US Bureau of
From the July 1999 SURVEY OF CURRENT BUSINESS
The positions of U.S. direct investment abroad (USDIA) and foreign direct investment in the United States (FDIUS)whether measured on the basis of historical cost, current cost, or market valuegrew strongly in 1998 (table 1). This article presents the country and industry detail underlying the two positions. The estimates are prepared on a historical-cost basis; thus, most investments reflect price levels of earlier time periods. Because of inflation, estimates on this valuation basis understate the current values of the positions. BEA's current-cost and market-value estimates correct for this downward bias, but they are only available at an aggregate level./1/
On a historical-cost basis, the USDIA position grew 13 percent in 1998, and the FDIUS position grew 17 percent; for FDIUS, the rate of increase was the largest since 1989. For both positions, a substantial portion of the growth was attributable to a surge in capital flows for new investments, which coincided with a global boom in mergers and acquisitions. Equity capital flows for acquiring or establishing new affiliates set new records by large margins. The dollar value of acquisition-related flows was boosted by high valuations in the equity markets of the United States and a number of other countries.
Favorable economic conditions in the United States, Europe, and Canada also contributed to the strong growth in the direct investment positions. The strength of these economies created strong incentives to invest there. Additionally, the earnings of parent companies in these areas remained at high levels and provided a source of funds for investment abroad.
Unfavorable economic conditions in a number of countries in Asia and Latin America did not appear to significantly affect either of the positions. The USDIA position continued to grow in these areas, as U.S. investors acquired new affiliates and increased their funding of existing ones. Depressed asset prices in several countries were an inducement to U.S. investors, despite declines in the earnings of foreign affiliates in those countries. The FDIUS position of parents in Asia expanded as parent companies in Japanby far the largest source of Asian direct investment in the United Statescontinued to invest in their existing U.S. affiliates, even though problems in the Japanese economy curtailed Japanese investors' ability to finance new U.S. investments. The position of Latin American parents declined slightly; the decline was related to financial restructuring among affiliates with parents in the Caribbean.
The largest component of capital flows underlying the changes in both positions was equity capital, which includes the funds used to acquire and establish new affiliates and capital contributions to existing affiliates. Equity capital accounted for almost half of the total outflows for USDIA and over four-fifths of the total inflows for FDIUS.
The U.S. direct investment position abroad valued at historical costthe book value of U.S. direct investors' equity in, and net outstanding loans to, their foreign affiliateswas $980.6 billion at the end of 1998 (table 2 and chart 1). The largest positions remained those in the United Kingdom ($178.6 billion, or 18 percent of the total), in Canada ($103.9 billion, or 11 percent of the total), and in the Netherlands ($79.4 billion, or 8 percent of the total) (table 3.2 and chart 2).
In 1998, the USDIA position increased $115.0 billion, or 13 percent, following a 9-percent increase in 1997. The following table shows the change in position in 1998 by the type of capital flow and valuation adjustment:/2/
[Billions of dollars]
Capital outflows for USDIA were a record $121.6 billion in 1998 (the previous record of $99.5 billion was set in 1997). Almost 50 percent of the outflows were accounted for by net equity capital outflows, which were up $15.5 billion from 1997; almost 40 percent was accounted for by reinvested earnings, which were down $3.7 billion; and the remainder was accounted for by intercompany debt outflows, which were up $10.3 billion.
Equity capital outflows reached a record $59.4 billion, up 35 percent from their 1997 levels. Equity capital increases, which result from equity investments by U.S. parents in both new and existing foreign affiliates, were $79.9 billion and primarily reflected acquisitions. These increases were partly offset by equity capital decreases of $20.4 billion; equity capital decreases result when U.S. parents sell off stock or other equity in their foreign affiliates and when foreign affiliates return invested capital to U.S. parents (transactions that are recorded as U.S. capital inflows).
Acquisition activity by U.S. direct investors was strong in 1998. Funds available to U.S. parent companies were plentiful as a result of rising equity markets and continued strong economic growth in the United States. In addition, relatively favorable economic conditions in the United Kingdom, Canada, and Australia, where a substantial portion of the acquisition activity was concentrated, increased the attractiveness of direct investments in these countries. Finally, several large acquisitions resulted from opportunities created by privatizations of electric utilities and telecommunications companies abroad. Acquisition activity was particularly strong in the United Kingdom, where there were substantial new investments in electric utilities, manufacturing, insurance, and services.
Although down 7 percent from a record level in 1997, reinvested earnings remained high at $47.5 billion in 1998, reflecting a pattern of strong earnings and high rates of reinvestment that began in 1995. In each year during 199598, total earnings exceeded $85 billion, and the share that was reinvested was at least 50 percent, well above the 35-percent average share in 198294. In 1998, the share was 53 percent.
The 7-percent decline in reinvested earnings mirrored an even sharper decline in earnings. Both declines were centered in Asia and Latin Americaparticularly in some countries where economic conditions deteriorated significantly, such as Japan, Malaysia, Indonesia and Brazil. Earnings and reinvested earnings also declined in Australia and Mexico, partly because the depreciation of their currencies lowered the value of these items in terms of U.S. dollars.
The intercompany debt outflows primarily resulted from increased lending by parents to their foreign affiliates. These outflows were more than accounted for by outflows to Europe, particularly to the United Kingdom, the Netherlands, and Ireland.
The capital outflows were partly offset by a $6.6 billion downward adjustment to the value of the position. Several foreign affiliates were acquired by U.S. direct investors for more than book value, so a downward adjustment was necessary to reconcile the purchase price, which is reflected in capital outflows (and would otherwise determine the measured change in position), with the book values used in computing the historical-cost position. (See valuation adjustments in the box "Key Terms.")
More than half of the $115.0 billion increase in the USDIA position in 1998 was accounted for by increases in Europe. Major changes in the position by area and by country are shown in the following table:
[Billions of dollars]
|Latin America and Other Western Hemisphere||18.1|
|Asia and Pacific||15.2|
The position in Europe increased 17 percent. Within Europe, the United Kingdom had by far the largest increase, followed by the Netherlands and Switzerland. In the United Kingdom, equity investments to acquire companies were substantial, especially in "other industries" (primarily electric utilities); manufacturing (primarily transportation equipment); finance (except depository institutions), insurance and real estate (FIRE) (primarily insurance); and services. U.S. parent companies are attracted to the United Kingdom because of its large, prosperous market and because of the similarity of its business culture, legal framework, and language to that of the United States; in addition, the United Kingdom is often used as a springboard for investing elsewhere in Europe. In both the Netherlands and Switzerland, a large portion of the increase in the position was accounted for by reinvested earningsparticularly those of holding companies classified in FIRE, which, in turn, reflected strong earnings of operating affiliates held by these companies.
The position in Latin America and Other Western Hemisphere increased 10 percent; the increase was almost entirely in capital outflows, mostly equity capital. Within the area, the largest increases were in Panama, Bermuda, Brazil, and Mexico. In Panama, the increase consisted largely of valuation adjustments, mainly reflecting capital gains in FIRE. In Bermuda, the increase consisted largely of reinvested earnings of holding companies in FIRE and reflected earnings of operating affiliates located in other countries. In Brazil, the increases were largely in new investments in electric utility and telecommunications companies (classified in "other industries") that were made in response to opportunities created by privatizations. In Mexico, the largest increases were in FIRE and in "other industries" (primarily retail trade and telecommunications) and were split between reinvested earnings and equity capital outflows.
The position in Asia and Pacific increased 10 percent; the largest increases were in Japan and Australia. In Japan, by far the largest increase was in FIRE. In Australia, most of the increase was in equity capital outflows for acquisitions of new affiliates in FIRE.
The position in Canada increased 8 percent. More than 80 percent of the increase was accounted for by equity capital. By industry, the largest increases were in "other industries" (primarily retail trade), "other manufacturing" (primarily paper and allied products), FIRE, and petroleum.
The foreign direct investment position in the United States valued at historical costthe book value of foreign direct investors' equity in, and net outstanding loans to, their U.S. affiliateswas $811.8 billion at the end of 1998 (table 2 and chart 1). The largest position remained that of the United Kingdom, ($151.3 billion, or 19 percent of the total), which widened its margin over Japan, the country with the second-largest position ($132.6 billion, or 16 percent). The Netherlands had the third largest position ($96.9 billion, or 12 percent), slightly ahead of Germany ($95.0 billion, or 12 percent) (table 4.2 and chart 3).
In 1998, the FDIUS position increased $118.5 billion, or 17 percent, following an increase of 16 percent in 1997. Two exceptionally large transactions contributed to the overall increase. The two transactionseach of which significantly exceeded the size of any previous single investmentinvolved the acquisition of a petroleum company and the acquisition of a motor vehicle manufacturer by foreign firms in the same industries as the acquired firms./3/ Both transactions were accomplished by exchanging stock; the shareholders of the premerger firms exchanged their stock for stock in the new foreign firms that were created through the mergers. Taken together, these exchanges resulted in large, but almost entirely offsetting, capital flows in the U.S. balance of payments: The large capital inflows on direct investment that resulted from the foreign investors' acquisition of stock of the U.S. companies were offset by the capital outflows on foreign securities that resulted from the U.S. stockholders receiving the stock of the newly established foreign firms./4/
The two transactions significantly affected the positions in petroleum and manufacturing. In petroleum, the position expanded 27 percent, following several years of almost no growth. (The annual growth rate in 198797 was 1 percent.) The acquisition also changed the parent-country composition of the position in petroleum; roughly half was accounted for by the United Kingdom at yearend 1998, compared with slightly more than a fourth at yearend 1997. The acquisition of the automobile manufacturer contributed to a 21-percent increase in the position in manufacturing, nearly twice the annual growth rate in 198797.
Although these two transactions accounted for nearly a fourth of the overall increase, growth in the position would have been 13 percent even without them. Investment in the United States was indirectly boosted by the recessionary conditions in some other parts of the world and by a perceived widening of the risk differential between investing in the United States and investing in many developing countries. In particular, economic difficulties in Asia and Latin America caused some foreign direct investors to place a high value on the "safe harbor" provided by the economic stability of the United States. Growth in the position also reflected favorable economic conditions in Europe and Canada, which helped parents from those areas to acquire affiliates in the United States and to contribute additional capital to their existing U.S. affiliates.
Although the economic situation deteriorated sharply in Japan, capital flows from Japanese parents to their existing U.S. affiliates continued, resulting in a 6-percent increase in Japan's direct investment position in the United States. However, because of the weakness of the Japanese economy, Japanese investments in new U.S. affiliates remained at historically low levels.
The following table shows the change in the FDIUS position in 1998 by type of capital flow and valuation adjustment:
[Billions of dollars]
* Less than $500,000.
Capital inflows for FDIUS were a record $189.0 billion in 1998 (the previous record of $105.5 billion was set in 1997). Most82 percentof the capital inflows were net inflows of equity capital ($154.2 billion). The rest were accounted for by intercompany debt flows ($26.4 billion) and reinvested earnings ($8.4 billion). The capital inflows were partly offset by a substantial downward adjustment$70.4 billionto the value of the position, which was primarily related to the two large transactions. Both the petroleum company and the motor vehicle manufacturer were acquired by foreign direct investors for considerably more than book value; the downward adjustment was made to reconcile the transactions values of the acquisitions, which are reflected in capital inflows (and would otherwise determine the measured change in position), with the much smaller book values that are recorded in the historical-cost position.
Total acquisition activity by foreign direct investors was at record levels and coincided with a sharp increase in overall merger and acquisition activity in the United States./5/ A general factor behind the surge in acquisitions was the desire to reduce costs through economies of scale in response to heightened global competition. In addition, the desire of foreign investors to gain access to the advanced and growing technological capability of the United States led to a number of acquisitions of telecommunication and information-related businesses. (Funds provided by foreign parents for such acquisitions exceeded $25 billion.) High valuations in the U.S. equity markets boosted the dollar value of acquisition-related inflows.
Equity capital inflowsthe net of equity capital increases and equity capital decreases reached a record $154.2 billion, more than double the previous record of $64.7 billion in 1997. Equity capital increasesat $176.0 billionreflected the acquisitions of U.S. businesses by foreigners and additional equity contributions to existing U.S. affiliates. These increases were partly offset by equity capital decreasesat $21.8 billionwhich reflected selloffs of affiliates by, and returns of capital to, foreign direct investors (transactions that are recorded as U.S. capital outflows).
Intercompany debt inflows were $26.4 billion, up from $24.3 billion. More than half of the inflows were from parents in Luxembourg and were partly related to several acquisitions in manufacturing and services.
Reinvested earnings were $8.4 billion in 1998about half their level in 1997. The decrease primarily reflected a drop in earnings, but a lower rate of reinvestment also contributed. Earnings fell $5.5 billion; the drop was more than accounted for by petroleum and finance (except depository institutions). The decrease in petroleum reflected the drop in oil prices. In finance, earnings shifted to losses; more than half of this shift was accounted for by Swiss-owned investment firms that were restructuring. The share of earnings that were reinvested was 30 percent, down from an unusually high 49 percent in 1997 but in line with an average rate of 32 percent in 199496. Reinvested earnings were negative in food manufacturing, finance, petroleum, real estate, and "other industries." (Negative reinvested earnings are recorded when affiliates incur losses or distribute earnings to their foreign parents in excess of their current earnings.)
Almost all90 percentof the $118.5 billion increase in the FDIUS position in 1998 was accounted for by parents in Europe. Within Europe, the largest dollar increase was in the position of parents in Germany, followed by the positions of parents in the United Kingdom, Switzerland, Luxembourg, and France. Outside Europe, the largest increases were by parents in Japan and Canada. Major changes in the positions by area and by country are shown in the following table:
[Billions of dollars]
|Asia and Pacific||7.0|
The position of Germany increased 33 percent. Most of this increase was accounted for by the acquisition of the motor vehicle manufacturer. This acquisition substantially changed the industry composition of Germany's position; more than half was accounted for by manufacturing at yearend 1998. Germany's overall position was also increased by additional equity investments in existing affiliates that are depository institutions.
The acquisition of a major petroleum company accounted for most of the increase in the United Kingdom's overall position and was the primary factor behind a more than twofold increase in its position in petroleum. The overall position was also increased by additional equity investments in existing affiliates in manufacturing, petroleum, wholesale trade, finance, and services (some of which financed acquisitions by these affiliates) and by reinvested earnings of affiliates in manufacturing (particularly chemicals), services, and wholesale trade. These increases were partly offset by equity capital outflows and downward adjustments to the position that were related to sell-offs of telecommunications and insurance affiliates.
The position of Swiss parents increased 41 percent. Nearly two-thirds of the increase was in insurance. Swiss investors acquired a number of U.S. insurance companies, some from foreign parents in other countries./6/ In addition, Swiss parents contributed substantial capital to their existing insurance affiliates. These changeswhich more than doubled Switzerland's position in insurancereflected Swiss insurers' desires to consolidate into larger, more efficient units and to become better able to spread risks.
The position of Luxembourg parents nearly quadrupled; the increase reflected intercompany borrowing by affiliates in manufacturing andto a lesser extentservices. In both industries, the borrowing was related to the acquisitions of new U.S. affiliates.
The increase in the position of French parents was concentrated in machinery, "other manufacturing," and chemicals. The increase in machinery resulted from acquisitions of telecommunications equipment businesses; the increase in "other manufacturing" resulted from capital contributions to existing affiliates; and the increase in chemicals resulted from affiliate borrowing from foreign parents.
More than three-fourths of the increase in the position of Japanese parents was accounted for by equity capital contributions to existing affiliates. These capital contributions were concentrated in the three industries that account for the largest shares of Japan's positionwholesale trade, finance (except depository institutions), and "other manufacturing." Reinvested earnings in "other manufacturing" also boosted the position.
The increase in the position of Canadian parents was more than accounted for by equity capital inflows, which were the third largest of any country. By industry, the largest increases in the position were in "other industries," finance, real estate, and machinery.
1. The current-cost and market-value estimates are discussed in "The International Investment Position of the United States in 1998" in this issue.
2. Valuation adjustments to the historical-cost position are made to account for differences between changes in the position, measured at book value, and capital flows, measured at transactions value (see the box "Key Terms").
3. The International Investment and Trade in Services Survey Act prohibits BEA from disclosing information from its direct investment surveys in a manner that allows the data supplied by an individual respondent to be identified. The act also provides that with the prior written consent of the respondent, information supplied by the respondent may be disclosed. For these two large investments, BEA obtained consent for limited disclosure in order to present useful results from the survey.
4. The USDIA position was not affected by these two transactions, because the exchanges of stock did not result in any single U.S. investor owning as much as 10 percent of the shares of the new foreign firms.
5. See Mahnaz Fahim-Nader, "Foreign Direct Investment in the United States: New Investment in 1998," SURVEY OF CURRENT BUSINESS 79 (June 1999): 1623. Preliminary data from BEA's survey of new foreign direct investments, summarized in that article, indicate that total outlays to acquire or establish U.S. businesses, including those financed by capital inflows from foreign parents, were up 188 percent to $201.0 billion in 1998, following a 13-percent decrease in 1997. These data cover only transactions involving U.S. businesses newly acquired or established by foreign direct investors and include financing other than that from the foreign parent, such as local borrowing by existing U.S. affiliates. In contrast, the changes in the FDIUS position described in this article reflect transactions of both new and existing U.S. affiliates with their foreign parents or other members of the foreign parent group and valuation adjustments, and exclude financing not provided by the foreign parent.
Notwithstanding these differences, the two types of data are related. Any outlays to acquire or establish U.S. businesses that are funded by foreign parent groups are part of capital inflows for FDIUS, a component of the change in the position. Data from the new investments survey indicate that foreign parent groups funded $155.3 billion, or 77 percent, of outlays to acquire or establish new U.S. affiliates in 1998, compared with $37.4 billion, or 54 percent, in 1997.
6. The acquisition of a U.S. affiliate by a foreign parent in one country from a foreign parent in another country is recorded as an upward adjustment (positive valuation adjustment) to the position of the acquiring country that is offset by a downward adjustment (negative valuation adjustment) to the position of the selling country.