Does FDI Mode of Entry Matter for Economic Performance? – The Case of Korea

Seong-Bong Lee, Mikyung Yun
JEL codes: 
Working Paper 06-02

This paper attempted to empirically test the proposition that unlike the typical concern against M&A, there is little difference in firm performance by modes of FDI entry. If this is the case, there is no reason to prefer other modes of entry over M&A. The major contribution of this paper is that it calls into question the current classification scheme of mode of FDI entry, on which government tax incentives are based. This paper corrects for this, reclassifying the modes of entry through detailed analysis of each investment case to reflect as much as possible actual complexity of the cross border
investment deal. The empirical part of this paper confirms, even after reclassifying the mode of entry into three groups, that there are indeed no significant differences between greenfield, M&A and P&A in terms of corporate performance (measured by various profitability measures) and subsequent investment behavior (measured by changes in total assets). As shown through the case studies, the main reason behind
this result is that at the time of entry, investing multinationals and target domestic companies employ complex deals, mixing various modes within a single investment case. Therefore, when the impact analysis is made at the level of the firm, which is a reasonable thing to do, it is not surprising to find that there are no differences between the various modes. Further, sequential investment may take different forms from the original mode of entry, making it difficult to alienate economic impact of each part of a single investment deal over time. An important policy implication of this result is that there is no logical foundation to provide tax incentives on the basis of mode of FDI entry, which assumes that different modes of entry will have differential economic impact on the host country. The tax incentives for FDI, which are granted for the FDI of an acquisition of newly issued stocks, should be changed. Especially, the tax incentives for the FDI in
the mode of P&A should be abolished, because there is no difference between the modes of P&A and M&A in terms of economic substance.