What Is Foreign Direct Investment (FDI)? Types and Examples

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Foreign direct investment (FDI) is an investment by a company, individual or government in one country that gives it a lasting interest in, and significant influence or control over, a business or project in another country. The “direct” part is what matters: the investor is not just buying a financial asset to hold but taking a stake large enough to help run the enterprise. Under the international statistical standard set by the Organisation for Economic Co-operation and Development (OECD), that threshold is ownership of at least 10% of the voting power in the foreign enterprise.

How Foreign Direct Investment Works

A foreign direct investor is the party that holds the stake: often a multinational company, sometimes a state-owned enterprise, a sovereign fund or a wealthy individual. The business that receives the money is the direct investment enterprise. The country the money leaves is the home (source) country, and the country it enters is the host (recipient) country.

What separates FDI from ordinary cross-border investing is the relationship it creates. A U.S. investor who buys a few shares of a German carmaker through a brokerage account has no say in how the company is run. A U.S. company that buys a controlling interest in a German parts supplier, appoints its board members and integrates it into its supply chain has made a direct investment. FDI frequently goes beyond capital: the investor may also transfer managers, technology, production methods and equipment.

There are several ways to make the investment:

• Greenfield investment: building a new subsidiary, factory, office or store in the host country.
• Acquisition or merger: buying a controlling or significant stake in an existing foreign company (sometimes called brownfield investment).
• Joint venture: forming a jointly owned business with a local partner, which is common when the investor lacks local expertise or the host country limits foreign ownership.

Once the investment exists, FDI keeps accumulating through three channels in official statistics: new equity capital, reinvested earnings (profits the foreign affiliate keeps rather than pays out to the parent), and intercompany debt (loans between the parent and the affiliate).

The 10% threshold

The 10% voting-power rule is a statistical convention for recording investment consistently, not a test of actual control. Effective influence can sometimes come with less than 10% of the voting shares, for instance when ownership is widely dispersed or the investor holds board seats or key contracts, while a 10% stake does not guarantee control. National laws that screen or restrict foreign ownership may use their own definitions.

Interpreting Foreign Direct Investment

FDI is reported as flows and stocks. Flows measure investment made during a period, usually a year. Stocks (or positions) measure the accumulated value of foreign-owned direct investment at a point in time. Flows are also split by direction: inward FDI comes into a country, outward FDI goes abroad. “Net” figures subtract disinvestment, such as a foreign parent selling its affiliate or repatriating capital, so net inflows can be negative in a given year.

A common way to compare countries of very different size is to scale inflows by economic output:

FDI inflows as % of GDP = Net FDI inflows ÷ Gross domestic product × 100

Hypothetical example: Country A records $3 billion of net FDI inflows in a year and has a GDP of $60 billion. Its FDI-to-GDP ratio is 3 ÷ 60 × 100 = 5%. A larger economy with $50 billion of inflows and a GDP of $2.5 trillion has a ratio of 2%. The larger country attracts far more money in absolute terms, but FDI matters more relative to the size of Country A’s economy. The ratio is often read as a signal of a country’s appeal as a long-term investment destination and tends to be higher for smaller, fast-growing economies.

Hypothetical example of classification: Company B, based in Canada, pays $200 million for 60% of a Mexican logistics firm. That is FDI, recorded as an outward flow for Canada and an inward flow for Mexico. If Company B had instead bought an 8% stake with no board seats, the purchase would normally be recorded as portfolio investment.

Types of Foreign Direct Investment

• Horizontal FDI: the investor sets up or buys the same kind of business abroad that it runs at home. A U.S. mobile carrier buying a chain of phone stores in China fits this type. The goal is usually access to new customers.
• Vertical FDI: the investor acquires a business at a different stage of its own supply chain. A manufacturer buying into a foreign supplier of its raw materials is backward vertical FDI; buying a foreign distributor that sells its products is forward vertical FDI.
• Conglomerate FDI: the investor enters a foreign business unrelated to its core activity. Because the investor has no experience in that industry, this type often takes the form of a joint venture.

Some textbooks add a fourth category, platform FDI, where a company invests in one foreign country in order to export from there to third countries.

Why Is Foreign Direct Investment Important?

FDI creates stable, long-lasting links between economies: unlike portfolio money, which can be sold in seconds, a factory or a controlling stake is hard to withdraw quickly.

Investors tend to look for open economies with a skilled workforce, above-average growth prospects and relatively light regulation. Host countries, especially developing ones, often court FDI to finance infrastructure, create jobs and gain access to technology and management practices.

For the investing company, FDI is a way to reach new markets, secure supplies, lower production costs or get around trade barriers by producing inside the market it wants to sell to.

Global FDI is sensitive to shocks. According to the U.N. Conference on Trade and Development, worldwide flows fell to $859 billion in 2020 during the COVID-19 pandemic, from about $1.5 trillion in 2019, then rebounded by 77% in 2021.

Example of Foreign Direct Investment

• Nvidia and Arm: in 2020, U.S. chipmaker Nvidia announced a planned $40 billion acquisition of Arm, a U.K.-based chip designer. Britain’s competition regulator examined whether the deal would reduce competition in industries that rely on semiconductors, and the deal was abandoned in February 2022.
• Belt and Road Initiative: China’s One Belt, One Road program commits substantial investment to infrastructure across Africa, Asia, Oceania, Latin America and parts of Europe, largely through state-owned enterprises and organizations closely tied to the Chinese government. Japan, the United States and the European Union run comparable programs.
• India’s retail rules: India has relaxed its FDI policy to allow 100% foreign ownership in single-brand retail without prior government approval, an example of a host country opening a sector to attract foreign direct investors.

FDI vs. Foreign Portfolio Investment

Foreign portfolio investment (FPI) means buying foreign stocks, bonds or other securities to diversify a portfolio, without taking control of the issuer. Pension funds, mutual funds and individual investors are typical portfolio investors.

Limitations of Foreign Direct Investment

FDI places the investor under the oversight of more than one government, which raises political risk: expropriation, sudden ownership caps, tax changes, currency controls or the blocking of deals on national security or competition grounds. The capital is illiquid, so exiting a poor investment can be slow and costly, and money tied up abroad carries an opportunity cost.

For host countries, benefits are not automatic. Profits may be repatriated rather than reinvested locally, foreign firms can crowd out domestic competitors, and dependence on a few large investors can leave a country exposed if they leave. As a statistic, FDI also has blind spots: investment routed through holding companies in third countries can make it hard to identify the ultimate owner.

FAQs

The Bottom Line

FDI matters to companies weighing expansion abroad and to countries trying to attract jobs, capital and technology. It builds durable links that portfolio money cannot, since a factory or controlling stake is hard to pull out quickly. That same permanence brings political risk, illiquidity and uneven benefits for host countries, so investors and policymakers should weigh market access against the cost of a slow exit.