Transnational Corporations (TNCs) and Foreign Direct Investment (FDI) Decisions

Knowledge-intensive production, technological change, shrinking economic space greater openness have also changed the context for Transnational Corporations (TNCs). There are new opportunities and pressures to utilize them. The opening of markets creates new geographical space for TNCs to expand in and access tangible and intangible resources. It also permits wider choice in the methods firms can use (FDI, trade, licensing, subcontracting, franchising, partnering and so on) to operate in different locations. At the same time, advances in information, communication and transportation technologies, as well as in managerial and organizational methods, facilitate the trans-nationalization of many firms, including SMEs. The combination of better access to resources and a better ability to organize production trans-nationally increases the pressure on firms to utilize new opportunities, lest their competitors do so first and gain a competitive advantage. Competition is everywhere – there are fewer and fewer profit reservations and market niches that remain protected from the fierce winds of competition. Indeed, a portfolio of locational assets – allowing firms to combine their mobile advantages most effectively with the mobile tangible arid intangible resources of specific locations – is becoming an increasingly important source of corporate competitiveness.

Firms have reacted accordingly. A highly visible group of large “traditional” TNCs continues to grow, often with turnovers larger than the national incomes of many developing countries. There are also many new entrants, such as large firms from developed countries that had confined themselves previously to domestic operations (e.g., telecommunications operators). Many are smaller firms from these countries that find it necessary to invest overseas to exploit their ownership advantages or to see advantages and alliances. An increasing number are firms from developing co both small and large. And some are large and small firms from economies transition, countries that previously had isolated them largely from international investment. As a result, the number of TNCs has increased substantially, having reached at least 60,000 at the end of the 1990s. Their growth rate was faster than that of both and domestic production.

The changing context and the quest for a portfolio of locational assets has brought about a change in corporate strategies. The following developments are particularly noteworthy:

  1. A shift from stand-alone, relatively independent, foreign affiliates to integrated international production systems relying on specialized affiliates to service the entire TNC system. Within the framework of this international intra-firm division of labor  any part of the value-added chain of an enterprise can be located abroad while remaining fully integrated into a corporate network. Corporate strategies of this kind seek to exploit regional or global economies of higher degree of functional specialization.  This shift broadens the range of resources sought by TNCs in host countries making firms more selective if their choices. However, it can also encourage in countries that cannot provide a wide range of resources but haves, specific assets that are sought by TNCs (eg. accounting or software skills).
  2. A shift towards greater use of non-equity and cooperative relationship with other enterprises, such as alliances, partnerships, management contracts or subcontracting arrangements. These arrangements serve a variety of corporate objectives. They can provide better access to technologies or other assets firms to share the cost and risk of innovatory activities. They can reduce production cost of labor-intensive products.
  3. Emergence of a network type of organisation. This expands the scope of interactions between TNCs and enterprises from host countries, and also the forms of these interactions.

These changing corporate strategies bring with them a different pattern of international economic integration. Originally, this involved the integration of markets through length trade “shallow” integration. Integrated international production moves this integration to the level of production in all its aspects “deep” integration. In process, a significant part of international transactions becomes internalized  i.e. the form of transactions between various parts of transnational corporate systems located in different countries. It is estimated that more than one-third of world trade some four-fifths of technology flows are internalized within TNCs. The share of world production under the common governance of TNCs is estimated at one-quarter.

The ability of firms to allocate their economic assets internationally, and the international production system created in the process, have become themselves a part of the new global system. As a result, TNCs have indeed become important actors in the world economy and, hence, the development process – a fact reflected in the competition of all countries for FDI. Indeed, increasingly, the decision where to locate production facilities of any kind becomes crucial for development, because the decision where to locate becomes a decision where to invest and from where to trade. And it becomes an FDI decision if the location chosen is abroad.

Credit: International Business Environment(MBA-IB)-AU