The Impact of FDI on Indias Manufacturing Sector

Posted on February 11, 2011 by India Briefing

By Ankit Shrivastava, Dezan Shira & Associates, Delhi Feb. 11 Foreign direct investment (FDI) has risen considerably in post-reform India. The work and category of FDI has changed significantly since India has opened up to world markets. This has fueled high prospect that FDI may serve up as a channel to advanced economic growth. However, it turns out that the development effects of FDI differ extensively across sectors. FDI stocks and production are equally reinforcing the domestic manufacturing sector. India is ranked second in the world in terms of manufacturing capability, according to the 2010 Global Manufacturing Competitiveness Index by Deloitte Touche Tohmatsu and the US Council on Competitiveness. Indias workforce of scientists, researchers, and engineers, together with its English-speaking workforce and democratic regime, the report says, make it an attractive destination for manufacturers. In 2010, the indicator of the overall condition of the manufacturing sector has moved up to 126.5 for the appraisal quarter, its highest reading since the April-June 2007 quarter. In the last quarter of the year, the manufacturing industry showed positive results despite less than impressive performance in other sectors. Growth in Indias manufacturing sector Approximately 50 sectors in Indias domestic manufacturing sector grew by 39 percent during the April December 2010 period, achieving the excellent growth category. These segments are air conditioners, natural gas, tractors, nitrogen fertilizers, ball bearings, electrical and cable wires, auto components, construction equipment, electric fans and the tire industry. Twenty-two segments entered the high growth group, registering a growth of 17.3 percent during the first nine months of the existing fiscal. Industries such as utility vehicles, crude oil, power transformers, energy meters, alcoholic beverages and textile machinery have registered around 1020 percent growth. Exports from Indian SEZs grew by over 68 percent (to US$12.55 billion) as compared to the corresponding period of 2009-10. Floating by Indias reaction to its supermachines, iconic American superbike maker Harley Davidson is setting up an assemblage unit at Bawal, Haryana. This will be its second establishment outside the United States, after Brazil. Field Fresh, the 50:50 JV of Bharti Enterprises and Filipino firm Del Monte Pacific Ltd formed in 2007, has started its R&D and manufacturing unit at Hosur, Tamil Nadu, with an initial establishing cost of US$26 million.

Doosan Heavy Industries and Construction Co Ltd of South Korea has shown interest in setting up a power equipment manufacturing unit in Haryana to be fully owned by the overseas corporation. Pipavav Shipyard has signed a memorandum of understanding (MoU) with SAAB Dynamics AB, part of Swedens Wallenberg Group, for the manufacturing of products in the defense and aerospace sectors. Rieter Nittoku Automotive Sound Proof Products India Pvt Ltd, a joint venture between Rieter group of Switzerland and Nihon Tokushu Toryo Co Ltd of Japan, has invested US$15 million in a new unit at Oragadam, near Chennai. Nissan Motors and Nokia have already shown interest in increasing their unit size in India.

India is quickly rising as a worldwide manufacturing hub with a huge number of companies changing their manufacturing base to the country. Furthermore, India has the largest number of companies, outside of Japan, that have been recognized for excellence in quality. The government has issued the new Consolidated Foreign Direct Investment Policy, which came into effect April 1, 2010. The government is also planning to set up National Manufacturing and Investment Zones (NMIZs). Main objectives of these NMIZs are: To promote investments in the manufacturing sector and make the country a hub for both domestic and international markets To increase the sectoral share of manufacturing in GDP to 25 percent by 2022 To double the current employment level in the sector To enhance global competitiveness of the sector

Reasons for Dissatisfaction One of the main reasons for the dissatisfaction amongst foreign investors is procedural delays. The time-intense administration and compliance measures, the bureaucratic layers and the numerous bodies from which clearances are to be obtained all add up to considerable business costs and management time, creating an issue of severe concern for investors. Most investors feel that projects handled at the state level are disorganized and unstructured in comparison to the projects handled at central level. But it is evident now that some foreign investors show dissatisfaction in only some areas, whereas FDI inflow in the manufacturing sector is upbeat and encouraging.

A huge number of foreign direct investors (around 62 percent) stated that they were making profits in their current operations in India according to the FICCI survey. This is a cheering figure mainly when one views it in light of the fact that a large amount of companies that reported losses in their India operation (21 percent) belong to the category of firms that have been in service in India for less than 5 years. These results show that India is emerging as a lucrative destination in the long term.

Conclusion In the post liberalization age, India has taken in a huge amount of FDI in a variety of sectors. The large market for computer hardware in India, coupled with the ease of use of skilled labor force in this sector, has boosted the FDI inflow. Soaring expansion prospects, in terms of increased utilization in India as well as increasing demand for exports, are expected to lead to even more FDI. Ankit Shrivastava is with Dezan Shira & Associates Delhi office. The practice maintains five offices in India and assists with foreign direct investment into the country. For assistance pleaseindia@dezshira.com or download the firms brochure here.

Benefits of Foreign Direct Investment-

Attracting foreign direct investment has become an integral part of the economic development strategies for India. FDI ensures a huge amount of domestic capital, production level, and employment opportunities in the developing countries, which is a major step towards the economic growth of the country. FDI has been a booming factor that has bolstered the economic life of India, but on the other hand it is also being blamed for ousting domestic inflows. FDI is also claimed to have lowered few regulatory standards in terms of investment patterns. The effects of FDI are by and large transformative. The incorporation of a range of well-composed and relevant policies will boost up the profit ratio from Foreign Direct Investment higher. Some of the biggest advantages of FDI enjoyed by India have been listed as under: Economic growth- This is one of the major sectors, which is enormously benefited from foreign direct investment. A remarkable inflow of FDI in various industrial units in

India has boosted the economic life of country. Trade- Foreign Direct Investments have opened a wide spectrum of opportunities in the trading of goods and services in India both in terms of import and export production. Products of superior quality are manufactured by various industries in India due to greater amount of FDI inflows in the country. Employment and skill levels- FDI has also ensured a number of employment opportunities by aiding the setting up of industrial units in various corners of India. Technology diffusion and knowledge transfer- FDI apparently helps in the outsourcing of knowledge from India especially in the Information Technology sector. It helps in developing the know-how process in India in terms of enhancing the technological advancement in India. Linkages and spillover to domestic firms- Various foreign firms are now occupying a position in the Indian market through Joint Ventures and collaboration concerns. The maximum amount of the profits gained by the foreign firms through these joint ventures is spent on the Indian market.

However, as a country, we should also move on to a change for the better by learning from other countries' examples. Fortunately, we are not the first country to have modern retail and, hence, there are good experiences to understand and learn from so as to build our confidence to move forward. Here are cases from three countries in three continents that I have dealt with in all forms of trade and studied the impact of the modern retail evolution. The first is Germany. The rapid growth of modern retail in Germany and Europe took place over two decades ago. It did result in a swift and major consolidation of stores, weeding out the inefficient, individually-owned and less-adaptive small stores. However, there were a few points worth noting. Firstly, the concentration led to retail chains forcing manufacturers to cut costs and become far more efficient in their supply chains. Due to competition, some of these chains, indeed the leaders, took positions as discounters and passed on the lower prices to consumers, who got a better deal. Most retail chains operated on razor blade-thin margins - unlike in traditional trade where, often, middlemen's margins would lead to a much higher cost structure. Secondly, the leading chain, a group called Aldi, efficiently continued with the small-store format because they found it was what consumers wanted (e.g., they wanted to be able to walk, not have to drive, to their grocery store). So, in terms of employment and in terms of dispersion of stores, the impact was not as if one massive store came in an area and swallowed hundreds of stores around it. Thirdly, one of the large chains was actually a cooperative of small stores. These adaptive small-store owners realised that, while they provide unique benefits of location and service to their customers, they need to buy efficiently through a central organisation, have one brand name to gain from marketing and have one set of processes to benefit from large-scale, technology-led process development. By forming a large cooperative, they retained a large level of ownership and independence while gaining the cost, marketing and process-capability advantages of modern retail. Hence, it is possible for small stores owners to respond and acquire many of the key advantages of large stores while building on their own areas of strength. Finally, we came across a store from Sweden like IKEA, a large-format furniture and home store, which has invested enormously in skill-building for small suppliers from all over the world, including India. If retailers such as these come to India to sell, they will also see huge sourcing advantages from India and, hence, have a strong stake in building local suppliers not just for the Indian market, but also for their global market, thus adding to employment and exports revenue.
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Move to South Africa. The situation here was obviously different from Germany and Europe: far lower levels of income, higher poverty and more unskilled labour. The modern retail consolidation happened to a large extent here as well. Interestingly, most of the big retailers are local players, not the big Walmarts, Tescos or Carrefours from the US or Europe. The competition between these South African chains was fierce and, hence, consumers did get the benefit of lower prices due to competition and consolidated buying. But often, the in-store experience, availability and the efficiency of the supply chain left much to be desired. My experience was that these chains were not investing enough, especially in the areas of building supplier bases and skill-building of their workforces. Hence, by having only local retail chains, the delivery of modern retail was almost 'half-pregnant', impacting small retailers and small suppliers on the one hand, but not being able to gain greater efficiencies of well-invested modern retail with well-skilled staff on the other. Come to the UAE, closer home in Asia. Being positive to foreign investments and a rich country as well, the UAE (and the Middle East in general) is an attractive investment opportunity for many modern MNC retailers. In the grocery sector, France's Carrefour is a leader. However, the interesting fact is that the store chain that is gaining fast and is offering strong competition (and leading in some cases) to Carrefour is not some other European or American chain; it's a chain called Lulu started by a simple, hardworking, enterprising Indian. This store chain is successfully expanding all over the Middle East and has earned the respect of retail experts the world over.