Foreign Direct Investment (FDI): The Case of Toyota.

It has come to my attention, due to tough economic growth, uncertainty and weak consumer confidence in many countries; FDI is playing an increasingly important role for businesses across the world to seek out opportunities for growth (Rees, 2012). Although FDI may be risky compared to other investment strategies, there are many benefits that outweigh the drawbacks with this method.  FDI in the manufacturing industry has shown substantial growth since 2003 and with global competition growing, there is clearly more room for growth in FDI (National Association of Manufacturers, 2014).

Toyota is a great example of how FDI has been used as a strategy for further investment, Firstly, Toyota started exporting to avoid competitors from gaining first-mover advantage in new markets since exporting is fast and brings the lowest risk. However, Toyota Japan chose FDI as a strategy in Thailand in 1964 as Thailand was not only a lower cost location, but also lower tariff (Runnckel & Associates, 2005). My research has shown that Thailand is the second most favourable location for investment, according to the annual survey “Outlook for Japanese Foreign Direct Investment”, which was conducted by the Japan Bank for International Cooperation (JBIC).  Furthermore other factors such as competitive labour costs, inexpensive labour force, low production costs as well as the overall favorability of the nation’s investment climate also appealed to Japanese manufacturers to move production in Thailand (IMF, 2002). Reducing costs is important for businesses, otherwise how else will they survive?

Moreover on 19 April 2013, Toyota Motor Manufacturing announced that the company would begin manufacturing the Lexus ES 350 in Kentucky. This is because transportation costs are high in the car manufacturing industry, which creates barriers and also raises consumer prices. In order to save costs, multinational companies such as Toyota are able to build production plants closer to the market. Production is set to take place at the company’s Georgetown plant and will create 750 new jobs (Trade and Industry Development, 2014). The company is investing $360m in this facility and will start producing vehicles in 2015. This would be the first time that the company has manufactured Lexus vehicles in the United States, which has resulted in positive news for manufacturing and has shown the benefits of FDI towards job creation. The economy has been significantly tough, which has led to low unemployment rates. As a result of companies investing in FDI, more jobs can be created which can benefit those who are looking for employment.

Managing Currency Related Risks

Firms see volatile exchange rates as the top risk for the years ahead. With the market conditions remaining difficult since the financial crisis and uncertainty with foreign exchange markets are greater now than they have been at any point in recent history, does not come as a surprise to me. Due to this fact, companies are increasingly looking to do business in emerging markets to take advantage of their growth potential (Kuepper, 2014). 

For example, in 2013 a private-equity firm 3G capital unveiled plans to buy Heinz in a $23 billion deal. This was one of the largest acquisitions in the world. As a result of this deal, it has taken Heinz private as it tries to expand sales in emerging economies, at the same time as managing a challenging environment in developed markets (Tracer, 2013).

Similarly another example is Unilever, headquartered in London, owns over 400 brands and its products can be found nearly in every country worldwide (Unilever, 2014) However, it is worth noting that more than half of the company’s sales come from developing and emerging markets. These markets have significant growth potential, thus giving rise to business success. 

In order to manage currency related risks in overseas markets, companies can open bank accounts in the country in which they are trading in. According to RBS (2014), they have experienced an increase in demand for such accounts from clients with larger operations in overseas markets. This can be a strategy to manage currency related risks. 

Moreover, hedging can be another strategy for an investor to avoid potential losses that may be suffered by an organisation. Companies must be able to determine whether, in fact hedging is the most efficient way to mitigate the impact of currency fluctuations. For example, it has come to my attention that US companies that do significant amounts of their business in Japanese Yen and are starting to see some serious costs associated with currency’s recent decline (Schoenberger, 2011). Although companies may have spent much of the past year focusing on protecting themselves from fluctuations in European currencies, the impact of the dollar-yen exchange rate over the last quarter has taken many companies by surprise. A company’s situation can worsen if they fail to put in hedges to absorb some of the impact. Therefore, in this case I think hedging is extremely important to avoid any potential losses that companies may face. 

On the other hand, the decision to hedge will depend greatly on the situation in which the hedge is applied, as well as the cost.  In some situations, a hedge will be absolutely necessary (as mentioned in the situation above) to make sure that the investor will remain financially solvent, regardless of the outcome. However, in other cases it merely signals an overcautious investor cutting into his/her own position (Masquelier, 2011). For example, if the main position produces profits as planned, then the hedge in this context would be an unnecessary expenditure. If I were an investor, I would question the benefit of the original investment in this way.

The Equity- Debt Choice

One way to raise money for investment is through equity finance. Ordinary shares represent the equity share capital of the firm. As they say investors are the owners of the business who have the right to exercise control over the company, this method enables entrepreneurs to trade ownership of the business for financial backing (Tuchetti, 2014). However debt finance is different, as it has to be repaid with interest charged for the amount of cash being invested. The company will be obliged to maintain the repayment schedule through successful and tough years. Similarly, lenders of the firm have no official control over the business (NFIB, 2009). 

There are two main benefits of raising finance by selling shares rather than borrowing:

1.    There is usually no obligation to pay dividends
This means when losses are made, the company would not have the problem of finding money to pay dividends. Equity acts as a shock absorber under uncertain business scenarios or conditions. However, if a firm puts more reliance on debt, irrespective to whether the business is returning profits or making losses, it still puts undue pressure on profit margins and on cash flows (Peavler, 2014). 

2.    The capital used does not have to be repaid
Shares in the business do not have a redemption date. This is a date where the original sum invested is repaid to the shareholder. If a company was to use debt capital, the requirement to repay debt can put severe pressure and strain on cash flow. This can be severe up to the point where the firm is unable to survive. Therefore, by always having equity capital in the business it again is able to act as a shock absorber in bad times (Peavler, 2014).

 However, debt financing has many benefits including:

1. It is less expensive
This type of finance is less expensive than equity finance due to the lower rate of return required by finance providers, lower transaction costs for raising funds and also because of the tax deductibility of interest (Grossman & Livingstone, 2008). 

2. It is less risky
This method of finance is less risky because interest is paid out before dividends, so there is a greater certainty of receiving a return than there would be for equity holders. Equally, if the firm goes into liquidation the holders of debt type financial security are paid back before shareholders receive anything (Grossman & Livingstone, 2008). 

For example, Burrows (2013) from Bloomberg reported that Apple avoided as much as $9.2 billion in taxes by financing part of their $55 million stock buyback with debt rather than through offshore cash.  This shows that large corporations are able to take advantage of debt finance to achieve savings.


However, companies should take into consideration factors such as gearing. Increased levels of gearing within a business can increase the amount risk, which can have an affect on the shareholders decision to invest. For example, companies such as MF Global have drowned in debt due to $6.3billion European sovereign debt investment. This decision was advised by PwC, who committed to professional malpractice by offering “flatly erroneous” advice (Reuters, 2014).  Therefore, this decision led the company to go into bankruptcy. This example shows that too much is not good for a business. 

It is difficult to say which source of finance will be the best. Although debt finance is less risky and cheap, it may lead to greater risks in terms of problems for a company in the future.  Therefore, I would think the need to consider the right mix of debt and equity is important.