Financing the Outward Foreign Direct Investment - Conceptual Framework

Abstract

In the wake of increasing Outward Foreign Direct Investment (OFDI) from India their financing in the form of intra-company loans and equity is an interesting area of research. Outward foreign direct investment by a member firm (called as parent firm) to another member firm in a host country in a multinational system (called as foreign affiliate) can take the form of debt (parent debt) and equity (parent equity). Myers' pecking order theory talks about the external debt and external equity but there might be some preference hierarchy for internally generated funds - parent debt or parent equity. The literature focusing on nature of these flows (debt or equity) is scant owing to opacity of flows within a multinational system. The opacity of flows within a multinational makes the analysis empirically challenging and hence one may focus on the outward foreign direct investment by a parent firm into their foreign affiliates to capture the financial flows.

The paper discusses the two types of capital market from where a multinational could tap funds, laying emphasis on internal capital market, a multinational specific advantage, besides various issues specific to internal capital market. The paper presents three perspectives to view such an analysis that have implications for efficiently utilising the internal capital market of the multinational system, supply-side determinants of capital structure of foreign affiliates, and the outward foreign direct investment. The paper thus attempts to provide areas where the contribution can be made especially with regards to the determinants of OFDI, a value addition to both the international finance and international business literature.