Foreign Direct Investment in Latvia 's Quality, not Quantity

  • 2009-09-17
  • By Olga James

HEAD START: Linstow Center Management Board Chairman Frode Gronvold says early risk-taking led to developing a successful business in the Baltics.

RIGA - The steadfast increase of foreign direct investment (FDI) between countries is a significant aspect of the worldwide globalization processes, whereas regional economies become integrated through a global network of interconnected business relationships. Cross-border capital flows are typically directed at acquiring local business assets or establishing new companies in the high-potential markets allowing the investor to capitalize on the high-margin, low-cost operational environment. In the long-term perspective, FDI creates a wide range of competitive advantages within the economy of the host country, including the modernization of infrastructural projects, channeling the specific knowledge and modern technologies in production, distribution, and management, modernization of production facilities, upgrade of the skills of existing and potential workforce and establishment of cutting edge financial and accounting systems.

There have been a number of international companies that maintained planned investments despite the crisis, and in the first quarter of 2009 foreign direct investment in Latvia totaled 16.5 million lats (23.5 million euros), according to the Central Statistical Bureau. This, however, represents an almost 94 percent decline year-on-year (260.8 million lats were invested in Latvia in the first quarter of 2008).
As reported by the Center for Markets in Transition, Helsinki School of Economics, FDI inflows into Latvia started to grow in 1994, increasing more than five-fold compared to the previous year and reaching almost USD 300 million. The same source reports that in 2001, Latvia was among the top five FDI-attracting countries in Central and Eastern Europe in terms of accumulated FDI per capita. The main factor behind the FDI inflows then was the privatization of formerly state-owned companies. Following Latvia's accession to the European Union on May 1, 2004, Latvia experienced another increase in FDI.

The main sources of FDI in the country historically have been Estonia, Sweden, Denmark, Germany, Finland and the Netherlands. Investors have been actively tapping the Baltic market as they were striving to establish a local presence and capitalize on the strategic opportunities in this fast growing region. The fields that attracted the attention of foreign investors in the past were financial intermediation, trade, transport and logistics as well as manufacturing. Steady inflows of FDI were primarily driven by the availability of cheap but highly qualified labor resources, a stable national currency and political stability within the region. Foreign investment in Latvia has been one of the main drivers of the economy's diversification, which is key to the country's ongoing economic growth.

Foreign companies in Latvia identify a number of direct and indirect reasons to invest here. There are various direct incentives, such as special economic zones offering significant taxation benefits, the ability to acquire and develop real estate and the existence of numerous merger & acquisition opportunities. The indirect incentives comprise EU and World Trade Organization memberships, a well developed financial and legislative base, regional safety and stability.

Another favorable environmental factor to induce the FDI inflow to the Baltic republic is the well developed networking infrastructure available to provide on-the-ground relationship support to the international businesses. One such organization is the Foreign Investors' Council in Latvia (FICIL), which is a non-governmental organization that brings together large international companies that operate in various sectors of the economy, from banking and finance to large scale manufacturing. According to Andris Laucins, Partner at Ernst & Young Baltics, Advisory leader Central & Southeast Europe, the role of FICIL in Latvia has progressively changed. Initially, the organization mostly dealt with the development and implementation of specific action plans aimed at facilitating business and improving the foreign investment environment. Accession to the EU and NATO has slightly changed the focus, and currently the Council is increasingly working as a consultant on the long-term strategy and vision for Latvia. The Council is an important communication channel for its members and serves as an efficient mechanism in maintaining ongoing dialogue between business and the Latvian society.

Investment Development Agency of Latvia (LIAA) is a state institution focused on promoting business development and facilitating foreign investment in Latvia. The institution strongly advocates that quality of investments is much more important than the quantity. According to LIAA, Latvia has become less attractive to the short-term investors since the potential for quick investment appreciation has been somewhat diminished. The Agency aims to bring long term sustainable investments to Latvia, where a creation of long term quality work places by the new projects is a 'must' ingredient. As reported by the Bank of Latvia, in 2008 Latvia received 916 million euros in FDI, which represented a 44 percent decrease compared to 2007, however, it was almost twice as much if compared to 2005.

LIAA Director Andris Ozols emphasizes that Latvia still remains an attractive FDI destination with adequately developed business infrastructure, a qualified and motivated labor force and numerous value-added investment opportunities. According to Ozols, foreign entrepreneurs are currently able to identify a number of attractive greenfield investments, investments into multifunctional shared service centers, and merger & acquisition opportunities in the sectors of renewable energy, electronics, IT and wood processing. In addition, high valued added and large scale investment projects may currently apply for EU structural fund support, with the potential to received the maximum 4.2 million euros per project.

Currently, the geographic makeup of FDI inflows has undergone considerable changes as the U.S., Ireland and Lithuania are becoming important sources of fresh capital. Notably, there has been a spike in interest from Asian investors, including small but sustainable investment increases from South Korea. Russia is also poised to become one of Latvia's core investment and trade partners, with a number of interesting value-added projects in the pipeline. One such initiative is the construction of a power plant that, according to the Russian Ambassador to Latvia Alexander Veshnjakov, would receive extensive investment support (so far the amount of Russian investment in the Latvian economy has exceeded 300 million euros).

Skandinaviska Enskilda Banken, Swedbank, Tele 2 Aktiebolag and other significant investment projects serve as testimony to the strong and sustainable interest of Swedish entrepreneurs in the Latvian market. Norwegian investments have been channeled to Latvia not only through the retail industry (Rimi supermarkets, Cubus, Dressman, BikBok ) but with the petroleum sector (Statoil).

Over 100 businesses in Latvia have received an injection of Norwegian capital, including Linstow, one of the most successful real estate developers in the Baltic states who have been present in the country since 1996. Having invested several hundred million euros  into the Latvian economy and developed three hotels (Reval Latvia, Elizabetes and Ridzenes) and five shopping centers (Alfa, Mols, Galerija Centrs, Origo and Dole), the company is constantly exploring new business opportunities.

Frode Gronvold, Chairman of the Board, Linstow Center Management, comments on the decision to enter the Baltic market: "Due to the lack of financing opportunities in the early '90s, the Norwegian investors had to have a certain risk appetite that eventually translated in the successful market entry. We were comfortable with the risks of starting business in Latvia and were positively welcomed from the business community, as well as at the political level. Furthermore, we felt that the Baltic mentality and culture was not so far from the Scandinavian, which was an important precondition for investing in Latvia.

"Latvia's strive towards partaking in international organizations like the European Union, NATO and others have also stimulated international cooperation and resulted in an optimistic attitude from international investors, including ourselves. Having had to overcome a number of challenges across the operational spectrum, we remain optimistic about the future of the Baltic markets going forward." Gronvold emphasizes the tremendous integration potential of the Baltic and Nordic markets that is rooted in the geographical proximity, as well as the similarities in the cultural, political and business spheres. In the same way Latvia should strive to reap the potential of cooperation eastwards.

According to Gronvold, Linstow from the very beginning made considerable investments in human resources, training, operational systems as well as transfer of systemic routines. It was equally important to provide adequate training to facilitate the implementation and maintenance of best industry standards and practices which was relatively easy to implement, when they met very receptive and competent local employees.

Commenting on the current market situation, Gronvold stresses the importance of macroeconomic stabilization and economic turnaround. "Market players are waiting on the sidelines due to the current economic uncertainty. Credit markets are still semi-frozen and it is very difficult to demonstrate the cash flow necessary to obtain financing for new projects. We have yet to see the economy change, from the contraction scenario to the stabilization and further expansion scenario and when it happens, Linstow will consider the startup of several prospective projects."

Gronvold is strongly supporting the government's current stabilization efforts, which needs to be balanced against the danger of losing necessary stimuli for current businesses and new entrepreneurs, as well as the aim to adopt the euro, which will bring a lot of confidence to new investors that are currently worried about the currency peg shifts. "Entering the euro cooperation will further solidify Latvian integration in the European Union and will have a positive effect on the international business development going forward."