CHAPTER 16 FOREIGN DIRECT INVESTMENT AND CROSS-BORDER ACQUISITIONS
ANSWERS & SOLUTIONS TO END-OF-CHAPTER QUESTIONS AND PROBLEMS
QUESTIONS
1. Recently, many foreign firms from both developed and developing countries acquired high-
tech U.S. firms. What might have motivated these firms to acquire U.S. firms?
Answer: Many foreign firms might have been motivated to gain access to technical know-how
2. Japanese MNCs, such as Toyota, Toshiba, Matsushita, etc., made extensive investments in
the Southeast Asian countries like Thailand, Malaysia and Indonesia. In your opinion, what
forces are driving Japanese investments in the region?
Answer: Most likely, these Japanese MNCs have invested heavily in Southeast Asia in order to
3. Since the NAFTA was established, many Asian firms especially those from Japan and Korea
made extensive investments in Mexico. Why do you think these Asian firms decided to build
production facilities in Mexico?
Answer: Asian firms might have been motivated to gain access to NAFTA of which Mexico is a
4. How would you explain the fact that China emerged as one of the most important recipient of
FDI in recent years?
Answer: China attracted a great deal of FDI recently because foreign firms want to (i) take
5. Explain the internalization theory of FDI. What are the strength and weakness of the theory?
Answer: According to the internalization theory, firms that have intangible assets with a public
good property tend to undertake FDI to take advantage of the assets on a large scale and, at
6. Explain Vernon’s product life-cycle theory of FDI. What are the strength and weakness of the
theory?
Answer: According to the product life-cycle theory, firms undertake FDI at a particular stage in the
life-cycle of the products that they initially introduced. When a new product is introduced, the firm
chooses to keep production at home, close to customers. But when the product become mature and
foreign demands develop, the firm may be induced to start production in foreign countries,
especially in low-cost countries, to serve the local markets as well as to export the product back to
7. Why do you think the host country tends to resist cross-border acquisitions, rather than green
field investments?
Answer: The host country tends to view green field investments as creating new production
8. How would you incorporate political risk into the capital budgeting process of foreign
investment projects?
Answer: One approach is to adjust the cost of capital upward to reflect political risk and
discount the expected future cash flows at a higher rate. Alternatively, one can subtract
9. Explain and compare forward vs. backward internalization.
Answer: Forward internalization occurs when MNCs with intangible assets make FDI in order to
utilize the assets on a larger scale and at the same time internalize any possible externalities
10. What can be the reason for the negative synergistic gains for British acquisitions of U.S.
firms?
Answer: Negative synergies for British acquisitions of U.S. firms may reflect that British
managers might have been motivated to invest in U.S. firms in order to pursue their own
11. Define country risk. How is it different from political risk?
Answer: Country risk is a broader measure of risk than political risk, as the former
12. What are the advantages and disadvantages of FDI as opposed to a licensing agreement
with a foreign partner?
Answer: The main advantage of FDI over licensing agreement with a foreign partner is that it
provides protection against possible interlopers. The main disadvantage of FDI is that it is costly
13. What operational and financial measures can a MNC take in order to minimize the political
risk associated with a foreign investment project?
Answer: First, MNCs should explicitly incorporate political risk in the capital budgeting process
14. Study the experience of Enron in India, and discuss what we can learn from it for the
management of political risk.
Answer: This question can be used as a mini-case or mini-project. Students can utilize various
15. Discuss the different ways political events in a host country may affect local operations of
an MNC.
Answer: The answer can be organized based on the three types of political risk: Namely,
transfer risk, operational risk, and control risk. Transfer risk arises from the uncertainty about
16. What factors would you consider in evaluating the political risk associated with making FDI
in a foreign country.
Answer: Factors to be considered include: (1) the host country’s political and government system;
17. Daimler, a German carmaker, acquired Chrysler, the third largest U.S. automaker, for $40.5
billion in 1998. But after years of declining profit and labor problem, Daimler sold off Chrysler to
the U.S. private equity firm Cerberus for $7.4 billion in 2007. Study the DaimlerChrysler saga and
identify the main factors for the failure of this cross-border merger.
Suggested answer: Daimler-Chrysler merger failed to produce synergy effect due to the failure to
18. Lured by extremely low labor costs in Bangladesh, many MNCs in the so-called fast-fashion
business, including H&M, Inditex, parent of the popular Zara brand, Marks&Spencer, and Gap,
are heavily outsourcing to Bangladesh. As a result, garment industry has become a major source
of employment and income to Bangladesh. However, the industry has recently suffered a spate of
disasters. In September 2012, about 110 workers died in a blaze at the Tazreen Fashions factory
outside Dhaka, the capital city. What’s worse, in April 2013, more than 1,100 workers perished in
the collapse of the Rena Plaza Building in Dhaka. In your opinion, (i) what are the root causes of
the disasters? (ii) what should be done to prevent future disasters?
Suggested answers: (i) The disasters may be primarily attributable to the weak legal protection of
workers’ rights and the lack of proper government supervision of the health and safety conditions
workers face in factories. (ii) Future disasters may be prevented by stronger legal and
MINICASE: ENRON VS. BOMBAY POLITICIANS
1) Discuss the chief mistakes that Enron made in India.
Suggested answer: Enron was insensitive to the negative political sentiment against foreign
investment in India and ignored the possibility that BJP may win the election and repudiate the
2) Discuss what Enron might have done differently to avoid its predicament in India
Suggested answer: Enron could have done a more accurate analysis of political risk and
considered the possibility of election victory of the nationalist party. In addition, Enron could