Direct Foreign Investment and Country Risk

Vocabulary practice flashcards covering Direct Foreign Investment (DFI), joint ventures, facility expansion, strategic alliances, licensing, and country risk assessment.

Country Risk

A subjective method to assess the risk of foreign projects or acquisitions, often evaluated on a scale of $1-10$ or $1-100$ (e.g., comparing North Korea and South Korea).

Methods to Apply Country Risk

Two financial adjustment methods used when assessing foreign project risk: 1. Adjust cash flows, and 2. Adjust discount rate.

Categories of Country Risk

The three primary classifications evaluated when assessing country risk: Political, Financial, and Resources.

Determinants of National Prosperity

Factors explaining why some countries prosper while others do poorly: government (corruption and dictatorships cause poor performance), natural resources, and human resources (e.g., Japan).

Joint Venture

A $50/50$ ownership structure between two companies, frequently required by some foreign governments (e.g., China requiring GM-SAIC) or used when project scope is large (e.g., Government Defense: L.M., Raytheon, German Missile Defense).

Benefits of Joint Ventures

Strategic advantages that include gaining political influence, acquiring knowledge of markets, gaining technology, and sharing costs and risk.

Drawbacks of Joint Ventures

Disadvantages that include conflicts of interest, difficult ability to exit, high expenses, and the potential to create a competitor.

Building Facilities

A method of establishing foreign production facilities that offers more control to the firm but takes longer to execute.

Acquiring Facilities

A method of establishing foreign operations (often used for services) where a workforce is already in place and sales channels are established, though it is more expensive.

Strategic Alliance

An arrangement involving joint operation and joint ownership in each other, exemplified by auto manufacturers where Toyota owns $20\%$ of Subaru and Subaru owns $5\%$ of Toyota.

Direct Foreign Investment (DFI)

Capital investment made directly for business operations, including building or buying facilities for production, sales, distribution, or acquisition of raw materials, as well as buying copyrights or patents.

Non-DFI Activities

Passive investments and financial allocations not made for business operations, including hedging activities, stocks, ADRs, bonds, and employee compensation or fringe benefits.

Reasons for DFI

Operational motivations to invest abroad, such as increasing sales, decreasing costs (cheaper labor, locating near raw materials, acquiring foreign technology, reacting to exchange rates), multiple sourcing, avoiding trade barriers, keeping current customers, international diversification, and maintaining control of intangible assets (e.g., Coca-Cola).

Unstated Motivations for DFI

Incentives for direct foreign investment that are not publicly highlighted, including lower regulatory standards and tax loopholes (e.g., the "Double Irish Dutch Sandwich"), which account for $40\%$ of DFI.

Factors Making DFI Less Attractive

Conditions that disincentivize direct foreign investment, specifically a strong foreign currency, political or economic instability, and a poor legal system.

Licensing and Franchising

Non-DFI entry methods whose benefits include local expertise, a revenue source, and lower costs, but whose drawbacks include lower revenues, loss of control, and the risk of creating a competitor.