Types Of Fdi

India ranks 15th in the world when it comes to foreign direct investment, which has played a crucial role in the economic development of our country. Given the large market, skilled workforce, and positive growth projections, the Indian economy is a popular FDI destination worldwide.

Foreign Direct Investment (FDI) is essential for global economic growth. This article explores the various types of FDI to help you understand their significance and impacts.

• A foreign direct investment (FDI) is a significant and enduring investment by a company or government into a business in another country.
• FDI can be classified into horizontal FDI (investment in the same industry abroad), vertical FDI (investment in supply chain stages), and conglomerate FDI (investment in unrelated sectors across countries).
• The Indian government’s liberal and competitive FDI policies have attracted significant investments, contributing to the country’s economic expansion and market competitiveness.
• ​​FDI allows companies to access new markets, cheaper resources, and increased profits, but it may lead to a loss of jobs at home and missed tax revenues in the host country when profits are repatriated.
• The United States and China have been the leading recipients of FDI, while the U.S. and other OECD countries are major sources of FDI globally.

FDI or foreign direct investment is the ownership acquired in a company of a country by a foreign company. This investment can be made by an investor, government, or any other institution in a listed company in the host country. FDI investments are generally done with the aim to own and control substantial stakes in a foreign business or to expand operations into newer markets. It promotes the growth of the invested sector, creates more job opportunities, and strengthens relations and economic integration between the two countries.

In recent years, India’s foreign direct investment policy has seen substantial changes. Certain sectors that were earlier restricted or limited the flow of FDI have opened up considerably. Sectors like online retail, media, farming, and livestock management have undergone significant changes.

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FDI inflows in India are of different types, each with unique characteristics and features. Here are some of the most common types of FDI:

1. Horizontal FDI: Investing in similar industries abroad

Horizontal FDI is one of the most common types of FDI investments, where a foreign company will invest in the same sector or industry it belongs to in the host country. The investor will identify companies producing and manufacturing similar goods in a different country.
An example of horizontal FDI is the Chinese apparel brand SHEIN, which may try to invest in or purchase an Indian company involved in fast fashion, similar to what it does. If SHEIN invests in, let's say, Reliance Retail since it belongs to the same industry, it will be considered horizontal FDI. Furthermore, horizontal FDI helps stimulate market growth and improves competitiveness.
 

2. Vertical FDI: Expanding the supply chain across borders

In vertical FDI, an investor or company will invest in the supply chain of another business, which may or may not be directly related to the core business interest of the investor. Simply put, in a vertical FDI, a business will invest in an overseas firm that supplies or sells products that complement its operations. This can be done by providing essential raw materials, manufacturing components, or distributing and retailing the final product.
 

A vertical FDI can be further classified into:

• Vertical integration: Vertical integration refers to the process where a company expands its operations into different stages of its supply chain, either upstream (backwards) or downstream (forward). This helps the investor gain more control over the production, distribution or retail, leading to improved efficiency and reduced costs.
• Example of vertical FDI: A car manufacturer acquiring a tyre company to ensure a steady supply of tyres is an example of backward vertical integration.
• Forward vertical integration: Forward vertical integration involves a company moving closer to the end customer by acquiring or merging with firms further down the supply chain. This might include buying out distributors, retailers, or even end-user services. This helps the investor gain better control over the distribution and sales of the product, leading to increased market share and better margins.
• ​​Example of forward vertical integration: A coffee bean producer opening its chain of coffee shops is an example of forward vertical integration to cut out the middlemen and get more value from the end product.
   

3. Conglomerate FDI: Diversifying investment portfolios globally

Conglomerate FDI is very different from the ones mentioned above, where completely unrelated companies from different sectors from two different countries invest in each other. This is a diversified approach, where a foreign investor would like to enter a completely different sector of the Indian market.

By using this strategy, a foreign investor can expand their portfolio, balance risks that come with overexposure to one particular sector, and leverage and explore other upcoming business opportunities.

For instance, If IKEA decides to invest in an Indian automobile manufacturer, it will be an example of conglomerate FDI.

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Foreign direct investment has played a crucial role in India's growth and progress in different industries. Over the last two decades, many investors from abroad have invested capital in the Indian markets, businesses, and infrastructure projects through various modes of financing, like equity, strategic partnerships, and joint ventures or by establishing subsidiaries.

These inflows are across various sectors—from manufacturing, technology, and services to infrastructure to make substantial returns. The government ensures that the policies on FDI remain liberal and competitive to make India an attractive destination for the influx of FDI. The government regularly evaluates the policies and frameworks to ease regulatory challenges and create an environment promoting growth.

FDI helps generate many jobs in India and brings the best practices from countries abroad that make our markets and workforce more competitive. As a result of FDI inflow, our trade deficit remains under control, and there is significant expansion in the economy. From the viewpoint of the investor, they get access to a huge market, a well-trained and skilled workforce, and the chance to earn good returns on their investment.

Additionally, FDI helps companies gain global control, preventing monopolies in different industries. It also offers protection against major business downturns, helping to stabilise markets.

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Here is the impact of FDI on the host country:

• Many countries consider FDI to be a chief driver of economic growth and job creation, which ultimately leads to the transfer of technology. However, this can also lead to the shutting down of small businesses, as they might not be able to compete with the big players. Although FDI gives locals access to international markets, it also exposes them to a lot of competition globally.
• FDI significantly contributes to infrastructure projects that lead to the development of transportation, energy, telecom, power, etc. However, on the flip side, these projects may run into environmental issues. It can also lead to an excessive dependence on foreign technology.
• Host countries do not have all the control over these investments, which might lead to them accepting all the investor's demands. However, the government can introduce frameworks to promote industry-wide best practices in the company's management and governance.
• FDI brings with it ample capital that can be invested in various projects to buy productive assets and finance large-scale projects. This helps improve productivity while stimulating growth.
• FDI also brings advanced processes, technology, and management skills and practices to enhance productivity and make companies more efficient by their spillover effect.

Here is the impact of FDI on the home country:

• Investing in FDI projects in other countries helps the host country make good profits. However, when these profits are sent back home, they avoid taxes in the host country, leading to a loss of potential tax revenue.
• FDIs are made in the host country so that the company gains access to relatively cheap resources, workforce, and production costs in new markets for more growth. However, firms must also step up their game to compete with the global markets and forces.
• FDI facilitates the transfer of technology from improved production capabilities. That said, it can also lead to a huge loss of jobs in the home country, particularly in industries dependent on labour-intensive production processes.
• Through FDI, investors can enter newer markets, increase their production, and reach a larger consumer base that helps them achieve economies of scale.
• For conglomerates and MNCs, FDI helps them make more profits by taking advantage of their intellectual property rights, wider brand awareness, and recognition in global markets.

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