FDI remains a key element in the rapidly developing globalization process and it provides
means for creating direct, stable and long-lasting links between economies. FDI can also
serve as an important vehicle for local enterprise development, and it may also help improve
the competitive position in the receiving economy. FDI encourages the transfer of technology
and know-how between countries, and it provides an opportunity for the host economy to
promote its products more widely in international markets. Additionally, FDI has a positive
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effect on the development of international trade (OECD Handbook on Economic
Globalization Indicators, 2005). FDI plays an important and growing role in international
business since it can provide a firm with new markets and marketing channels, access to new
technology, products, skills and financing, as well as cheaper production facilities. For a host
country or foreign firm that receives the investment, it can provide a source of new
technologies, processes, capital products and management skills, which in turn can provide a
strong impetus to economic development (Graham and Spaulding, 2004).
The United Nations Conference on Trade and Development (UNCTAD) has defined FDI as
“an investment made to acquire lasting interest in enterprises operating outside of the
economy of the investor”. In cases of FDI, the investor’s purpose is to gain an effective voice
in the management of the enterprise. The foreign entity or group of associated entities that
makes the investment is termed the “direct investor”. Another important term is “direct
investment enterprise”, which refers to the unincorporated or incorporated enterprise-a branch
or subsidiary, respectively, in which direct investment is made. Some degree of equity
ownership is almost always considered to be associated with an effective voice in the
management of the enterprise. The Balance of Payments Manual, which has been developed
by the IMF, suggests a threshold of 10 percent of equity to ownership to qualify an investor as
a foreign direct investor. This is the level of participation at or above which the direct investor
is normally considered as having an effective say in the management of the enterprise
involved. However, countries differ in the threshold value for foreign equity ownership,
which is seen as evidence of a direct investment relationship. As mentioned it is suggested to
be at 10 percent for FDI, for data on the operation of Transnational Corporations (TNC) it
involves chosen ranges of between 10 and 50 percent. Countries that do not specify a
threshold point rely entirely on other evidence. This included the companies’ own
assessments as to whether the investing company has an effective voice in the foreign firm in
which it has an equity stake. The quantitative impact of differences in the threshold value
used is relatively small, owing to the large proportion of FDI, which is directed to the
majority-owned foreign affiliates.
It is necessary to define which capital flows between the enterprise and entities in other
economies should be classified as FDI, once a direct investment enterprise has been
identified. Only capital that is provided by the direct investor either directly or through other
enterprises related to the investor should be classified as FDI, since the main feature of FDI is
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taken to be the lasting interest of a director investor in an enterprise. Equity capital, the
provision of long-term and short-term intra-company loans (between parent and affiliate
enterprises) and the reinvestment of earnings are the forms of investment by the direct
investor, which are classified as FDI. To get a deeper understanding for FDI one need to
understand the difference between FDI and other types of investments. Direct investors have
different investments motives than investors in portfolio investments. Investors that invest in
FDI intend to have a long-term relationship with the foreign company to enable them to have
a significant influence on their management. Portfolio investors or other investors may also
have a long-term outlook, but they have no intention of establishing a long-term relationship
with the management of the foreign company in question. Portfolio investors either invest a
relatively small amount in the voting shares of the foreign company or acquire other types of
claims in the foreign company (UNCTAD, 2009).
In the past decade, FDI has come to play a major role in the internationalization of business.
New information technology systems and decline in global communication costs have made
management of foreign investments far easier than in the past. Proponents of foreign
investment emphasize that the exchange of investment flows benefits both the home and host
country (Graham and Spaulding, 2004)