-

UNIT 10 CORPORATE STMTEGY AND

FOREIGN DIRECT INVESTMENT

Structure
Objectives
Introduction
Meaning and Theory of Multinational Corporations
Strategies of Multinational Corporations
Meaning and Rationale of Foreign Direct lnvestment
Corporate Strategy, Joint Ventures and Global Expansion
lndian Regulation of Foreign Direct lnvestment and Guidelines
Foreign Exchange Regulation : FERA and FEMA
Let Us Sum Up
Key Words
Answers to Check Your Progress
Terminal QuestionslExercises

10.0 OBJECTIVES
After studying this unit you should be able to :
?

*
*

explain the meaning, strategy and rationale of multinational corporations

discuss the rational of foreign direct investment
analyse corporate strategy regarding joint ventures and global expansion
throw light on Indian regulation of foreign direct investment and FERA and FEMA

10.1 INTRODUCTION .
As you know the companies and customers have become international. Therefore, the
n~imberof investors has been increasing. They are buying the shares of multinational
corporations. Multinational corporations try to create the value of their shareholders by
investing in the projects abroad which have positive net present value. In order to earn
return on their projects, multinational corporations must be able to transfer abroad tlrcil.
sources of domestic competitive advantage. For this, they have t o plan a strategy for
global expansion and joint venture which they undertake abaord.
In this unit, you will letirn about the meaning and strategy of multinational corporations
and rationale of foreign direct investment. You will also learn about the corporate stratcgy
joint ventures and global expansion and Indian regulation and guidelines of foreign dircct
investment and foreign exchange regulation - FERA and FEMA.

10.2

MEANING AND THEORY OF MULTINATIONAL

CORPORATIONS

The history of multinational corporations (MNCs) can be traced to ancient times when
lndia was a leading player in international commerce.
According to Kautilya's Arthasastra, hundred per cent quality control on exports, as wcll

as imports, was the watch word in that regime. That can be described as the first stage in
the development of multinational corporations, The second stage can be identified with
the appearance of commercial revolution in England, alongwith the craze for colonisation
on the part of several European countries, some five hundred years back (around 1500
A.D.) in the wake of the then time-honoured doctrine of Mercantilism. It implied
augmentation in the stock of precious metals like gold and silver through favourablebalances of trade. The East lndia Company belonged to that genus, though it soon
turned political.

lllvcsting i n Foreign
Operations

The third stage, most relevant to current international business, is a Post-Industrial

revolution phenomenon which has blossomed largely in the twentieth centuly. The
approximate take-ofydates were, according to Rostow, 1783- 1802 for Great.?ritain, 1 830-60
for France, 1843-60 for the United States, 1850-73 for Germany, 1878-1900 for Japan, and
1890-1914 for Russia. In this game, India (which is said to have entered the take-off stage:
in 1952 alongwith China) and many other developing cor~ntrieshave been largely at the
receiving end. MNCs, having developed countries as their "home", have often extended
their industrial aclivity through their subsidiaries to "host" countries of the developing
world. Of late, some MNCs of Indian origin, too, have tried to replicate their
manufacturing and service activities in other countries,'not only the less-developed ones,
but even some of those which are deemed to be advanced. The following five basic
criteria were laid down for a multinational company by Mr. Jacques G Maisonrouge,
President of IBM World Trade Corporation (a subsidiary of International Business
Machines Corporation) :
1)

It nlust do business in many countries. I don't think that a company doing

business in two or three countries can be considered multinational; it must be in
many countries that are in different stages of econo~nicdevelopment.

2)

It must have foreign subsidiaries with the same R & D,manufacturing, sales
services, and so on, that a true national entity has. You can't prepare general
managers if you have only a sales organisation.

3)

There should be nationals running those local co~npanies;they understand the

local scene better than anybody else, and this lielps promote good citizenship.

4)

There must be a multinational head quarter, staffed with people coming from
different countries, so one nationality does not dominate the organisation too
much.

5)

There must be multinational stock ownership the stock must be owned by people
in different countries.

Mr. Maisonrouge concedes that. in perfect fulfilment of these criteria, there is no truly
multinational company. So, a more pragmatic definition has been offered by Professor Om
Prakash of Jaipur, as follows (at the fourth world congress of economists, Budapest) :
"MNC is a corporate undertaking whose industrial operations are based in more than two
countries and whose decision-making process is based on an overall strategy." The new
slogan is "Think Global, Act Local". This supports the first criterion that the MNC must
bring within its ambit many countries that are in different stages of economic
development, so as to subserve a high degree of economic complementarity. Again, the
overall complexion of the MNC must not appear to be the replica of any one nationality.
Moreover. mere selling agencies do not amount to inultinational corporations which must
have sufficiently strong 'production base' of a comparablc character in a number of
countries.
Professor C.P. Kindleberger of MIT, in his lectures on direct investment, had used the
term Internatioqpl Corporation "which has no country to which it owes more loyalty than
any other to which it feels completely at home." In an ideal situation, this would lead to
the Theory of Equi-distance amongst various countries covered by the International
(Multinational) Corporation. The term Transational Corporation (TNC) has been' in vogue
so far as some international official documents are concerned. In letter, any corporation
which transcends a national boundary can be called a TNC. But, in spirit, n TNC is much
more than a Binational Corporation (BNC) whose activities are confined to just two
countries, such as "India and Nepal" or "USA and Canatla". According to UNCTAD
World Investment Report 1995, the global sales of 250,000 foreign afliates of 40,000 TNCs
exceeded $5,000 billion. They controlled over 80 percent of world trade and 90 percent of
patents worldwide. The sales of the four biggest TNC exceeded the GDP of all African
countries.

6'

--

According to Fortune (American) 1997 list of 500 Global Corporations, about one-third
(162) had USA as their home country, while roughly one-fourth (126) had their origin in
Japan. France (42), Germany (41) and Britain (34) put together accounted for another
(close to) one-fourth of the Fortune 500 (1997) list. As many as 405 (over 80 per cent) of
these MNCs belonged to these five countries.Am,ongst the top ten, no less than six were
of Japanese origin. while three were Americans and only one European. In the 1997 list,
the first three positions were held by General Motors (USA), Ford (USA). and Mitsui

(Japan). The Japanese MNCs had been at the height of their glory in the Fortune 500 of
1995when they numbered 149, close to USA's record of 151, the top four MNCs being all
from Japan. By 1997, American MNCs were able to recover much of their lost ground.
Both in 1995 and 1997, Royal Dutch Shell was the only MNC of European origin
appearing amongst the top ten. The annual turnover of USA's General Motors in 1996
(basis for its first rank in the 1997 Fortune 500 list) amounted to $168 billion (Rs. 5.88,000 .
crore), over ten times. The gross turnover of Indian Oil Corporation, the leading Indian
major finding a place amongst Global 500. Earlier, on the basis of 1994 revenues, the
Japanese MNC Mitsubishi had occupied the first rank, in the Fortune 500 list of 1995,
with an annual turnover of $176 billion.

10.3 STRATEGIES OF MULTINATIONAL

CORPORATIONS
What are the vital strategies adopted by MNCs? And, on what theories are these
strategies based? Let us start with the strategy of PYRAMIDING which aims at maximal
clout with mininial investment. In legal as well as conlmercial parlance, it implies the use
of holding company device. Legally, a holding company (holding corporation) is one
which holds major ownership interest (5 1 per cent) in another company which is called
the subsidiary company (subsidiary corporation).
Commercially (in an operational sense), multinational corporation may be able to reap tlie
major benefits of holding company control even with small minority stakes. In this
process, the number of (directly or indirectly) controlled companies grows by geometric
progression. Thus if, in the first stage, the primary holding coinpany controls three
intermediate holding companies, the latter, in their turn (second stage), would be able to
control anothei nine companies, presu~nmingthat three companies are controlled by each
intermediate holding company. The following figure (Fig. 10. I) illustrates the position.
The Strategy of
PYRAMIDING

Fig. 10.1 : Here 'A' is Apex Holding Compa~ly(vertex of the Multlnntlonrl Croup). n, C
and D are Intermediate Holding Compnnles (say, i n An~erlcn, Europe and Japnn)

'

E. F, C, H, I, J, K. L and bI are subsldlnry companies. .

,,I

Corpc~rateStrntesy and
Iiorcign Direct lnvcstment

Investing in Foreign
Oper~tions

It1 all, there are 13 co~npaniesin the Multinational Group, as depicted in Fig. 10.1. If the
pyraniidal chain were prolonged further (next stag?) in the same ratio. there would be an
addition of 27 (sub) subsidiary companies, carrying the total tally of the ~ultinational
Group to 40, However, please do not think that there is any sanctity attached to a ratio
of three. It could be two, four, five or any other lumber. If this ratio is taken to be five.
there would be 31 companies at the third stage and 156 companies at the fourth stage in
this chain. Again, please remember that different ratios may operate at dit'ferent stages,
and even within the same stage. For example. the Apex Multinational may hold only two
companies while one of these Intermediate Holding Companies controls tc~i(and another
such compaliy controls five) subsidiary companies. Thus, in all, there may be 18
companies in the Multinational Group.

Coming back to Fig. 10.1 let us try to find out the amount of investment which the Apex
Multinational would be required to make for controlling (he other (one dozen) companies
in tlie Group. For the sake of convenience in calculation. let us assume that the nine
subsidiaries (third stage) have a share capital of $100 million each. So. each one of the
tliree intermediate liolding companies would be called upon to make an investment of
$153 (51 x3) million, presuming that shares are sold at par, and that 5 I pel- cent share
holding is necessary for the purpose. Keeping in view other needs of these three
conipanies (second stage). the share capital of each such company may be taken to be $
300 million. The Apex Multinational would now need $459 million to (directly) control
these three companies (with the same two assunlptions) having an aggregate share capital
of $ 900 million. Within the orbit of indirect control would fall the remaining nine
companies with an aggregate share capital of % 900 millbn. Taking of total view of second
and third stages, the Apex Multinational is able to control share capital amounting to $
1,800 million with an investment of just about one-fourth ($459 million). So to say, the
MNC's controlling power is about four times at the third stage, eight times at the fifth
stage. sixteen times at the sixth stage, and so on. The pyramidal magic works ~nuchfaster
if a company call be controlled with a stake much less than 51 per cent, say, by a
consolidated block of 26 or even lower percentage. However, there may be an in-built
element of uncertainty in such operational arrangements.
Synergy may be tlie theory often guiding the strategy of pyramiding, as also the
strategies of mergers and acquisitions. That is, the combined value of companies.
integrated in any of these ways, is supposed to be higher tllan the arithmetic total of tlie
values of those companies (say, I00 rnillio~i+I00 million may be equal to more than 200
million, may be, 300 million). Even if this is not so precisely. there may be a general belief
that "big is beautiful" or "more powerful".
However, this may be niore of myth than reality. As ,Elvill 'roffler records in his Powershift
(1992) tliere is mounting evidence that giant firms are too slow and maladaptive for
today's high-speed business world; not only has small business provided most of the 20
million jobs added in the U.S: economy since 1977, it has provided no st ,of the
innovation. Tlie biggest companies were reported to be most profitable. on the basis of
return on equity, in only four out of 67 industries covered by a Business Week study.
a

Yet, a few success stories and the psychosis of numbers continue to stimulate (crossfrontier) friendly, unfriendly and even hostile take-overs, mixed marriages, mergers,
of strategic
amalgamations, acquisitions, joint ventures and other ma~~ifestations
integration. In the public sector, some of the recent strategies have symbolised
diverstiture. disinvestment, privatisation and all that. Here the charm of socio-political
gains (such as winning the vote banks of trade unions tlirough employee stock
ownership) may dominate over economic considerations as such.
Transfer pricing is another well-known strategy adopted hy MNCs. It aims at minimising
tax (and other burdens) and maximising profit (and other benefits). Suppose that Asea
Brown Bover (ABB), with its roots in Sweden and Switzerland, is operating in India to
supply wagons to Indian Railways. If, at a certain point of time, the marginal rates of
income tax (corporate tax) are 45 per cent in Sweden. 35 per cent in India, and 25 per cent
in Switzerland. ABB's strategy would be to disclose maxitnum profit in Switzerland and
minimum profit in Sweden, with India as a midway zone where profits can, be allowed to
appear at a medium level. How can this be achieved?

ABB (India) can import sonie coniponents fi'om ABB (Switzerland) at an inflated cost. I f
tliese components constitute 50 per cent o f tlie total cost. a 20 per cent escalation therein
would pusli up the total cost in llidia by 10 per cent. In case the erstwhile margin of
(on cost) was 30 per cent (say, Rs. 300 crol-e on an owra11 contract cost o f Rs.
1,000 crore), the same is now reduced to 20 per cent (say, Rs. 200 csore on a contract
cost of Us. 1,000 crore). Thus the ABB (MNC) pays a tax o f Us. 70 crore (assuming a Hat
rate) in lndia as against 12s. 105 crore which would have beeti the tax liability in India on
a profit o f Rs. 300 crore. l'lie profit o f Us. 100 crore transferred to Switzerland (through
the strategy o f transfer pricing) would attract a tax liability o f only Rs. 75 crore in tl~at
country. Thus (as betweeti India and Switzerland) there may be a net gain of Rs. 10 crore.
However, this gain may stand reduced, or more than counter balanced. by the burden o f
customs duties on components imported from Switzerland. Therc may be other constraints
too impinging against the benefits o f transfer pricing. For example, Indian Railways. or tlie
Government o f India, may no1 permit the import o f such components: they may insist on
a high degree o f indigenisation. 01; supplies froni abroad tilay be impeded by transpoll
bottle necks, high costs and similar risks. Other constraints may include vulnerability o f
foreign exchange rates, interest rate fluctuations, and changes in gover~imentalrcgulatiuns
(as also their interpretations) at both ends
lndia and Switzerland.

--

How about transferring taxable incollie from ABB (Sweden) to ABB (Switzerland) or to
ABB (India)? High-paid managers may be transferred from Switzerland and India to
Sweden; atid (or), in a reverse process. low-paid nianagers may be transferred from
Sweden to Switzerland and India. This strategy o f transfer pricing will swell profits of
ABB (Switzerland) and ABB (India), while understating the level o f profits at ABB
(Sweden) which is subject to tlie highest rate o f tasatioli amongst the three countries
(units) under reference.
Alternatively. ABB (Switzerland) and ABB (India) may import mw material (say, Swedish
steel or iron) from ABB (Sweden) at low cost. As such, tlie profits declared under tlie
Swedish regime will be pushed down, while tliose under tlie Swiss and Indian regimes
would be overstated. I n fine, the overall (global) tax liability o f ABB (MNC) could. thus,
be minimised. But the feasibility o f such strategies, whether witli regard to the transfer o f
managerial services or raw materials, may be seriously jeopardiscd if the country losing
tax revenue (Sweden in this case) mounts an offensive to l~psettlie apple-cart (say.
through blanket bans, or punitive taxation). Moreover, transport bottle necks, high costs
and other risks may impede the flow o f raw materials, Again, with respect to tlie transfer
o f managerial servtces, technical and human limitations may turn out to be formidable
constraints. Even though multinational managers are supposed to have developed a
highly-adjustable global culture, some o f then may, still, be averse to inter-cotlntry
transfers. For example, a manager (with family) brought up in India's cultural traditions
may feel uncomfortable in the premissive environment o f Sweden (aod vice versa), Faniily
circumstances. state o f health, food habits, lang~~age
and coliimunication problems niay be
other factors responsible for hindering human mobility. In fact, all tliese put together lead
to built-in incotnpatibility of attitudes; these, at times, may create serious c~notional
conflict throughout the multinational group o f companies.
Two broad conclusions seem to emerge from this discussion. First, tlie MNC has to
decide whether the game o f transfer pricing is wort11 the candle, i.e., wlictlier the likely
gain outweighs the likely risk. Second, in view of tlie constant change in econolnic (and
other) variables, it may not be feasible to sustain a long-term strategy o f transfer pricing.
At any rate, it may call for review from time to time so as to be in tutie with tlie instant
situation.

Check Your Progress A

1

An Apex Multi~iatio~ial
needs 50 per cent ownership interest in each one of its
four Intermediate holding rn!r,;.'anies who, in their turn, can control I 6 subsidiary
companies with a stake o f 25 perccnt in each one. If tlie Apex Multinational liolds
shares of the face value o f $ 800 million, and all transactiolis have takcri place at
par. what is tlie aggregate parvalue of the share capital of 20 coml~aniescontrolled
by it, directly and indirectly? Presilme that intermediate holding companies use
only half o f their capital for controlling subsidiary companies.

Matsushita of Japan has set up a vertically integrated rnanufacturi~igfacility for

electrical equipment in Sri Lanka (30%). lndia (5096) and Nepal (20%). The overall
profitability position is expected to be as follows (Rupees of these three countries
being treated at par):

Year

Production
Cost
(Rupees)
Crore

LOSS(-)
Profit (+)
Break-even (00)
RupeesICror'e

Nepal has offered a tax holiday for five years without any facility of tlie cal-ry-forward of
losses. India permits carry-forward of losses without any tax holiday; there is a flat rate
of 3 0 per cent tax on profits. Sri Lanka imposes 70 per cent tax on profits willlout any
facility regarding carry-forward of losses.
You are required to work out overall tax liability of Matsushita (MNC) for the first five
years :

on the basis of proportions of production cost appertaining to the three countries

i)

(Sri Lanka, India and (Nepal):

ii)

if all the profits and losses are declared in Sri Lanka alone;

iii)

if all the profits and losses are declared in lndia alone:

iv)

if all the profits a~ldlosses are declared in Nepal i~lone,but the Government of that
country withdraws the tax holiday atler four years, and imposes a lax of 25 per
cent on the profits earlied by Matsushita.

10.4

MEANING AND RATIONALE OF FOREIGN

DIRECT INVESTMENT

Foreign Direct Investment (FDI) often involves the setting up of subsidiaries in foreign
countries for tlie domestic production of co~ninoditieslserviceswhich previously were
impel-red, say, from the parent company (pl.imary holding companylapex multinational). It
can be distinguished from Portfolio Investme~lt(PI) as follows :

$.
b)
C)

d)
e)
f)

g)

FDI
l~lvest~nent
in physical assets

Tetlds to be long-term
~ifticulftl'tbwithdraw

a)
b)

Does not tend to be speculative

Expectation of technology transfer
Direct impact on e~nployment
o f labour and wages
Abiding interest in Inanagemerit

C)
,

d)
e)

d
g)

PI
lrivest~ne~lt
in financial assets
Tends to bc short-term
Easy to withdraw
Tends to be speculative
No expectation of technology transfer
No direct inipact on e~nploymerlto f
labour and wages
Fleeting interest in managanent

The rationale of FDI may be based, inter aha, on the following consideratiolis :

0'

Conquest of emerging markets with sizeable population living in the midst of

identifiable gaps in development;

ii)
iii)

Economies of large-scale operation emanating from technological explosion:

iv)

Import barriers in host couptries elnanating from tlie spirit of Swadeslii (patriotism),
high custolns duties or blanket bans:

v)

Saving in time and tra~isportcosts;

vi)

Shortagelhigh cost of labour in capital exporting countries and cheaplabundant

labour in capital importing countries;

vii)

Surplus capital in rich countries (emanating from favourable balance of paymetits,

high per capita income or any other factors) and shortage of capitallforeign
exchange resources in poor countries;

viii)

Lower rates of interestlreturn in developed countries and higher rates of interest

(guaranteed) return in developing countries;

Lower level of econo~nicefficiency in host countries;

(i)

Internationalisation of patents (intellectual property rights) and cross flows of

technology;

x)

Influencing the physical, political, socio-economic and cultural milieu of capital

importing countries;

xi)

Creating formal, infornial and brand ~nonopoliesin a global context;

xii)

Prolnoti~igtlie optimal utilization of physical, Iiuriian, financial a~id'otlierresourccs

in a global context for alleviation of poverty;

xiii)

Strengthening socio-economic infiastructurc such or health services, roads,

transport, communication arid education; and

xiv)

Maintaining ecological balance. controlling pollution (both physical and

intellectual), and promoting peace, harmony and good neighbourly relations.

The conquest of emerging markets comes to tlie centre-stage as developed regions (say.
North America. Europe and Japan) begin to experience some kind of a saturation point, so
that FDI in populous but less developed countries of Asia. Africa and South America is
looked upon not only as an opportunity, but also as a matter of necessity by foreign
investors. Their operations, though expanded, may not, necessarily, be nlore efficient lhan
tliose of domestic players. Again, while Inany foreign players may succeed in overcorni~ig
inlport barriers (whether created by government or people's psychological preference for
domestic goodlservices), economic efficiency alone may not provide sufticient conditio~i
for survival or success. Some of the (relatively) less efficient MNCs in economic terms
may come to command clout on account of political geographical, racial and otlier exterior
considerations. While trailsport costs. labour costs, time and interest costs are impol-tant,
the real life story (success or failure) may be different from the economic rationale as
anticipated. In fact, a less efficient foreign player may have greater chance of getting
guaranteed return and such other benefits from tlie governmetit and busitless doyens in a
host country. Again, many foreign investors nlny be more interested in building up
monopolies through cultural conquest than in optimal utilisation of resources, poverty
alleviation or soundness of socio-economic overheads. So, the adoption of a village by a
foreign illvestor may not, in spite of pompous protestations, be such a positive or even
innocent affair; not infrequently, the outcome lnay be negative, such as making poor
-'Villagers used to cosmetic life and dependent on the products of Multinational
Corporation. In the ultimate analysis, far from restoring the original ecological balance,
they might have, in course of time, added substantially to the nefarious level of donrestic
pollution. Yet, it is held out in many quarters that, but for the support through FDl,
several of the Qeveloping countries would have lagged far behind in the instant race for
economic development.
China can be said to be tlie most attractive destination for net private capital flows, as
we find that its volunle rose from $1,732 millioti in 1980to $44,339 million in 1995, whe~i
her population stood at 1,200 million. By way of contrast, net private capital flows rose
dust from % 868 million in 1980 to $ 3,592 rnillioll in 1995 ~lhen'lndia.will1 a population of'

'Investing in Foreign
Operations

929 million, was a close second to China in the matter of manpower. Net private capital
flows ro Pakistan rose from $230 million in 1980 to $ 1,443 million in 1995. On per capita
basis, these flows were higher than those in India with a population morc. than seven
times that of Pakistan, For Sri Lanka. Bangladesh and Nepal, these flows were static,
negligible or negative. Countries witnessing a high water mark of net private flows include
Brazil, Mexico. Malaysia, Indonesia, Thailand, Argentina. Czech Republic, Poland,
Philippines and Chile. However, in cvery case, these flows cannot be takcn to be a sign
of strength; financial credc3ises, like the one of 1997-98, have severely gripped some of
these countries.
In India, there has been serious disparity between "Approvals" and "Actual Inflows" of
FDI as indicated below:
Foreign Direct lnvestme~~t
Year

Approvals
U S $ million

Actual
lnflows
US $ million

19%

11142

2383
3 105

1997
14858
(up to November)
Total (I991 to
November 1997) 47,242

.Actual Inflows as
Percentage
of approvals

21.4
20.9

-9.508

--

20.1

A large proportion of FDI flow to India has been routed through Mauritius, partly

because of the double taxation treaty between the two countries. USA, Germany and
Netherlands have been other iniportant sources.
To which sectors of the economy should tlie flow of FDI be encouraged, discouraged or
left to itself? Three broad approaches can be identified in this regard. First, the
conventional outlook is to encourage FDI in the core (hi-tech) sector like power (in
particular, non-conventional energy), oil exploration, teleconimunications. water resources
and bio-technology. On the other side of this coin, FDI rnay be discouraged (or left to
itself) in food processing and other consumer goods, where domestic industry's state-ofthe-art is q~titevenerable, and there is not much point in importing foreign technology.
The oft-quoted example is that of "Uncle Chips" priced at Rs. 15 for a packet of 50 grams
(working out to Rs. 300 per kilogram, as against cotnparable domestic product priced at,
say, Rs. 50 per kilogram).
Second, there is the contra-conventional (minority) view that FDI should be discouraged
in the core sector if powerful MNCs are to be prevented froin acquiring over-riding
politico-economic power over the host country. Once these foreign interests get
errrenched in the key areas of that country's economy, a near-permanent state of
subservience rnay be created. A national government trying to get rid of domineering
foreign investors niay, ilself, get toppled down. So, if at all, FDI may be permitted only in
the (light) consumer goods sector only, so that these foreign investors can be packed off
wllen tlie national government so signals. Moreover. if and when these foreign investors
clioose to withdraw from the scene, the economy of the host country may not be
subjected to any big jerk. However, in practice, even such a stipulation may not be quite
feasible. Some MNCs in the consumer sector may come to acquire greater clout than
those in tlie core sector, speciatly when a host country's ecoliolny is largely dependent
on a single consulner produce (product) like tea or watches.
Third. it is tlie type of approach being adopted by India since 1991, niore particularly in
tlie wake of nuclear tests conducted in May 1998, arid followed by freezing of foreign aid

II

and the ilnposition of sanctions at the instance of some developed countries, Here, with a
few exceptions (like the controversial dotnestic sector of civil aviation), foreign investment
is welco~nein alniost any (core or consumer) sector. For example, FDI has been permitted
even for the ~nanufacturingof pens. pencils and other stationery items nor~nallyreserved
for the cottage land small scale industries.

10.5

CORPORATE STRATEGY7 JOINT VENTURES

AND GLOBAL EXPANSION

Corporate strategy can be defined as a proposed course of action or sequence of actions

designed to have a far-reaching effect on an organisation's ability to achieve its leading
objective(s). I t is often used in tlie context of a company's plan of action that causes it
to allocate its scarce resources (specially finance) over time "to get fiom where it is to
where it wants to go". "Strategy" lias been depicted as the base of a cold triangle (three
hard elements), superimposed by four soft elements. in tlie well-known "SEVEN S's
MODEL" given below (Fig. 10.2)
THE SEVEN S's MODEL

SKILLS

'STYLE

STRUCTURE

SYSTEMS

Fig. 10.2

Corporate strategy, in association with structure (organisation chart) and systems

(procedures), is supposed to achieve superordinate goals (significant objectives/guiding
concepts) through skills (distinctive capabilities), staff (personnel) and style
(organisational culture). The model assumes, though this may not be so in many real life
situations that strategy. structure and systems tend to be more rigid (less amcnable to
change) than skills, staff, style and even super ordinate goals. Actually, in certain
situations. particularly in India. staff may turn .out to be the most stubborn element for
management to be able to effect any meaningful change.
What can be the superordinate goals for an organisation? Dliirubhai Ambani's Reliance
,Industries Limited (RIL) may have an entry into Fortune (USA)'s Global 500 as the top
most goal. Once it is achieved. say at 475th rank. the goal may be revised to, say, 400th,
300th and 200th position in that honours list. For General Motors Corporation, the
challenge may be to maintain its first rank in Fortune 500; for. in the post. it had lost to
some of the Japanese companies. Likewise, other superordinate goals may relate to
dominant position (on the basis of asset size, market share, export perfol*niance,
profitability, price, cost, employee strength, innovation, or some other criterion) in any
industry, country or region. The pendululn of goals tnay move in opposite directions from
time to time, e.g., diversification versus reduction in product range, vertical integration
versus horizontal combination. fattening versus slilnming exercises.
Strategic alliances often take the form of joint ventures (JVs). There has been phenomenal
growth of triangular JVs involving companies or parts of companies in Japan, tlie United
States and Europe. According to KenEchi Ohmae, head of tlie McKinsey office in ~ o k ~ o .
"trilateral consortia" are beins forlned in tiearly every area of leading edge industry

including bioteclinology. computers. robots. semiconducttrl~s,jet engines. ouclear po\.ver.

carbon fibres. and other new materials. Olivetli, tlie Italian firm. has conceiitrated on
"networking of companies" based on alliances. pannersli~ps,agreeliielits. research and
teclinical cooperation. It, alone, had entered into some tiiiy such arrangements by 1990 or
so. Maruti Udyog Lilnited (MUL) has been a prominent Joint venture between tlie
Government of India and Suzuki Motor Corporati011of Japan. A few years back, the
majority stake of tlie Government of India was watered down to 50 (49.74) per cent.
whereas the Japanese partner (Suzuki) was allowed to enhance its shareholding to an
equivalent level. Thus, MUL ceased to be Governnient company. and controversy raged
over the key appointment(s) of chair~nanlinanagingdirector. Suzuki carried the matter to all
inleynational court of arbitration. However, the issue was amicably settled in June 1998
tlirougli the good offices of Ms. Sikander Baklit, Industries Minister in the Government of
India. No doubt, q u i t e ~ f e wJVs tend to be rather fragile.
Global expalision can be looked at from several stand points. The first basis rnay be
percenrage annual growtli of consumption and production. During 1994-95. real consumer
spending was ahead of industrial production in Europe, Japan, Latin America and USA.
By way of contrast, consumption fell behind production in all these regions during 199597. This was the position depicted by Asian Developing countries botli d u r i ~ ~1994-95
g
and 1995-97. Indonesia, the Philippines, Malaysia. South Korea and Thailand were tlie five
econooiies most affected by tlie Asian financial crisis at this stage. In 1996, these
countries had received total net capital inflows of $ 93 billion. By way o f striking
contrast, they suffered a net outflow of $ 12 billion during 1997, while net private capital
outflows to large emerging econo~nies(globally) had actually gone up fro111$ 202 billion
in 1996 to $ 212 billion in 1997. Latin America (45%) was the most attraclive destination.
followed by Europe (25%). AsiaIPacific (23%) and Africa~MiddteEast (07%).
Competitive efficiency could be taken as the second yardstick of global eupanslon.
According to the World Competitive Year Book (1998). the-USA is installed strongly in its
position as the most competitive nation in tlie world, while Jnpan has suffered the most
serious setback, falling froin 9th rank in 1997 to 18th rank in 1998.
I

In a list of 46, lndia stood as low as 41st in both the years. Russia ranked still lower at
46th position. China improved her rank from 27th in 1997 to 24th in 1998. while France Fell
froin 19th to Zlst position. Germany remained stable at 14th rank in botli the years. The
first twelve ranks were held by the following countries in 1998 (their relative position in
1997 being stated within brackets) :

United States (1)

Singapore (2)
tlong Kong (3)
Tlie Netherlands ( 6 )
Finland (4)
No~way(5)
Switzerland (7)
Denmark (8)
Luxembourg ( 12)
Canada (I 0)
Ireland (15)
Britain (I I)

The third criterion of global expansion may be based on a specific industry, such as
.
autoniobiles, where several MNCs at the top have been ~ubbingtheir shoulders. 'The
USA. with a population of about 268 niillion, witnessed sales of some fifteen nill lion cars
and light trucks in 1997. Thus one out of every 18 residents of the United States (or one
out of every tburlfive faniilies of fiverfour ltielnbers each) is. on an average. going in for a
nelv autolnobile every year. Tlie first four players (General Motors, 3 1.4%; Ford, 24.9%.
Cliryster. 16.1%; and Toyota, 7.6%) controlled 80 per cent of the U.S. market, as worked
out on the basis of November 1997 sales. Smaller market shares were clait~iedby Honda

< : t ~ r p ~ ~ rStrategy
rtc
:tnd
Furcign I j i r c c t I l ~ \ ~ r s t l e c l ~ t

(6.3%). Nissan (4.3%). Mazda ( 1.2%). Sabaru ( I 2%).and Mitsubishi ( I.1%). Thus, the
Japanese miracle, which had upset the apple-cart o f the American market some two
decades back. was on tlie wane. 'The remaining o f the first one dozeti players were
Mercedes (1.1%). Volks\vagen (0.9%) and BMW (0.8%). On a miniature scale, tlie Geniii~n
automobile offensive appeared to be on the ascendancy, with Mercedes claiming a 67%)
spurt in the US market (the highest amongst the first twelve) in November 1997.
Volkswagen, too. presented a 13% increase, as against only 10% in the case of General
Motors. while Ford had esperienced a marginal decline in the number o f vehicles sold,
aiid Mitsubislii liad lost 10%. In fine, global expansion tends to be a zigzag affair.

10.6

INDIAN REGULATION OF FOREIGN DIRECT

INVESTMENT AND GUIDELINES

Tlie role of foreigti investment in the Indian economy was very limited prior to 199 1 .
During five years 1986-90, FDI approvals figured at Rs. 900 crore (or, Rs. 180 crore per
year, on an average). Under this restrictive regime, tlie normal ceiling for foreign
investtne~itwas 40 per cent o f the total'equity capital. A higher percentage could be
considered in priority industries if the teclinology was sophisticated atid not available In
the country, or if tlie Qoint) vcnture was largely export-oriented.
In tlie wake of economic rcforms, the Government established a more liberaliscd foreign
investment regime as part o f tlie new indus~rialpolicy announced in July 199 1. As against
case-by-case consideration. and that too witliin the normal ceiling o f 40 per cent,
provis~onwas made for automatic approval o f FDI up to 51 per cent in 34 specified (Iiigh
priority, capital intensive and high technology) industries. However, two coriditiolis were
attached to this approval : first, that the foreign excliange involved in importing capital
goods is covered by foreign equity; and second, that outflows on ztccount of dividelid
payments arc balanced by esport earnings over a period o f seven years from tlie
coniiiiencenient of production. Foreign techtiology agreements were also liberalised for the
34 industries. Firms werc lei1 free to tiegotiale the ter~iiso f teclinology transfer on tlie
basis o f their own comniercial judgement, and willioilt tllc need for prior Government
approval for hiring foreign teclinicians and for foreign testing 01' indigetiously developed
technologies. To prolnotc professional marketing activities, foreign equity holding LIP to 5 1
per cent was perniitted for trading companies as well. A Foreign Investment Promotion
Board (FIPB) was set up to look into large foreign investment projects where more tlia~i
51 per cent foreign equity might be permitted.

In course o f time, further relaxalions weregranted. On April13. 1992. India sigried the
Multilateral lnvestrnent Guarantee Agency Protocol for protection o f foreigti investmcnls.
The dividend-balancing condition attached to foreign i~ivestn~elits
upto 5 1 per cent was
no longer applied except for consulner goods industries. Existing companies wit11 foreign
equity could. subject to certain prescribed guidelines, raise it to 51 pcr cent. Noo-resident
Indialis (NRls) were permitted to invest up to 100 per cent equity it1 high-priority
industries (with repatriability of capital and incoliie), esportltrading houses, hospitals.
hotels and tourism-related industries. FDI was also allowed in exploration, prodilctio~iatid
refining o f oil, as also in marketing o f gas. Captive coal nines could also be owned and
run by private investors in power. Foreign companies werc allowed to ~lscIlicir trade
marks on dornestic sales.
In December 1996, the Reserve Bank o f India allowed automatic approval of FDI up to

74% in nine categories :

i)

Electricity generation and transmission:

6)

Non-conventional energy generation and transmission;

iii)

Maintenance of roads, bridges, ports, harbours, runways, waterways, tunnels,

pipelines. industrial and power plants:

iv)

Pipeline transport except POL (petroleum, oil and l~tbricanls)atid gas;

v)

'

Water transport:

11ivcsiing ill F o r c i g ~ ~
Opel-ntioas

vi)

Cold storage and warehousing for agricultural products:

vii)

Mining services, except for gold, silver and precious stones, and exploration and
productioll of POL and gas:

viii)

Manufacturing of iron ore pallets, pig iron, semi-finished iron and steel, and
~nanufacturingof navigational, meteorological. geophysical, oceanographic.
hydrological and ultrasoundi~iginstruments; and

ix)

Items based on solar energy.

Recently. the insurance sector has been included in autol.tlatic approval list. A long with
that, the list of industries eligible for automatic approval of foreign equity up to 5 1 per
cent was further expanded so that some tifty industries were covered under this
category.The new areas, inter alia, include health and lnedical services, and technical
testing research and development services.

In January 1997. the Gover~lmentof India announced the first-ever guidelines for FDI to
ellsure 'expeditious approval of foreign investment in areas not covered under automatic
approval. Priority areas included :
a)

Infrastructure;

b)

Export potential

C)

Large-scale etnploy~nentpotential, particularly for rural areas:

d)

Items having linkages with the farm sector:

e)

Social sector projects like hospitals. healtfl care and medicines: and

f)

Proposals that lead to induction of technology and infusion of capital.

However. certain sectoral ceilings were retained : 20 per cent in the banking sector (40 per
cent for NRls); 24 per cent in small scale industries; 40 per cent in domestic airlines ( 100
per cent for NRls): 49 per cent in teleco~nlnu~licatio~is;
50 per cent in mining (excluding
gold; silver, diamonds and precious stones); and 51 per cent in non-banking tirianc~al
colnpanies and drugs. Foreign equity could go up to 100 per cent in petroleum. power,
roads, parts. tourism and venture capital funds. The FlPB could also allow 100 per cent
foreign equity in those cases where the foreign company had expressed inability to tind a
suitable Indian joint venture partner, subject to the condition that the foreign investor
would divest at least 26 per cent of the equity (so that the ceiling for the foreign partner
would be 74 per cent) in favour of Indian parties within three to five years. The
guidelines of January 1997 also allowed foreign companies to set up 100 per cent
subsidiaries on the basis of the following criteria :

I)
2)

Where only holding operation is involved, and all downstream invest~nentsare to

be carried out need prior approval:
Where proprielory technology is sought to be protected, or sophisticated

\ technology is south to be brought in;

3)

Where at least 50 per cent o f prodoction is exporlecl;

4)

Where there are consultancy projects; and

5)

Where there are projects in power, ports atid industrial townstestates.

"FDI free for all" emerged as the watchword in the wake of the freezing of foreign aid
and the i~npositionof economic sanctions, imposed by the USA and sollie other
developed countries, following the nuclear tests conducted by India on May I I and 13,
1998. New doors sought to be opened (or existing doors souglit to be widened) in
respect of foreign investnlent (room by room) included inter alia :
i)

FDI in housing and real estate (urban affairs);

ii)

Encouraging 100 per cent FDI in recombinant DNA technology-based units, also
strengthening patent reginie to help FDI inflow;

Corporate Strnteg) rl~d

I:orei~t~1)irect I n v c s t ~ l l r ~ l t

iii)

Making water resources Inore attractive for FDI inflow;

iv)

Across tlie board 100 per cent automatic FDI in non-conventionall energy
(welcome, say. up to Rs. 1,500 crore limit). removing 74 per cent cap;

v)

Liberalising FDI policy in coal sector to attract investment and technology; and

vi)

Raising cap on non-SSI food products to 74 per cent.

On 30th August 2000, tlie Government opened more gates to foreign investors in the new
economy. Following are high lights of the policy change :

1)

100% FDI allowed on automatic route in internet, telecom infrastructure providers,

e-mail, voice mail.

2)

No sectoral FDI caps in manufacturing units set up in SEZs (special economic

zones)

3)

Off shore VCFs, co~npiiniesallowed to invest in Indian venture capitalists and

corporates.

4)

1-2% royalty payment on foreign brand names, trade marks allowed.

5)

5-8% royalty payment per~iiittedto parent foreign companies by their wholly owned
subsidiaries operating in India.

G)

Telecom department corporatisation complete, Bharat Sanchar Niga~nLtd. formed.

10.7

'

FOREIGN EXCHANGE REGULATION :

F E U AND FEMA

You learnt about FDI and its rationale. Let us now study about the foreign exchange
regulation in India. The first foreign exchange regulation Act in lndia was enacted as a
temporary measure in 1947, but was placed on statutory book in 1957. In the light of the
experience gained, the entry of forieign capilal in the form of branches and concerns with
substantiil non-resident interest in them and the enlployment of foreigners in lndia the
Foreign Exchange Regulation Act (FERA) 1973 was enacted on the recommendation of
47th report of Law Commission. The proceedings under FERA are quasi-crimina1.A
Directorate of Enforcement was constituted under the Act. The RBI is empowered to
authorise any person to deal in foreign exchange or appoint foreign currency money
changers. The Directorate has the power to call for information, to arrest, to search
suspected persons and premises and to examine persons. Except in case of import and
export of certain currency and bullion, the penalty under the Act is five times the amount
or value involved.
?
The FERA 1973, was reviewed in 1993 and a new Act called Foreign Exchange
Management Act (FEMA) 1999 (enforced w.e.f. 1.6.2000) was enacted. FEMA was enacted
because significant developlnents have taken place such as substantial increase in India's
foreign exchange resources, growth in foreign trade, rationalisation of tariffs, curretit
account covertibility, libralisation of lndia investment abroad, increai$d access to external
com~nel.cialborrowings by Indian Corporates and participation of foreign institutional
investors in Indian Stock markets. The objective of the Act is to facilitate external iadu
. and payment and to promote tlie orderly development and maintenance of foreign
exchange market in India.
The salient features of the Act are :
I)

Cases already in courts under FERA shall be governed by FERA .and ;lot under
this Act.

2)

Appellate Board under FERA has been dissolved and replaced by Appellate
Tribunal and Special Director (ztppeals).

3)

Every Adjudicating Authority now has the powers of a civil cou~t.The defaillters
under the Act shall be liable ta civil i~nprisonment.

'

17

levcstinp in ~ o r c i g n
Operations

4)

The penalty is thrice the sum involved or upto two lakh rupees where amount is
not quantifiable. Further penalty o f Rs. 5000 for everyday if contravention o f the
Act contines.

5)

Reserve Bank o f India has been given niore powers for management o f foreign
exchange. RBI can issue directions or inspect autliorised persons.

Check Your Progress B

What do you mean by foreign direct investment?

.....................'...........................................*.......;................................................................................
2

Differentiate between foreign direct investment ant1 portfolio investment.

Tick the correct alternative on the following :

10.8

i)

A l l binational corporations (BNCs) are transnational corporation (TNCs), but

all TNCs are not BNCs.

ii)

In June 1998, Maruti Udyog Limited (MUL) was a Gove~nmentcompany.

iii)

Foreign direct investment (FDI) i s made in financial assets.

iv)

Portfolio investment made by foreign institiltional investors (Flls) tends to

be short-term.

v)

Mitsubishi o f Japan occupied the first rank in the Fortune 500 list o f 1995.

vi)

'The annual turnover o f USA's General Motors in 1996 (basis for its first
rank in the 1997 Fortune 500 list) was over hundred tinies the gross
turnover o f Indian Oil Corporation.

vii)

Royal Dutch Shell was the biggest European MNC in the Fortune 500 list o f
1995 and 1997.

viii)

The MNC tries to transfer costly inputs to the country with the lowest rate
of tax.

k)

sugar is core sector industry.

X)

Net private capital flow to china in 1995 was more than ten times the figure
flowing to India.

LET US SUM UP

MNC is a corporate undertaking whose industrial operations are based in more than two
countries and whose decision-making process is based on an overall strategy". However,
Mr. Jacques G. Maisonrouged feels that the multinational company must operate in many
(not just two ortliree) countries that are in different stages o f economic development. He
also lays down four other rigid conpitions. conceding ultimtely that there is no truly
niultinational company providing overall fulfilment o f his five criteria. Professor C.P.
Kindleberger prefers to use the term "international corporation", while sotile UN agencies
have chosen to talk o f "transnational corporations". Amongst tlie Global 500 (Fortune.
USA, 1997), over 80 per cent multinational corporations had their origin in just five
countries (USA, Japan, France, Germany and Britain).
The principal strategies adopted by multinatio~lalcorporation include pyramiding, mergers
and acquisitions (guided by the theory of synergy), and transfer pricing (guided by tlie
motives o f rnaximising prdfits and minimising taxeslotlier liabilities in llie global context).
I-iowever;in view o f the constant change in econotnic and other variables, every strategy
may call for review from time tcr time.
FDI involves investment in physical assets for productioa of comniodities/services in the
host country. I t tends to be long-term and is diffi&lt to withdraw (unli,kc portfolio

investment, involving mere buying and selling o f securities which tends to be

speculative). Again, F D I involves abiding interest in management, expectation of
technology transfer, and direct impact on employment o f labour. 'The rationale o f FDI lies,
inter alia, in the conquest of emerging markets, utilisation o f cheap labour in capital,deficient countries, internationalisation o f patents, appropriation o f augmented profits
through monopolistic control andlor sophisticated technology, and creation o f sociopolitico-economic clout over less-developed regions.
China can be said to be the most attractive destination for net private capital flows. Other
countries, prominent on this score, include Brazil, Nexico, Malaysia, Indonesia, Thailand,
Argentina, Crech Republic, Poland, Philippines and Chile. 'The financial crisis o f 1997-98
severely gripped some o f these countries, which witnessed large-scale outflow o f foreign
capital. In lndia actual inflows of F D I between 1991 and November 1997 ($9.5 billion) were
only about 20 per cent o f F D I approvals ($47.2 billion). A large proportion o f FDI flow to
India has been routed through Mauritius. USA, Germany and Netherlands have been
other important sources.
Corporate strategy car1 bc defined as a proposed course o f action or serluence o f actlolls
designed to have a far-reaching effect on tlie organisation's ability to achieve its leading
objective(s). It is ofton used in the context o f allocation o f scarce resources (like finance)
over time. Strategic allia~icesoften take the form o f joint ventures (JVs). Maruti Udyog
1,itnited (MUL) has bcen a prominent joint vcnture bctweeri the Government o f lndia and
Suzuki Motor Corporation o f Japan.A top-level controversy regarding the choice o f
ChairmanIMD was amicably resolved in June 1998.
Under the restrictive regime, prior to 1991, the nonnal ceiling for foreign investment in
India was 40 per cent o f tlie total equity capital. In July 1991, automatic approval o f FC)I
up to 5 1 per cent was pel-mitted in specified (liigli priority, capital intensive and high
technology) industr~es.AForeign Investment I'romotion Board (FIPB) was s c ~up ro look
Into projects where more than 5 1 per cent foreign equity might be pertnitted. In Deccmher
1996, tlie RBI allowcd auto~iiaticapproval o f FDI tipto 74 per cent in ninc categories. 111
January 1997. tlie Goveriiment o f India announced tlie first-ever guidelilies for I'D1 to
expedite decisions in areas not covered under automatic approval. While certain sectorill
ceilings were retained. these gilideliries permitted foreign companies subsidiaries on the
basis o f certain criteria. "FDI free for all" emerged as the watcliword in tlie wake o f thc
freezing o f foreign aid and the imposition o f econo~nicsanctions at the instancc o f sonic
developed countries, following tlie nuclear tests conducted by India on May I I and 13.
1998. FDI in housing and real estate (urban affairs) and (100 per cent) foreign investment
in recombinant D N A technology (along witli strengthening o f patent regime to help FDI
inflow) are some oi'tlie newer dimensions being brought into focus. In August 2000, lie
Governmnet of India made fu~tlierconcessing and relaxation to attract FDI. Tlie Foriepl~
Exchange Regulation Act (FEIEA) was reviewed in 1993 and a new act called Foreign
Exchange Management Act ( 1 999) was enacted to facilitate external trade and payamenl
and to promote the development and maintenance o f foreign exchange market in India.

10.9

KEY WORDS

Acquisition : One compauy "Taking. over" another company either completely or partly
tlirough controlling ownership interest.
Amalgamation : When two (or more) colnpanies combine and agree to operate under a
third (or different) name.
Automatic approval : Where approval is granted without any case-by-case scrutiny.
Binational Corpol+ation (BNC) : Whose operatio~isare confined to two countries.
Captive mines : In-house mines intended to provide raw material to a company (or
group's) own plants.
Core sector : Central or most important sector. atch as inft4astl.tlcrure,on which the
development of other sectors is Gased.

Divestiture : Giving up ownership interest.

Dividen,d balancing condition : A condition tliat outflows to foreign countries on account,
o f dividend payments would be balanced ( f i ~ l l ycovered) by export earnings o f an
enterprise established in -this country with investment inllows frotn abroad.
Ecological balance : Natural adjustliient between living things in rclation to their
surroundingslenvironment.
Economic sanctions : Restrictions imposed by a country. 01. international agency. on aid,
investment. trade or other commercial relationships with i~notliercountry.
Emerging markets : Newly-discovered or growing centres o f consumption. specially
developing countries.

it1

represented by stocks or shares not bearing any fixed

Equity : Ownership interest ~~sually
illrerest obligation.
Financial assets : Shares. securities or I-eceivables indicating entitlement to money or
ownership interest.
Foreign direct iuvestment (FDI) : Investment used for doniestic production in another
country.
F o r t ~ t u e500 : The list o f top 500 Global Corporations (companies) published annually in
tlie USA by Fortune magazine.
I

Government Company : A company where ownership incerest o f the Government (Central1

Stive) is 5 1 per cent or more in tertns o f the Companies Act, 1956.

'

I
I

Holding company : A cotlipany wliich holds controlling inlerest (51 per ccnt or more in
legal parlance; but. tilay be any smaller solid block in commercial parlance) in another
company (subsidiary).
-

Home country : The coulitry o f origin o f a multinational.

Host country : Tlie country to which a multinational goes lor making investment and
estending its operations abroad.
I t ~ f r a s t r t ~ c t u r:cTlie basic inner s t ~ ~ ~ c r (like
u r e tralisport and communication) on which'
otlier developmental activities are dependent.
lnllovation : Sometliing new put into practice commercially or, otherwise. effectively.

intellectual Property Rights (IPRs) : Legal protection o f inventions or other creative

work through patents, copyrights, trade marks and otlier system o f exclusive recognition.
.usually for some specified period.
lntermcdiate holding company : A holding compaliy wliich. itself, is controlled by another
holding company.
International corporation : A corporatioli operating in a number o f countries with equal
loyalty to all; another name for multinational corpor'ation.
Joint venturc: Sharing o f ownership interest and other ork king arrangements between
two (or niore) co~iipanies(or other operating units), whellicr belonging to tlie satlie
4
country or to different countries.
Merger : A coniplete combination between two (or more) companies. so tliat no new
company i s set up, while one o f the existing companies takes over all tlie operatiolis o f
the other company (or co~iipanies);absorption is another name for merger (while tlie term
amalganiiltion, too, is used interchangeably, thougli somewhat inaccurately. in coliilnon
parlance).
Multinational Corporation (MNC) : A corporale undertaking wliose industrial operating
are based it~.nmre tlian two countries and whose decision making process is based on an
overall strategy.
ii

Networking : Complex system o f inter connection.

J'

.\ion-resident Indians (NRlls) : People of Indian origin settled in foreign countries.

Physical assets : Machines and other assets used directly in the process of production.

Corporate Straficgy and

Foreign Direct Investment

Portfolio investment : Acquiring financial assets like shares and securities (without any
direct involvement in the process of production), an activity often undertaken by both
domestic and foreign financial institutions.
Primary holding company :A company which controls another company (or companies)
but which, itself, is not controlled by any other company; it stands at the head (apex).
Pyramiding : A pyramid (triangle) like structuie designed to extend the sphere of control
of an apex institution through a set of holding companies and subsidiaries.
R & D : Research and Development (an index of the comparability of the levels of
productionloperation attained by various companies).

'

Strategy : A proposed course of action or sequence of actions designed to have a farreaching effect on an organisation's ability to achieve its leading objective(s); it is often
used for the allocation of scarce resources (specially finance) over time. '
Subsidiary company : A co~ilpanycontrolled by another (holding) company.
Superordinate goals : Objectives of higher grade, status or importance.
Synergy : Where, the co~r~bined
value' of integrated companies is higher than the
arithrnatic total of the values of those companies.
Transfer Pricing : Technique of pricing inputslproducts between holding companies and
subsidiaries with a view to maximising profit.
Transnational corporations (TNCs) : Corporations or companies whose operations extend
beyond national boundaries; another name for multinational corporations (Multinational
Corporation).

10.10 ANSWERS TO CHECK YOUR PROGRESS

A) 'I

$4,800 million

2 i) Rs. 13.90 crore, ii) Rs. 13 crore, iii) Rs. 15 crore, iv) Rs. 12.50 crore

B) 3 i) True, ii) False, iii) False, iv) True, v) True, vi) False, vii) Ture, viii) False,
ix) False, x) True

Identify principal stages in the development of Multinational Corporation.

a)

Briefly enumerate the five criteria for a truly multinational company. Also
indicate, with concise arguments,

b)

the most important criterion; and

c)

the least important criterion.

Can a binational corporation be called transnational corporation ? Explain clearly.

Distinguish between 'Primary Holding Company' and 'Intermediate Holding

Company'.

How does pyramiding lead to the expansion of a multinational group? How would
you interpret the size (height and breadth) of a pyramid?

What is the ditTerence between 'Amalgamation' and 'Merger'?

Explain the technique of transfer pricing through an illustration (original or

imaginary case study) of your own.

What is the most important rationale of Foreign Direct Investment'! What is its
greatest danger ?
What kind of corporate strategy should transnational group apply in respect o f the
following four categories o f enterprises ?
I

a)

High profits with high growth;

b)

High profits with low growth:

II

c)

Low profits with high growth;

d)

Low profits with low growth;

Critically exanline the attitude o f the Government of India toward FDI eliflow since
1991. What kind o f a policy would you suggest to meet econo~nicsanctions
imposed after the nuclear tests of May 1998?

II
I
I

UNIT 11 INTERNATIONAL PROJECT

APPRAISAL
'

Structure
1 1.0
I 1.1
112
11.3
11.4

Objectives
lntroduction
International Projects
Project Appraisal : Meaning and Scope
Techniques o f Project Appraisal
1 1.4.1 Non-DCF Techniques
1 1.4.2 DUI: Techniques
11.4.3 Pro-ject Apprnisal Under Risk and Uncertainty
Issues in International Project Appraisal
Adjusted Present Value Technique
Beyond APV : Real Option Value
Portfolio Approach
Case Study : lnternatio~ialNew Technologies (INT) Ltd.
Let Us Sum Up
Key Words
Answers to Check Your Progress
Terminal Questions/Exercises

11.5
11.6
11.7
11.8
11.9
11.10

11.11
11.12
11.13
--

11.0

OBJECTIVES

After studyi~igthis unit you should be able to :

explain the nature o f international projects
0

differentiate between international and domestic projects

explain and illustrate various techniques o f projects appraisal

explain and illustrate the concept o f project appraisal under conditions o f certainty
and uncertainty

discuss real option value in project appraisal

"describe portfolio approach to project appraisal

discuss a'co~nprehensivecase study on international project appraisal,

1 1 . INTRODUCTION
Projects signify co~n~nitnrent
and allocation o f large sums benefits which will accrue ovcr a
long period o f time in future. Projects thus involve long term expenditure; the amount of
expenditure being generally large. An important characteristic of projects as distinct from dayto-day working capital type expenditure is that it is irreversible. Once committed, it i s difficult
to liquidate wifhout substantial loss. An obvious implication o f it i s that the cost o f error of
judgement in case o f projects is very high. I t is for this reason that capital investment decisions
need to be carefully thought through and appraised before committing funds. Committing
_funds abroad will definitely pose additional issues. I-low to appraise an international projects?
This is the main question being attempted in this unit. But to be able to answer tliis question,
we need to, first take up the questions viz.. How do international projects differ from domestic
projects? What are the basic tecliniques o f Project Appraisal? Could the techniques of Project
Appraisal be same f0.r the do~ncsticas well as international projects? Ifnot, why and how not?
What is robust frame work o f analysis for international projects appraisal? How would you
deal with distinct issues in international investment analysis viz., parents vs. project cash
flows, parent vs. project discount rates. parent vs. project country currency, inflation, political
risk, etc.?
For an international investor, world could be one market offering a universe o f projects. So,
sllould an international investor appraise a 'project as 'stand alone' or as a constituent o f a