Improving FDI into South Africa through M&As
ENCOURAGED BY superior technology, faster and cheaper communications and motivated by intensifying competition, businesses are increasingly scouring the globe in search of new locations offering advantages that improve their competitiveness.
Mergers and Acquisitions form the majority of FDI deals in the developed world, but remain relatively scarce in the developing world. Tashmia Ismail, the winner of the University of Pretoria’s Gordon Institute of Business Science’s MBA bursary in 2007, recently completed research into the macro-economic profiles of developing countries which attract greater M&A activity. Ismail’s research examined 117 developing economies, analysing their market characteristics, infrastructure, institutions, economic sectoral make-up and level of foreign economic activity.
In a comparison of developed and developing economies, M&A accounted for only 333 of 1 442 deals (M&A and Greenfield) between 2004 and 2006 in Africa. This is compared to 4 011 of 6 498 for North America and 7 431 of 17 323 for the EU. In the same time, M&As made up just 19% of the FDI deals concluded in developing economies, compared to 51% in the developed world.
Some of the reasons for reluctance on the part of MNCs to enter developing markets include the frequency of policy regime changes and the volatility of growth rate. The income inequality, higher poverty levels, governance, institutional contexts and the level of economic and human development in developing economies are offset by the fact that since the early 1990s, these countries have been the fastest growing markets in the world for products and services.
An important finding of the study is that M&A attractiveness occurs on two levels; the country level where M&A predominates over Greenfield as a choice of FDI entry and the regional level, where an economy attracts the greatest M&A activity within its geographic region by virtue of its overall attractiveness as an FDI destination. South Africa falls into the latter category as it draws the greatest number of M&A deals within the region, however Greenfield deals still far outnumber M&A deals.
The profile of the former group where M&As outnumber Greenfields is that of countries with significantly smaller GDPs relative to the regional leaders, the strongest democracies, a relatively larger industrial and services sector and a smaller mining sector.
While low labour costs are used by many developing countries to attract FDI, the host’s market size and distance are considered to be of far greater consequence. Total costs of production taken together are however largely influential in the direction of FDI flows. High labour costs may be mitigated by the infrastructural spend on health and education, which result in a healthy, skilled and more efficient workforce which in turn lowers costs.
Companies will go to foreign countries if there exists sufficient demand in the country or region, total production costs incurred at the location are low, intense competition is not a threat, public policies are advantageous, institutions create productive and efficient economies in which to operate, to diversify and reduce risk, for arbitrage opportunities and to leverage economies of scale.
Ironically, it has been found that organisations follow into locations where other organisations from their industry have already entered, despite the increase in competitive intensity this generates. This tendency may be linked to supply chain issues as well as benefiting from technical spillovers. These would lower R & D costs thereby improving the firm’s competitiveness.
Research shows that when MNCs first plan to internationalise, they choose geographically and culturally proximate regions; the market familiarity principle. In this way, home-based skills, advantages, management and resources can be leveraged to minimise transaction costs. The establishment and implementation of attractive policies along with efficient infrastructure reduces the locational effect and cost of distance, enhancing the regional FDI attractiveness of a state.
M&As are largely driven by firms that have capabilities in their own markets which are not necessarily internationally mobile or may not be useful in a foreign market. By engaging in cross-border M&As, a firm can access local knowledge and capabilities in order to supplement their portable advantages. A national M&A however, looks to relieve competitive pressure.
Statistics show that between 70% and 80% of all mergers fail, with only 17% of cross border M&As creating value. An alarming 53% of M&As have shown to destroy value. These statistics may be part of the explanation for the lower volumes of M&A deals in developing countries where investor firms may be wary of entering into deals already known to have high failure rates and then compounding this in an environment fraught with challenges. Often businesses planning to locate activities within developed regions have scarce resources to allocate and must carefully consider cost-effective locations wherein they may exploit their firm specific advantages adequately. It is therefore a strategic imperative to understand the macro environmental features which support M&A activity as this may aid in the choice of the most practical and competitive location for a firm’s operations.
Of the myriad factors which developing countries should be aware of if they hope to increase M&A activities, and therefore FDI in their country, the following are the most important to address: more friendly to international investors international business, particularly with regard to legal, financial and governance issues mies industrialisation process is delayed, which results in a country’s per capita income falling behind the regional leaders