Foreign Direct Investment in Saudi Arabia
Introduction
Foreign direct investment has a major role to play in the global business. Foreign direct investment is a source of new markets, marketing channels, access to new technology, financing, products, skills, cheap facilities for production, capital goods and services, management skills amongst others. Foreign direct investment can be precisely defined as a case where a firm in one country moves to another country for investment purposes.
The process involves constructing a physical factory in the foreign country. The Foreign direct investment is a contrast of establishing a portfolio investment. In such a case where investors simply build investment portfolio, it is referred to as indirect investment (Neuhaus 42). There has been rapid growth in the business world. Therefore, the definition of foreign direct investment has been widened to encompass the process of acquiring long lasting management interests in a firm or any other business corporation outside the country in which the investing firm is home-based. It therefore implies that foreign direct investment can actually take many forms.
These include, but not limited to, acquiring a foreign business enterprise, constructing a business facility and venturing into a joint venture with another business entity within the country where the foreign firm is investing in. Foreign direct investment has contributed a lot toward the internalization of enterprises. It has constantly reacted to several and gradual changes that have been taking place in the business world. As a result, the methods and the scope have changed a great deal.
These changes have been facilitated by changes that have taken place within the capital markets, enterprise investments, technological changes and communication cost. In fact, the reduction in the global cost of communication has made it easy for the management and administration of foreign direct investment as compared to the past years (Buxton et al 472).
Foreign direct investment has been made easier by the international changes in business policies. Such changes have included removal of trade barriers, tariff liberalization, reduced restrictions on Foreign direct investment, privatization of government owned industries, and deregulation of the trade industries by the governments (Blecker 137). These have formed part of the factors that have contributed to the enhancement of foreign direct investment and the expansion of the role it plays in the global business. The biggest beneficiaries of foreign direct investments have been the developing nations where the annual flow of foreign direct investment has increased (Freeman and Bartels 125).
The Foreign direct investment in developing nations has mainly been driven by interest in mergers, acquisition of companies and globalization of production. Foreign direct investment benefits both the nations from which investments come and the countries which are the destinations for the investments. The small scale companies and medium enterprise have a lot to benefit from foreign direct investment because through this, they find an opportunity to be involved in global business operations (Peng 286).
Despite the many changes that have taken place in global business arena, over fifty percent of foreign direct investment is still done through fixtures, buildings, machineries and equipment. With the revolutionalized information technology and the coming of the internet, various forms of direct restriction are loosened and still the process of global business is set to become more liberalized. The developed nations are very vigilante on foreign direct investment since the flows of investment into and out of their domestic economies have some substantial impact on almost all aspects on their economies (James 57).
Over the past ten years, certain aspects of Foreign direct investment has witnessed transformations. As has been discussed earlier, the overpowering majority of foreign direct investment is composed of machineries, buildings, fixtures and equipment. Many of these investments are achieved through mergers and acquisition of other firms and corporate organizations. This has been the tradition of engaging in foreign direct investment. The technological advancement has completely changed the way foreign direct investment is currently being conducted.
Foreign direct investment in Saudi Arabia
For many years, the business environment in Kingdom of Saudi Arabia never favored foreign investors. It is important to understand that the laws that govern the Kingdom are mainly drawn from the Islamic laws. The laws governing commerce the Kingdom have been remotely stated and never took into account many aspects of investments. The then existing commercial laws never favored foreign investors; the laws gave the Saudi citizens more commercial privileges than the foreign investors.
This discouraged many of the foreign investors who would have investment interest in the Kingdom (Vogel pp. 1-6). However, after major economic reforms started taking place in the Kingdoms economic policies, more and more investors have streamed into the country thereby increasing the country’s capital base. The Kingdom has since embarked on the process of liberalization of investment rules.
The Kingdom of Saudi Arabia is the leading nation in the Cooperation Council for the Gulf States (GCC) bloc and the West Asian nations as regards the foreign direct investment. In 2007, Saudi Arabia attracted Direct Investment amounting to approximately $24 billion in the year 2007. This was a 33% increase in the foreign investments in the nation (Rutledge 50). Acquisitions of business entities and mergers at global level have recorded unparalleled growth registering a total value of 1.833 trillion U.S dollars; in same period the total assets under the management of the sovereign funds are approximated at 5 trillion U.S dollars.
Global economic growth and enhancement of investment environment has contributed to rise in foreign direct investment. The Asian countries and the Middle Eastern countries are some of the beneficiaries of this process. Foreign direct investment is expanding at a high rate in Saudi Arabia. Saudi witnessed increased economic growth in the years 2005 and 2006. The growth was as a result of new economic policies adopted by the country (Niblock 126).
Saudi’s interest in attracting foreign direct invest is stressed by its commitment, through its investment authority, to continuously enhance the economic climate so as to pull additional investments and also to ensure a conducive competitive environment. The Kingdom of Saudi Arabia is determined to ensure higher economic growth in the succeeding years than the previous ones.
The surge in foreign investment in Saudi Arabia is attributed to its adoption of certain economic policies. According to several reports presented in various international economic fora, Saudi Arabia is said to have set the pace in liberalizing its economy. The government has established several measures in place in order to encourage the country’s foreign private sector to broaden the economic base and also vary the sources of Saudi’s national income.
The move by the Saudi Arabian government in encouraging the foreign private sector to expand economic bases is also geared towards enhancing the natural resources found within the country. The report released by the International Finance Corporation in the year 2009 indicated that the Kingdom of Saudi Arabia was the leading nation in the whole of Middle East with the best environment for both local and foreign investment (Niblock 127).
In the evaluation of investment environment in 181 countries, Saudi was ranked at position sixteen (Ali 221). Saudi’s business and investment environment has attracted many of the GCC countries; an indication of their commitment to diversify their economies from oil. The efforts by the countries found in the gulf to diversify their economies have succeeded in attracting the foreign direct investment in the various sectors of the economies; this has especially taken place in the manufacturing sector.
Taking for instance, the foreign direct investment into the economies of the gulf countries from West Asian investors was approximately 14 billion U.S dollars in 2005. This was an increase of five percent from compared to the previous years. The high oil prices witnessed during the same period increased the West Asian cross border mergers and acquisitions by 78%; this scenario resulted into surpluses in the economic performances of the Gulf States.
In 2005, Saudi Arabia has undertaken to increase its competitive advantage; it later joined the World Trade Organization in December 2005 after its accession terms were accepted by the World Trade Organization. The joining of the WTO helped the nation to open up its market to global market competition. The membership has given a boost to economic reforms taking place in Kingdom of Saudi Arabia which include development of new statutes regarding commercial activities, economic and political reforms (Shoult 79).
Economic analysts have observed that the membership of Saudi Arabia to World Trade Organization has given it a voice in the determination of international investment activities and also act as a boost to the confidence of the foreign investors who want to have investment interests in the Kingdom (Bureau of National Affairs 582). This will also help the Kingdom to attract more foreign investment. During the period of global economic recession, Saudi Arabia has indicated the ability to avoid the worst impact it might have had in its economic performance.
The Kingdom is still expected to experience steady flow of foreign direct investment into the economy; this has been due to existence of sectors like the energy, knowledge-based industries and transport industry; these have attracted a steady capital inflow from foreign investors. With its expanding foreign direct investment base, Saudi expects attract about $900 million in foreign direct investment for the next ten year period. This will be through its power, real estate, energy and financial services (Bureau of National Affairs 585).
The stock market of the country has also witnessed an increase in the number of foreign investors. This has been made possible by the country’s effort to provide various incentives to foreign direct investors. The Kingdom of Saudi Arabia has created a state owned company to enable it channel its oil wealth into global investment. The company is charged with the responsibility of channeling capital funds into foreign financial, local financial, treasury, commodities, real estate and asset management markets. All these efforts by the Kingdom’s government have enabled it to diversify away from oil industry; the economy of the Kingdom now does not only depend on oil as the main source of revenue.
In fact, the process of economic diversification in Saudi Arabia was triggered by the low economic performance of the state and the need to take care of the growing population that increases at high rate (Maddy-Weitzman 623).
The Kingdom is not only interested in attracting foreign direct investment, it has also undertaken to pursue investment in other countries. The Saudi citizens have established several investment portfolios outside the Kingdom. This has contributed to increased inflow of foreign currencies into the Kingdom. One of the facilitators of this has been the Kingdom’s membership to World Trade Organization.
The involvement of Saudi’s citizen in foreign investment out side the Kingdom has established the investment integrity of the Kingdom in the global business world. The government of Saudi Arabia has also set aside funds to be used in its foreign investment. For instance, the citizens of the Kingdom have apportioned approximately 60 percent of their international investments to the United States of America; this has been done through passive and direct foreign investments. The following graph shows how the investors from the Kingdom have allocated their foreign investments in other countries in terms of percentages.
Drawing figure 1 above, it is clear that the Saudi Arabian citizens prefer investing in the United State More than any other part of the world. It second preference is the European Union to which it has allocated 30%. Their investment in other parts of the world is accounted for by only 10%. As the global investors stream into Saudi Arabia, the United States of America is not straight forward with its acceptance of Saudi’s investment in its economy. The United States has biased factors as regards to investing in Saudi Arabia. Since it receives the largest percentage of Saudi’s foreign investment, it should consider its stand with Saudi Arabia with regards to foreign direct investments (Europa Publications Limited 790).
Foreign direct investment has lots of benefits to the Kingdom of Saudi Arabia. However, the negative effects that come with it cannot be ignored. Some of the foreign investments coming to Saudi Arabia include companies and business corporations that are already established and operates on a global scale. Allowing such corporations to operate in Saudi Arabia creates tight competitions that may be beyond the ability of many domestic corporations which may not enjoy a broad capital base. The consequence is possible collapse of the domestic business entities which do not have any competitive advantages as regards the strong foreign corporations.
Incentives to foreign direct investment in Saudi Arabia
The inflow of foreign direct investment started when the Kingdom liberalized its economy and empowered the private sector through various reforms in its commercial and investment laws. As has been discussed earlier, Saudi Arabia has undertaken a lot of reforms that have seen an upsurge in the number of foreign investors. Currently, there are practically no constraints imposed on investments by the foreign investors within the territory.
In the past, foreign investors would be allowed to invest in Saudi Arabia only if the Saudi citizens are co-owners of the foreign companies and business corporations. That meant no business enterprise completely owned by foreign investors would be set and operate within the Kingdom of Saudi Arabia. After the major economic reforms in the Kingdom, it has become easier for foreign owned enterprises to be established and operated in the Kingdom. Right now, there can be a hundred percent ownership of businesses and corporations by the foreign direct investors. The Saudi government has also designed several incentives to encourage local business enterprise ownership (Cordesman 333).
There are several incentives that have been offered to attract foreign direct investment. Sectoral incentives: the government of Saudi has encouraged foreign investors to invest in the industrial development which entails changing raw materials into semi-finished goods or into fully manufactured products; this process also include packaging finished goods. The foreign investors are also allowed to consider investing in agricultural sector, health care which encompasses operation of medical care facilities, operations and construction of healthcare premises; the investments are also open to contracting and development of services like tourism, training, environmental sustainability, technology, shipping and enhancement of information technology.
To ensure that the foreign investors get interested in the above mentioned sectors, the government of Saudi Arabia has come up with specific incentives for this sector (Cordesman 334). These include a ten year tax holiday on income tax for agricultural or industrial investments with the participation of foreign investors. The rest of foreign investments are granted a tax holiday of five years. For a business investment to qualify for tax holiday it must have 25% minimum equity participation by the nationals of Saudi Arabia. All the machineries, spare parts and other equipment are used in the country for manufacturing purposes are excused from any custom duties.
Export and free trade zones: it is important to note that Saudi Arabia does not engage any special effort to promote export of goods and services. Otherwise it has excused all export products from custom duties; the fees charged at the port have been reduced by fifty percent and free storage offer lasting upto ten days. Again, it is crucial that Saudi Arabia is a member of GCC, due to this reason, goods and services traded within the bloc are not charged import duties.
The government has also granted tariff and quota protections to goods and services manufactured within the Kingdom; these goods and services must meet the international standards. The tariff protections are maximized upto 20% and can stay for utmost five year period (Niblock 211).
Other incentives offered to foreign direct investors are tax and statutory tax rates. The corporate income varies between 25 and 45 percent with companies dealing in hydrocarbon and petroleum related products being regulated by varied tax regimes. The process of securing entry into Saudi Arabia for business has also been made easy. The procedures of custom clearance have been made efficient and effective at the seaport and airport.
This has also been applied to land entry avenues. The government has also reduced the time that is required to process permits for businesses and business registrations. The Saudi Arabian General Investment Authority has come up with plans to improve the training of officials to enhance its role in assisting foreign direct investors. This kind of input by the authority will ensure that foreign investors in Saudi Arabia able to start their investment operations in the Kingdom as soon as possible. One area in which the authority lays emphasis on while training its officials is on the facilitation of issuance of visas to foreigners who are interested in investing in Saudi Arabia.
By being a member of World Trade Organization, Saudi Arabia made a major step towards attracting large numbers of foreign investors. There are investment benefits that come with membership to the World Trade Organization: trading without discrimination which means any investor from any member country can invest in any member state without fear of being discriminated against (Niblock 211-215).
The members of the World Trade Organization are expected to allow free trade amongst the member state and treat both domestic and foreign investors equally. All these agreement leaves Saudi Arabia with no other choice as a member but to allow foreign investors to enjoy the same privileges that accrue to its local investors. Saudi has recognized that for it to achieve its motivated economic goals and objectives it really needs a constant inflow of technological know-how and expertise. These needs serve as an incentive for the country to come up with policies that attract foreign capital and encourage its involvement in the country’s economic development.
These policies ensures that foreign investors can own land in Saudi Arabia, that the government provide pieces of land at nominal rates for purposes of constructing factories for manufacturing and worker’s residential houses. The policies also offer low charges on electric power and provision of water and allow repatriations of profit. The newly established laws have abolished the system of sponsorship and, as discussed earlier, allowed foreign investors to own and use real estates in establishing companies and other relevant business corporations.
The private sector is a key factor in attracting and promoting foreign direct investment. The Kingdom of Saudi Arabia has had an economic system totally controlled by the government. However, its liberalization of the economy and the gradual privatization of state owned corporations have played a major role in promoting foreign direct investment from other nations. This has been coupled by the fact the government has also ensured transparency in its business activities thereby attracting the confidence of foreign investors. The transparency has been ensured through liberalization of economic activities within the Kingdom (Champion 144).
One of the most important growth factor in any form of investment or business venture is the presence of sufficient human resource. Saudi Arabia has well trained youths who are ready to get into the job market. This offers the foreign investors with the opportunity to get ready labor force within the Kingdom of Saudi Arabia; this implies that the foreign investors do not have to facilitate the travel of experts to Saudi Arabia to run their investment. However, in situations where a particularly needed technological know-how is not able to be found within the Kingdom, then the foreign investors are still free to import labor into Saudi Arabia.
Saudi Arabia has a well established financial sector that meets the international standards. It has favorable commercial and investment policies similar to those found in other develop regions. This has played a major role in the establishment of a steady banking sector which also has international financial standards. This kind of financial sector has enabled international business transactions from Saudi Arabia. This has also been one of the great incentives to foreign investors. The foreign investors may include internationally operating companies and business enterprises; with internationally recognized financial system, Saudi has therefore managed to pull foreign investors.
Saudi Arabia has the largest oil reserve in the whole world. For many years, the Kingdom has relied so much in the production and export of oil products. The Saudi’s energy sector has attracted a very large number of foreign investors. Some of the foreign investors in Saudi include those who have engaged in direct foreign investment and those who have built investment portfolios. With the oil deposit still large and not yet completely exhausted, the Kingdom is set to experience an upsurge in the number of foreign investors who have interest majorly in the private sector. In fact with the liberalization of Saudi Arabia’s economy, the energy sector is set to develop at a higher rate than before.
Economically, this will reduce the cost of energy; the reduced cost of energy will make energy affordable to many industries hence attracting more investments both from locally and abroad. The Kingdom has bee getting a lot of revenues through export of oil products and related goods. These revenues have been used in developing various infrastructures which include improving road networks, telecommunication amongst others. This has enable business operations to be effective and efficient within the state hence attracting foreign investments. It is still expected that Saudi Arabia will still come up with more incentives to ensure it maximizes on the benefits of foreign direct investments. This will help it speed up its economic growth and be able to meet the demands of its growing population.
Reasons Saudi nationals invest outside Saudi Arabia
It is important to mention that the liberal global business field has favored many citizens of the world to pursue investment outside their countries. This is one of the grounds it can be argued the Saudi nationals are able to consider investing outside Saudi Arabia; also the fact that The Kingdom of Saudi Arabia has liberalized its economy, allowing entry of foreign direct investors into the economy, other countries from where Saudi’s foreign investors come from are able to consider Saudi nationals to invest in their economy (Dicken 129).
For along time the countries of the GCC bloc have depended so much on oil as the main source of revenues for government. The countries have embarked on a plan to diversify their economies. Saudi Arabia being one of the nations of the GCC with interest in the diversification of its economy, it has encouraged the citizens to pursue other alternative investments which include both domestic and foreign; the government has instituted major economic reforms to facilitate this process.
Foreign exchange reserves are beneficial to countries in terms of international business transactions; foreign investments are some of the sources of foreign exchange. For Saudi Arabia to get foreign exchange, it is also necessary to consider encouraging the citizens to invest outside the country so that they can bring foreign currency in the form of profit repatriation.
Saudi Arabians have a lot of money accruing from mining, processing and export of oil and oil products. With the large amount of finance, Saudi citizens are able to provide capital to other nations undertaking projects for which start up capital is the main challenge. In providing capital to these countries, the Saudis are able to own some of the shares in the projects. Many countries in the world are involved in building trade relations; Saudi Arabians are also interested, like any other international investors, in building foreign trade relations. Saudi Arabia has particularly built trade relations the countries like the United States of America and fellow countries in the Middle East.
There had been laws and policies that required Saudi national to be part owners of foreign owned companies. Some of these companies operate on global scale and are headquartered outside the Kingdom of Saudi Arabia. By virtue of being co-owners of the foreign international companies and business corporations, the Saudi nationals are foreign investors. This is because when the companies repatriate their profits back to their countries, the Saudi nationals must also get their share which remains in the Kingdom.
One of the most important encouragement a government can offer for its citizens to invest outside their economies is through development of a strong private sector and be able to protect the citizens foreign investments. Saudi Arabia has tried to liberalize and develop the private sector and also ensured that Saudi national’s foreign investments are protected; these protections have been realized through membership to global business organizations exemplified by the World Trade Organization.
Conclusions
Foreign direct investment has been one of the ways through which countries undertake to improve the performance of their economies and also establish international business relations. It is a foundation of new markets, marketing conduits, access to new expertise, financing, inventions, talents, cheap facilities for production, capital goods and services, organization skills amongst others. Foreign direct investment can be precisely defined as a case where a firm in one country moves to another country for investment purposes. The process involves constructing a physical factory in the foreign country.
The economic structure of Saudi Arabia, for many years, never favored foreign investors. As a result, the Kingdom never received a good number of foreign direct investments. It was until it liberalized its economy that foreign investors started to stream into Saudi Arabia with lots of capital. The Kingdom of Saudi Arabia is the leading nation in the Cooperation Council for the Gulf States bloc and the West Asian nations as regards the foreign direct investment. It has managed to attract as much foreign capital as possible into its different economic sectors (Neuhaus 42).
The tremendous increase in foreign direct investment in the Kingdom of Saudi Arabia is linked to its implementation of certain economic policies. According to several reports presented in various international economic fora, the Kingdom is said to have set the pace in liberalizing its economy. The government has established several measures in place in order to encourage the country’s foreign private sector to broaden the economic base and also vary the sources of Saudi’s national income.
The move by government in encouraging the foreign private sector to expand economic bases is also geared towards enhancing the natural resources found within the country. The report released by the International Finance Corporation in the year 2009 indicated that the Kingdom of Saudi Arabia was the leading nation in the whole of Middle East with the best environment for both local and foreign investment.
There are many incentives the government of Saudi Arabia has put in place to attract foreign direct investments. Some of these incentives include tax holidays that are based on certain conditions and also allowing 100% foreign owned companies to operate in the Kingdom. The Kingdom has also encouraged its citizens to participate in international business transactions and investments. The global liberal business climate has also provided the Saudi nationals with incentives to consider investing outside the Kingdom of Saudi Arabia (Blankson 206).
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