Memorandum by Professors Neil Hood and
Stephen Young, Strathclyde International Business Unit, University
of Strathclyde
INWARD INVESTMENT
IN 1980
1. The Committee on Scottish Affairs last
investigated Inward Investment in 1979-801; and it is very
appropriate that, almost 20 years on, they should return to this
subject, and, indeed, widen their investigation to include outward
investment. The 1980 report focused on "the effectiveness
of the machinery for selling Scotland in the multinational marketplace"
(para 1.1). And it was highly influential in the establishment
of Locate in Scotland (LiS), the inward investment marketing
organisation that has been very effective and is highly regarded
internationally. This time around the inquiry is less strongly
oriented to organisational matters, and this memorandum too places
lower emphasis on structure than on the appropriate strategy for
Scotland and Scottish business in the global economy into the
millennium.
2. At the time of the 1980 report, there
were 275 overseas-owned manufacturing units operating in Scotland,
accounting for 100,000 jobs and representing 16 per cent of manufacturing
employment. Concerns were expressed about the closures of some
large, long-established overseas-owned plants (a reflection in
large part of the paradigm shift from electro-mechanical to electronics
technology2), about rationalisation of multiplant operations in
response to European integration and about the sharply reduced
inflow of new investment from the USA. A greater emphasis on European
investment was suggested to reduce the dependence on US enterprises.
The report stressed the need to better understand the marketing
and product development strategies of the rapidly changing population
of mobile multinational companies; and to apply the tools of planning,
targeting and after-care in formulating and implementing marketing
programmes. In what the report termed "selling Scotland",
promotion of this country's good industrial relations record was
proposed (within a UK context in which labour relations problems
were a major preoccupation of potential investors at the time).
It was recognised that Scotland could not compete with the Republic
of Ireland on incentives, and that greater attention, therefore,
needed to be paid to promoting workforce skills, education and
communications; these observations are equally apposite today.
THE CURRENT
POSITION
3. As in 1997, overseas-owned manufacturing
companies accounted for 75,000 jobs, down from 1979; but foreign-owned
companies' share of manufacturing employment rose to 22 per cent,
as jobs in indigenous manufacturing industry declined more substantially.
A further 60,000 jobs in overseas-owned service companies represented
3 per cent of total service sector employment3. Scotland has attracted
substantial flows of inward investment in recent years, exploiting
major opportunities in electronics and more recently in call centres
and other services' projects. This has taken the form of new greenfield
projects and increasingly follow-on investment from the existing
stock of foreign subsidiaries in the country; the latter may be
very important for sustaining the position of inward investment
in the economy in future.
CHALLENGES
FOR SCOTLAND
4. Despite this apparently healthy situation,
curiously the challenges for Scotland in the inward investment
field are significantly greater than they were in 1980. There
are three dimensions to these challenges, many of which are subsumed
within the concepts of "globalisation"4 and "knowledge".
5. The first group of challenges derive
from technological change and associated industry factors. There
is no question that the pace of evolution in the international
environment has accelerated dramatically in the period since the
1980 Scottish Affairs Committee reported. Rapid technological
developments especially but not solely in telecommunications,
short product cycles, greater capital intensity of production,
and the requirement for higher labour skills and flexibility are
all features of this new environment. In services, deregulation
world-wide is enabling companies to capitalise upon technological
innovations.
6. The second group concern competitive
challenges. The eight English Regional Development Agencies (RDAs)
will undoubtedly increase intra-UK competition for inward investment.
Important new competitors have also emerged with the opening up
of eastern and central Europe, as low labour costs are allied
to improving infrastructure and easy access to major markets.
Some projects are now open to bidding on a global basis, extending
competition to the Asia-Pacific region and perhaps elsewhere.
This widening competition will lead to a bidding-up of incentives.
Moreover the skills of investment promoton have been learned through
the advisory services of organisations like MIGA5, and LiS may
no longer be right at the leading edge as it was formerly.
7. Emerging from these are the third group
of corporate level challenges. Multinationals are responding to
changes in the external environment by increased cross-border
merger, alliance and acquisition activity; by focusing on core
specialisms and outsourcing non-core activities; by seeking to
exploit the skills of particular subsidiaries, while increasing
competitive pressures on all group affiliates through intra-company
benchmarking; and by global (and European) restructuring to utilise
the international division of labour.
OPPORTUNITIES AND
THREATS
8. These challenges represent opportunities
as well as threats for Scotland. The prospects for new greenfield
projects in assembly, which have been the traditional mainstays
of inward investment into the country, must be regarded as relatively
poor. This is particularly the case for labour- as opposed to
capital- and skill-intensive projects. In mature technologies,
there is, furthermore, likely to be a high turnover in such affiliates
because of competition and short production cycles.
9. The entrepreneurialism and innovative
capacity of the US will continue to generate opportunities, however,
and there will be particular niche markets which Scotland can
exploit successfully. The attraction of knowledge-intensive investment
is rightly a priority of LiS, but policy change will be necessary
to make this a reality. Flexibility is also a key issue: the observer
looking forward from 1980 could hardly have predicted the call
centre revolution, for example (although its future is uncertain
given the potential negative effects of e-commerce on intermediary
processes). Generally there seem likely to be substantial opportunities
in services (and for Scotland, financial services) as global markets
continue to open up; and the flows of international direct investment
begin to parallel the expansion of the services sector as a whole.
There will be a continued growth of strategic alliances and joint
ventures, and policy partnerships between the public and private
sectors will be necessary to facilitate these. The suggestion
is thus of a significantly changing pattern of opportunities,
within an overall environment in which it will be difficult to
maintain flows at levels achieved in the recent past; and in which
Scotland is likely to attract a smaller percentage of UK projects
than hitherto.
10. In the last few years, follow-on investment
(sometimes termed reinvestment) has had an extremely important
role in sustaining the size of the foreign-owned sector in Scotland,
accounting for around 45 per cent of new and safeguarded jobs6.
Emerging from the above review, prospects are for a more rapid
decay of the existing stock of foreign affiliates, especially
mature technology, labour-intensive operations; as well as for
increased corporate reorganisation and rationalisation, from which
Scottish facilities may be gainers or losers. This volatility
will pose problems for Scottish-based suppliers, many of which
are not internationally competitive and, therefore, will not be
capable of exploiting alternative market opportunities abroad.
Outsourcing trends offer opportunities for management buy-out
or institutional buy-in teams in Scotland (as well as threats
if the opportunities are taken up elsewhere). And more proactively,
there may be spin-off opportunities which can be exploited. As
discussed below, this suggests a need for a much stronger "after-care"
function within Scottish Enterprise (SE)/LiS, and one which is
not purely focused on key accounts7.
11. One further issue concerns the growing
use by multinationals of intermediaries (consultants) for locational
search, as a direct consequence of the number of country and regional
competitors in the market. It means that the "customer-focused"
approach used so successfully by LiS in the past cannot be relied
upon in future. Alternatives such as data base marketing do not
facilitate relationship building with the customer.
The Contribution of Inward Investment
12. The contribution of inward investment
has been the subject of debate for many years. Inward investment
inflows have probably been the major factor in raising GDP per
head figures to levels above those of all UK regions except London
and the east and southeast. In addition, comparisons between the
performance of foreign-owned and indigenous companies in Scotland
show that the former are larger, more productive, more export
oriented and faster growing. Yet these differences may say more
about the weaknesses of the indigenous sector than the strength
of the foreign sector. And it is recognised that many of the foreign-owned
plants are essentially high volume, production only operations
(although sometimes requiring large numbers of highly-skilled,
graduate-level employees). As such they are vulnerable as, for
example, in electronics where the hardware becomes a commodity
and industry trends emphasise software and other constituents
of the value chain. In making comparisons, what is not known,
but more important, is how Scottish affiliates stack up against
other group affiliates elsewhere in Europe and the rest of the
world. There are many unanswered questions here: if R&D and
other value-adding activities are not located in Scottish plants,
which other countries are favoured locations and why? Developing
a much better understanding of corporate network performance within
multinationals will be a key part of Scottish Enterprise/LiS after-care
over the next decade.
13. A long-standing problem (which Scotland
has shared historically with its major competitor Ireland) concerns
weak linkages between the multinational affiliates and their suppliers,
customers, competitors and advisers in Scotland. More generally,
many foreign firms are not strongly networked within the wider
business and policy communities in Scotland. Limited activity
in R&D too has meant that relationships with unversities have
chiefly been restricted to the supply of students. These weaknesses
are a reflection of the continuance of hierarchical relations
between parent firms and their Scottish affiliates; rather than
heterarchical relations which promote connectivity, flexibility
and creativity. Stimulating agglomerations of economic activity
("clusters" in modern, if misused, parlance) around
the foreign-owned sector remains a major policy challenge.
14. There is evidence of a limited number
of "developmental subsidiaries" (affiliates which have
authority over design and development, purchasing and marketing
as well as manufactring functions, and have a regional or global
product mandate role) emerging from within the foreign-owned sector.
While the explanations for their growth vary, successful performance
and entrepreneurial local management are undoubtedly important8.
There need to be many more developmental subsidiaries to make
a significant impact on the innovative capacity of the economy.
Moreover, such affiliates seem to be fragmented on a product and
industry basis, and as such are not contributing greatly to sectoral
clusters in Scotland.
15. While the above problems may only be
solved within the framework of an integrated economic strategy,
more could be done at a technical level to transfer knowledge
from the foreign to the indigenous sectors. While many foreign
affiliates have supplier development programmes, initiatives could
be promoted to transfer knowledge of new management practices
and procedures to the wider population of indigenous companies.
THE INDIGENOUS
SECTOR AND
OUTWARD INVESTMENT
16. The focus in the Committee's inquiry
on both inward and outward investment is entirely appropriate
in an era of globalisation. For a free trading nation like Scotland,
integration into the global economy requires a two-way involvement.
The liberalisation of markets abroad offers major new opportunities
for Scottish companies which may be exploited most effectively
through outward investment in place of or more normally alongside
exports. If Scottish companies can operate successfully abroad,
then the implication is that they are competitive against the
best in the world.
17. In recognising the importance of global
Scottish businesses, a note of caution is in order. If outward
investment is to be an important contributor to the Scottish economy,
then it is critical that headquarters' (HQ) functions and value
adding activities are retained in Scotland. The requirements and
prerequisites for doing this are essentially the same as those
involved in encouraging the location of value adding functions
in inward investing corporations. For Scottish companies, it means
they need a reason to retain their HQ base in Scotland, in terms
of access to attributes which they cannot gain elsewhere9. There
is a strong case for the Scottish Parliament to work closely with
Scottish business to constantly improve the home base, with the
specific aim of enhancing competitiveness. The enhancement of
Scottish productivity levels relative to competitor nations is
critical for all businesses based in Scotland.
18. As noted above, low supplier and other
linkages are partly a function of the branch plant character of
much of the inward investment stock. Where local purchasing authority
is delegated to the Scottish level, it commonly relates only to
low value added, high transport cost items. And local capabilities,
indeed, may either not exist to supply high value added intermediate
products, or local suppliers are not internationally competitive.
Increasing the contribution of inward investment thus requires
an integrated approach directed at both foreign and domestic enterprises.
But developing indigenous industry is one key issue in unlocking
the potential of the overseas-owned sector and increasing its
embeddedness in the economy. Many of the Scottish Enterprise initiatives
focus on indigenous firms, and, within the constraints noted,
the Scottish Business Group (formerly Manufacturing Services Group)
within SE has undertaken valuable work in stimulating subcontract
spend locally. The fact remains that there are deep rooted problems
in managerial expertise and culture, investment and innovation
which represent formidable barriers to progress.
POLICY ISSUES
19. Many of the issues discussed above are
addressed in the Scottish Enterprise Network Strategy (January
1999) 10 and in evidence to the Select Committee. Mention is made,
for example, of attracting high value and knowledge-intensive
activities into Scotland, by innovative targeting of new clients
and projects; using the after-care programme to increase levels
of expansion investment and securing more knowledge-intensive
functions; identifying gaps in the supply chain which can be filled
by Scottish companies or inward investors; applying a cluster
approach to a range of sectors, including industries such as semiconductors
where inward investment is substantial; and encouraging Scottish
organisations to take advantage of international opportunities
through exporting, partnerships and alliances, and outward investment.
As authors of the memorandum we subscribe to these strategic thrusts,
and the observations which follow aim to develop these with some
specific comments on implementation issues.
INWARD INVESTMENT
STRATEGY
20. There is a need for an integrated approach
to economic development in Scotland in which inward investment
is seen as a mechanism to facilitate the emergence of a knowledge-based,
internationally competitive economy. Inward investment is not
a panacea—it never was, but the large job creating effects
of many projects in high tech industries (wrongly assumed to be
always high tech projects) generated much publicity and gave inward
investment a special aura. It also has created the (incorrect)
impression that inward investment attracts the largest proportion
of government funding for business support. The contribution of
foreign-owned companies in assembly (branch plants) should not,
conversely, be denigrated. And opportunities which exist in mature
sectors and for assembly facilities should not be rejected (as
suggested above, there are likely to be fewer such opportunities
in any case). But Scotland needs to be repositioned as a location
for inward investment. The focus would be on specific attributes
and competences rather than generalised and price-based attributes,
with the objective of creating a truly distinctive European base
("home" and "host"). Furthermore, a conscious
policy effort should be made to extract the maximum benefit from
inward investors in terms of products, services and knowledge.
21. A strategy for inward investment which
emphasises the triple objectives of value added output, developmental
potential and integration within the economy, requires a multi-faceted
approach, involving:
— The attraction of value adding inward
investment projects. These will continue to be most common among
new investors to Europe. Such projects have always had development
potential, but in the past expansions have often taken place elsewhere.
— Exploiting the development possibilities
among existing investors for attracting value adding activities;
or for outsourcing non core value adding operations etc.
— The attraction of inward investors
seeking to build relationships within the economy. These potential
relationships and networks may concern Scottish universities,
Scottish subcontractors or customers and so on.
— Continuing to target (albeit with
lower intensity) assembly facilities, to ensure that the employment
contribution of the foreign-owned sector is sustained. Where possible,
more attention should be given to the location of such facilities
within unemployment blackspots in Scotland.
22. While overseas promotion continues to
be crucial in this model—indeed, greater skills and sophistication
are necessary—it is evident that much increased effort needs
to be devoted to the after-care function. The remit is a very
much broader and more sophisticated one than the present activity
in LiS, even after its significant strengthening in recent years.
23. Greater efforts should be made to inform
the public about economic and industrial matters in the era of
globalisation and knowledge. It means education concerning the
qualitative as well as quantitive contributions of inward investment.
The publication of data relating to the quality of jobs created
as well as or instead of numbers of jobs would be a starting point.
Again, there should be conscious efforts to publicise the success
of indigenous industry. Arguably, as noted above, there has been
an excessive emphasis on inward investment projects.
INCENTIVES
24. Incentives have been an important part
of Scotland's attraction policy in the past; perhaps too important
since they have positioned the country as a low cost, volume assembler.
Relatively speaking, Scotland's dependence on incentives has been
higher than the UK as a whole; but probably comparable with other
assisted regions in terms of proportions of projects attracting
some form of financial support. There is now a growing momentum
in favour of reform of Regional Selective Assistance (RSA-although
it may only represent a minority share of support packages) because
of its bias towards job creation11. A revised and more transparent
system which is directed towards the encouragement of value adding
activities and especially R&D is highly desirable; perhaps
in the short term quality of jobs could be used as a criterion.
More flexibility is probably also needed, for example, in terms
of the additionality requirements, to make it easier for indigenous
companies to gain access to RSA, but this needs further study.
25. As noted above, international trends
suggest a bidding up of incentives. From a global or regional
perspective, there is no question that incentives are wasteful.
Although there is little likelihood of an international agreement
to curb incentives, at least in the short to medium term, support
should be given for any new initiatives in this direction in the
World Trade Organization or European Union. Scotland should not
act unilaterally in reducing incentives because of the damaging
efforts on its competitive position (where the English regions
and Wales will become increasingly competitive in the near future,
as well as countries abroad). And investigation is required of
Scotland's new competitors for value-added investment projects,
before any revised mechanisms are considered. Nevertheless, if
Scotland's incentive packages were to decline in line with those
across Europe as a whole, this might not matter in the longer
term providing the macro-economic climate remains more favourable
in Scotland/UK than in continental Europe.
CONCLUSIONS
26. Given the changes taking place in the
international environment, the inward investment landscape in
Scotland is likely to look very different and more volatile in
the years ahead. The proposals presented in this memorandum are
designed to ensure that Scotland secures its competitive position
as a European base for foreign investors; while strong efforts
are made to move out of the inward investment commodity business
into higher value added manufacturing and, particularly, services.
In respect of manufacturing, at least, the existing stock of investors
will be extremely important in these efforts to move up-market.
Stronger integration into the economy must also be a central objective
of strategy (affecting both indigenous firms and foreign multinationals).
And the underlying health of the economy (principally linked to
a supportive macro-economic environment) is critically important
for both inward and outward investors.
27. To implement these proposals, the role
of LiS must inevitably change. A small, highly focused core team
will still be necessary to develop long term relationships with
potential investors and to compete successfully for new greenfield
projects. But much activity will require greater business knowledge
and acumen to understand multinational networks and build projects
and alliances. Much of the work of LiS has had a sales and marketing
emphasis. This will still be vital as the case for Scotland is
not well understood, not least within Europe to say nothing of
more distant countries of origin; and where it is known, it is
primarly as a location for high volume manufacturing projects.
In addition, however, more attention will have to be paid to how
the present or potential investor operates as a business, since
it is within this context that opportunities will increasingly
arise. In that regard, partnerships and private sector teams and
consulting firms are likely to become more necessary. Similarly,
attention must be given to the quality and entrepreneuralism of
management in inward investing companies—though this is
a sensitive issue as to whether it can become a focus in a public
agency.
28. In terms of employment and relative
annual share of inward investment projects, Scotland is probably
past its peak. There are grounds for contending that the strategic
balance of policies directed towards inward investment and indigenous
business growth is much better now than it was in 1980. Major
Scottish Enterprise initiatives on the small business birth rate,
commercialisation and technology based ventures have contributed
to that and have commanded widespread support within the country.
Nevertheless the effective promotion of both inward and outward
investment remains critical for building strong linkages with
the globalisation process. For the former, this memorandum advocates
a more focused approach at a time when there is evidence from
the strategic plans of Scottish Enterprise that it is being required
to take on wider responsibilities than those associated with economic
development. This is a worrying trend and it might be taken further
as the Scottish Parliament passes new implementation challenges
to its lead economic development agency, and slows decision making.
If this were the case, there might need to be a rethink about
how LiS is managed and by whom.
NOTES
1. Committee on Scottish Affairs (1980),
Session 1979-80, Inward Investment, Vol 1, 31 July.
2. N Hood and S Young (1982), Multinationals
in Retreat: The Scottish Experience, Edinburgh University
Press.
3. Scottish Affairs Committee (1998), Session
1997-98, Inward/Outward Investment in Scotland, Minutes
of Evidence, "Memorandum submitted by the Scottish Office",
22 April.
4. N Hood and S Young (eds) (1999), The
Globalization of Multinational Enterprise Activity and Economic
Development, London: Macmillan.
5. MIGA is the Multilateral Investment Guarantee
Agency, one of the World Bank group of organisations.
6. "Memorandum submitted by the Scottish
Office", op cit, para 55.
7. Ibid, para 57.
8. J Birkinshaw and N Hood (1997), "An
Empirical Study of Development Processes in Foreign-Owned Subsidiaries
in Canada and Scotland", Management International Review,
37(4), pp 339-364.
|
