16 December 2009

Business Looks for Good Governance in Developing Markets

 

This KFC restaurant has opened in Ho Chi Minh City over the last decade as Vietnam welcomed Western businesses.

This KFC restaurant has opened in Ho Chi Minh City over the last decade as Vietnam welcomed Western businesses.

By Scott Eisner

“Foreign direct investment has no fixed allegiance or nationality,” said Ghanaian President John Atta Mills at a recent business summit. “It goes where it is most welcome.” President Mills knows that to attract capital investment from U.S.-based corporations and other multinationals, developing nations must offer political stability, rule of law, and a business-friendly economic climate. Corporate investment decisions are neither subjective nor arbitrary, but instead represent a hard-headed assessment of whether a given nation offers the good governance required for their operations to thrive.

Scott Eisner is the executive director of the Africa Business Initiative for the U.S. Chamber of Commerce.

The developing world is the last growth frontier for many major corporations, and the U.S. business community is avidly seeking opportunities there. The benefits of investing in developing nations are many: lower-cost labor, abundant natural resources, and large consumer markets to name a few. In a global economy, however, these countries are often anomalies for sophisticated companies to operate in. Seemingly insurmountable problems—such as political instability, uneducated workforces, murky business environments, and poor infrastructure—are preventing American companies from competing for the last marketplaces where they might continue expansion. The potential problems simply may outweigh the opportunities in many companies’ internal cost-benefit analyses.

Twenty years ago, the U.S. Chamber of Commerce developed a simple document titled “Twelve Rules for International Investors: What goes into a U.S. company’s decision to invest overseas?” Its aim was to explain to foreign governments the criteria that U.S. multinationals use when gauging whether and where to invest abroad. Forbes magazine has used these rules in preparing its annual “Best Countries For Business” report.

Good Governance Attracts Investment

Some of the criteria for attracting investment—the size of the domestic market or the availability of raw materials—are realities that governments cannot change at will. Either a country is blessed with natural resources, or it is not. If an internal market is small, no law can be passed to make it big.

But many other criteria are entirely within the realm of government action. Are taxes, tariffs, and regulations onerous? Is doing business simple, straightforward, and easy? Is corruption rife? Is the judiciary fair and efficient? Governments can enact and enforce laws that will create a good operating environment for business and make their nations more attractive investment destinations.

For instance, companies need reasonable guarantees that their investments will be secure regardless of the political winds within a particular national economy. In most industries, if a corporate executive believes that the company’s people, facilities, and other investments would be unsafe because of an ongoing political situation or recent political upheaval in a given country, the firm will not invest there. The risk is too great.

Interestingly, American companies are not necessarily looking at democratically governed nations as potential investment destinations. Political stability with a nonviolent regime is generally sufficient for companies when looking at a nation’s governance as part of its matrix in determining where to invest. Security of investment is requisite.

 

The Coca-Cola logo, seen here in Shenzhen, China, marks the presence of this multinational corporation in more than 200 countries.

The Coca-Cola logo, seen here in Shenzhen, China, marks the presence of this multinational corporation in more than 200 countries.

In addition to political stability, having an educated workforce is key to attracting foreign direct investment (FDI). American companies operate with a unique business model. The majority of Fortune 500 companies (an index of top companies compiled annually by a respected business periodical) enter a new market with a long-term view. By and large, these companies expect their international branches to be self-sufficient, and they want them to employ local workers. They recognize that local people can navigate their own domestic business environment more easily than expatriates, and they know that improving the local standard of living and the local economy will ultimately lead to a larger consumer base.

A large part of the success of American companies internationally is based on their nonimperialistic mode of investing. This cooperative outlook can be an enormous benefit to an investment destination with the potential to provide employment for the locals. Understandably then, it is imperative for a country’s population to have the education or technical background to be employed by a major American firm. Companies find that lack of education is one of the biggest hurdles in the developing world, and many of them find it necessary to include a technical school or training course as part of their initial investment. This adds to the cost of doing business, as well as to the timeline for getting that business running.

Aside from political stability and a skilled workforce, companies that are considering investment in the developing world require a number of other basic necessities in order to invest in a particular nation. Investors need transparent processes for establishing and doing business in a country. The requirements cannot change without notice. Further, American investors need to operate within a system that has a level playing field. All American firms are bound by the Foreign Corrupt Practices Act, and so they cannot pay bribes without risking penalty by the American justice system. Therefore, it is difficult for American companies to compete in a nation that operates on a bribe system.

Another baseline element needed to attract private sector investment is transparent and reliable rule of law. Corporations need assurance that a country’s justice system works. They must have confidence that if they are sued or need to take legal action, a fair outcome can be achieved.

A Good Business Environment

Beyond those basic elements, companies are looking for a business-friendly environment. The executives who participated in the U.S. Chamber of Commerce’s 2009 study, A Conversation Behind Closed Doors: How Corporate America Really Views Africa, said that many developing nations vying for the attention of investors are making positive changes to their domestic business environments. These are the countries that will be attracting FDI. Simple adjustments—such as making multiple-entry business visas affordable and easy to obtain—go a long way with possible investors. Offering an effective “one-stop shop” that guides investors through the local process of establishing a business makes it less daunting.

Clearly, some countries succeed wildly in attracting international investment, as in the case of Panama or Rwanda. For instance, the Panamanian government offers foreign and domestic investors a range of incentives including tax credits and fixed-rate import duties. And this year Rwanda was named by the World Bank as the fastest global business reformer in terms of the ease of doing business.

Singapore is another compelling example. A small island state with no natural resources to speak of has become an industrial powerhouse with one of the highest standards of living in the world. Or consider the difference between South Korea and its northern neighbor, which arguably enjoys a better resource endowment. South Korea is now home to one of the largest and most dynamic economies in the world and a prosperous society, while North Korea’s state-controlled economy is reliant on international donors to feed its people.

As a cautionary example, recent actions by the government of Ecuador reveal the price of anti-business policies in terms of forfeited investment and jobs. The business climate has deteriorated as the Ecuadorian government undertook the largest uncompensated expropriation of a U.S. investment anywhere in the world in recent decades (the 2006 seizure of US $1 billion in oil field assets); interfered in a judicial proceeding of major significance; raised tariffs; and is now threatening to seize the intellectual property of international companies. The results are clear: Foreign investment as a percentage of GDP in the 2005–2007 period was among the lowest in the Latin American region (alongside Venezuela and Bolivia), according to the U.N. Economic Commission for Latin America and the Caribbean.

Another huge detraction for companies researching investment in a particular country is the absence of basic infrastructure. The untapped potential of Africa’s agricultural sector is a quintessential example. Sub-Saharan Africa has massive tracts of arable land and is home to an enormous variety of agricultural products; however, a large amount of the food grown never makes it to market. A lack of road infrastructure in this region prevents efficient transport of produce, so frequently crops rot before they reach buyers. If a reliable network of rail and roadways linked farmland to ports and major urban marketplaces, countless major agricultural companies would be investing there.

Electric and telecommunications infrastructures are as important in the global economy as transportation. Can vendors and buyers and employees and employers communicate in a timely manner? The old adage has never been truer—time is money. On a recent textile factory tour in Ethiopia, I was told that in order for the factory to receive a new design, an employee had to download it in a city that is a four-hour drive away, burn it to a CD, and drive the four hours to deliver the new order. If any alterations are made to the design, the process repeats itself. This is clearly not a cost-effective way to run a business, but in a country with very limited Internet access, it is reality.

The majority of characteristics that the American private sector looks for in prospective investment destinations are not capital-intensive. Instead, the necessary changes require the determination of the nation’s government to become an attractive place for doing business. If a country can achieve political stability and clamp down on corruption to create a transparent business environment, educating citizens and building out the necessary infrastructures will follow—either from private investment or through international assistance.

The opinions expressed in this article do not necessarily reflect the views or policies of the U.S. government.