Sri Lanka sees more FDI firms exiting than entering: study
ECONOMYNEXT – Many firms registered with the Board of Investment which regulated foreign investments have exited Sri Lanka, especially after a civil war ended, amid rising labour costs, incentive shopping, and ad-hoc changes to policies including land, a research study said.
Since 2009, when a war ended and Sri Lanka’s economy expanded rapidly, 410 firms registered with the Board of Investment (BOI) had exited, while 202 new firms have entered, a report by Colombo-based Institute of Policy Studies, a think tank said.
"The number of firms that exited Sri Lanka between 2002 and 2016, and between 2009 and 2016, is nearly twice as many as those entering into the economy," the report ‘Firm-Level Analysis of Manufacturing Sector Investment in Sri Lanka’ by researchers Kithmina Hewage and Harini Weerasekara said.
The exits were mainly from the apparel sector, while food and beverage and other manufacturing industries also saw a large number of investments pulling out.
"Notably, there appear to be few entrants into the manufacturing sector since 2009, a time period during which Sri Lanka was expected to benefit from a peace dividend and attract higher rates of private investment."
It was not clear what role information technology and service firms are playing in Sri Lanka, which are growth areas with high paying jobs, some of which are small start-ups and tend to operate outside the tax incentive system which is mostly for larger firms with capital investment.
Some IT firms are started in Sri Lanka with support from friends and relatives in Australia, the US and UK.
The IPS report said local policy inconsistencies had also hurt investment.
"While the three-decade long civil war hampered the realisation of the country’s investment potential, the country appears to have fallen short of expectations even in a post-conflict environment – largely owing to inconsistencies in the policy regime."
It said ad-hoc policy changes related to land and public enterprises undermine investment security.
Sri Lanka had restricted land ownership of foreign companies and expropriated several private entities through force.
The post-war boom was mainly led by the state investing in debt-funded public infrastructure projects, with less importance given to the tradable sector.
The report said that even when taking a longer time period into account, 665 firms exited between 2002 and 2016, with only 469 entering.
Of the 933 firms that were in operation in 2002, only 408 were in business in 2016. In the post conflict period, of 930 firms that were in operation in 2009, only 675 firms have continued till 2016.
"While protectionist economic policies could possibly result in low entries, the consistently high rates of firm exits across the time period under analysis appear to be linked with the type of investment prominent in Sri Lanka," the report said.
It said the types of FDIs in Sri Lanka which exited were seeking incentives instead of efficiency.
A complicated tax regime had enabled some investors to gain more incentives than others even if they didn’t end up fully committing funds required to gain the benefits under an agreement.
FDI inflows to Sri Lanka have been severely hampered by policies that allow for ‘incentive shopping’," the research said.
A new Inland Revenue Act which came into force in 2018 has closed all loopholes, instead allowing for capital allowances for the amounts actually invested.
Further, labour cost increases had also prompted some apparel investments to exit, IPS said.
Sri Lankans are now favouring high paying and flexible service sector jobs over working in factories, industrialists complained last week at an economic forum organized by Sri Lanka’s Ceylon Chamber of Commerce.
The number of firms registered with BOI fell to 877 in 2016, from 930 from 2009, the research said.
It said that in 2016, foreign owned companies with the BOI fell to 274 from 304 in 2009, while joint ventures between local and foreign parties fell to 172 in 2016 from 278 in 2009.
Local firms registered with the BOI grew to 431 in 2016 from 348 in 2009.
"Such a shift in the composition of firms away from joint ventures towards local ownership is discouraging," the report said.
"There are many benefits that joint ventures bring to the table, such as technology upgrading and transfers and providing links to global value chains that Sri Lankan firms will potentially lose out on."
"The decline in foreign and joint ownership and the resulting decline in FDI are particularly worrisome for a small developing economy such as Sri Lanka, since it depends on foreign capital to compensate for inadequate domestic savings," IPS said.
It said that inefficiencies of the investment facilitator also contributed to lower FDIs to Sri Lanka, and recommended improving the investor climate to attract efficiency seeking FDIs. (Colombo/Sept20/2018)