Greenfield Investment Definition
Greenfield investments are a type of foreign direct investment where a company starts its operation in the other countries as its subsidiary and invests in the construction of offices, plants, sites, building products, etc., thereby managing its operations and achieving the highest level of the controls over its activities.
Greenfield Investment Example
Suppose there is a company ABC Inc. which is having its headquarters in the US. The company conducts research to know the demand for its product in the country of India. After conducting the research in the Indian market, it is found that there is a huge demand for the product of the company in India, and it can get a good customer base over there. So, the management of the company decided to expand its business by creating its subsidiary company in India and starts the operations there from the ground level by constructing new production facilities, distribution hubs, and the offices.
This investment by the company ABC Inc. in the other country by creating a subsidiary over there will be considered as the greenfield investment as the company starts its operations there from the ground level by constructing new production facilities, distribution hubs, and the offices. Also, the company will be managing all the operations using its own staff and not just investing its money, unlike in case the other type of foreign direct investmentType Of Foreign Direct InvestmentA foreign direct investment, or FDI, is a financial investment made by an individual or an organization in a business based in another country. In such investment, an organization or an individual owns a minimum of ten percent of the shares of a foreign firm. where the day to day operations are being managed is not managed by the investing company. So, this is the example of the Greenfield Investment.
Advantages of Greenfield Investments
- It helps to gain high-quality control and management of brand image. Investors of the Greenfield investments are offered with a high amount of control over the venture.
- It creates a job for the people if the country in which Greenfield investments take place because when the operations are being set up in a different country, then most of the staff are generally being recruited from that country only, thereby increasing the employment of that country.
- Requirements for intermediary under a Greenfield investment are removed completely, resulting in a high amount of control over the whole project as well as independence, which is beneficial for the company who is investing its money in other countries.
- Customers and potential clients will get a good impression that the company is committed to the market and the environment.
- Press opportunity increases since the company making a Greenfield investment are opening a new but old business branch and that too in another country.
- Implementation of long term strategy due to greenfield investments becomes easy, while the company becomes lucrative to changes and opportunities around it.
- Companies entering the new market through Greenfield investment obtains total dominance over the products and services manufactured or sold or provided by them since such a company is already strong financially as compared to other companies.
Disadvantages of Greenfield Investments
- It requires a huge amount of capital expenditureCapital ExpenditureCapex or Capital Expenditure is the expense of the company's total purchases of assets during a given period determined by adding the net increase in factory, property, equipment, and depreciation expense during a fiscal year., which requires a huge amount of borrowings and loans, and therefore the interest burden is very high.
- It involves venturing a project outside the country of incorporation; planning, direction, and coordinating becomes very difficult. Hence overall management may not be handled effectively.
- The country in which Greenfield investments are made may face adverse consequences since the income of domestic companies transfers to subsidiaries of foreign companies.
- High fixed costs are involved in making an investment in another country by the parent companyParent CompanyA holding company is a company that owns the majority voting shares of another company (subsidiary company). This company also generally controls the management of that company, as well as directs the subsidiary's directions and policies..
- If there are Discouraging government policies in the country in which Greenfield investment takes place, then the foreign investor may not make their investments in that company as the government policies will become a hurdle for achieving their goals.
- Involves a huge amount if entry cost. Thus there is a high entry barrierEntry BarrierBarriers to entry are the economic hurdles that a new entrant must face in order to enter a market. For example, new entrants must pay fixed costs regardless of production or sales that would not have been incurred if the participant had not been a new entrant. cost in install a venture with land, building, factories, labors, etc. Hence if the project is unsuccessful, then the parent company may incur a huge amount of loss that may make the company bankrupt.
- Greenfield investment is considered to be the riskiest among others; hence companies may be reluctant to make the same.
- Greenfield Investments is one of the types of foreign direct investment where the other type of foreign direct investment includes Brownfield investmentsBrownfield InvestmentsBrownfield investment is the capital invested in the existing infrastructure or production facilities to develop a new production line. It is common in foreign direct investments and initiated through lease, merger, or acquisition of a production division..
- In the case of the Greenfield investment, the investing company will be managing all the operations using its own staff and not just investing its money, unlike in case the other type of foreign direct investment where the day to day operations are being managed is not managed by the investing company. Thus, the greatest degree of control is available with the sponsoring company in Greenfield investments.
- In the case of the Greenfield investment, the investors have to bear greater risk along with the high commitment of the capital as well as a time when compared with the other type of foreign direct investments.
Greenfield investments are nothing but one of the types of foreign direct investment in case of which a company starts its operation in other countries from the ground level. Requirements for intermediary under a greenfield investment are removed completely, resulting in a high amount of control over the whole project as well as independence, which is beneficial for the company who is investing its money in other countries, but at the same time, greenfield investment requires a huge amount of capital expenditure which requires a huge amount of borrowings and loans and therefore the interest burden is very high.
Also, it involves venturing a project outside the country of incorporation; planning, direction, and coordinating becomes very difficult. Hence overall management may not be handled effectively. So, the decision for the investment should be taken after proper analysis of the market and considering the various risk and opportunities available.
This has been a guide to what is Greenfield Investment and its definition. Here we discuss the example of greenfield investment along with its advantages and disadvantages. You can learn more from the following asset management articles –