The key feature to be noted in this process is that the building of production facilities
followed the development of demand, and that the development of demand was a risky and time-
consuming activity requiring extensive transfers of managerial and technological skills.
With this type of investment, host countries have considerable bargaining power in their relationship
with the investors seeking to establish a foothold in their domestic markets.
As the economy expands, new investors are attracted, creating some competition among investors
for available market opportunities. In these circumstances, it may be possible not only to reduce any
concessions that may have been extended to foreign investors initially but also to insist on certain
concessions from these investors relating to such matters as local ownership, local content in products
and reinvestment without interfering significantly with the inflow of investment.

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