A brownfield investment normally occurs when an organization wants to begin operating in a new country without incurring the expensive start-up costs associated with a greenfield investment. For the purposes of this article, a greenfield investment is one where a new production facility is constructed from scratch. A brownfield investment is the lease or purchase of a pre-existing production facility in a foreign country.
Understanding a brownfield investment
A brownfield investment is a form of foreign direct investment which makes use of existing infrastructure by either merging, acquiring, or leasing that infrastructure. That is, the foreign company or individual invests in a business already established in another country. For the business entering a foreign country, this approach reduces costs and shortens the time to production.
While a brownfield investment is a low-cost, developed asset, it may still require ongoing capital expenditure. Many brownfield investments are associated with considerable development or construction as part of expansionary, enhancement, or retro-fitting programs.
Brownfield investment examples
To understand how a brownfield investment plays out in the real world, consider these examples:
Vodafone
The British telecommunications company acquired a majority stake in Hutchison Essar, India’s fourth-largest mobile operator. The multi-billion investment saw Vodafone gain a controlling interest in the company. In the process, Vodafone established itself in the Indian telecom market through an established player.
Tata Motors
Indian automotive manufacturer Tata Motors acquired fellow British manufacturer Jaguar in 2008. The all-cash deal, worth $2.8 billion, gave Tata the right to establish a manufacturing plant and two design centers in the United Kingdom.
Disney
In 2006, The Walt Disney Company acquired computer animation studio Pixar in a deal worth $7.4 billion. In acquiring Pixar, Disney gained access to advanced animated movie technology. The company also inherited Pixar’s unique culture and creative team, which it admitted was responsible for “some of the most innovative and successful films in history.”
Advantages and disadvantages of brownfield investments
Advantages
Quick access to a new market
Since much of the infrastructure is already provided, the company can enter a foreign market in a relatively short space of time. What’s more, the existing firm may have an established network of vendors, suppliers, and distributors.
Regulatory approvals
Similarly, an existing firm with environmental or bureaucratic approvals in place means the acquiring firm can begin operations sooner and save time and money. This advantage is likely to grow over time as environmental approvals become increasingly difficult to obtain.
Skilled employees
As we saw in the Disney acquisition of Pixar, some brownfield investments allow the controlling company to benefit from a skilled and productive workforce. In fact, it may be the sole reason a company makes such an investment in the first place.
Disadvantages
Outdated infrastructure
There is always the risk that a brownfield investment requires a major infrastructure upgrade. In some cases, the cost of the upgrade may be comparable to the cost of a greenfield investment.
Repatriation laws
Some countries impose restrictions on how much profit can be taken back to the home country of the acquiring company.
Buyer’s remorse
No matter how good the investment appears on paper, it is unlikely the acquiring company will find a facility with the type of capital, labor, equipment, and technology that suits its needs completely. The discomfort arising from buyer’s remorse must be prepared for and accepted if the business is to succeed in a less than ideal foreign market.
Key takeaways:
A brownfield investment is the lease or purchase of a pre-existing production facility in a foreign country. Many such investments are associated with expansionary, enhancement, or retro-fitting programs.
An example of a brownfield investment is the Vodafone acquisition of Hutchison Essar to enter the Indian telecommunications market. Another example is Disney, which acquired Pixar to inherit its advanced computer animation studios and a team of creative designers.
Brownfield investments may help an organization enter a new market more efficiently with regulatory approvals, infrastructure, and a skilled workforce in place. However, there is a risk the acquired infrastructure is costly to maintain or replace. Some countries also enforce restrictive profit laws.
The circle of competence describes a person’s natural competence in an area that matches their skills and abilities. Beyond this imaginary circle are skills and abilities that a person is naturally less competent at. The concept was popularised by Warren Buffett, who argued that investors should only invest in companies they know and understand. However, the circle of competence applies to any topic and indeed any individual.
Economic or market moats represent the long-term business defensibility. Or how long a business can retain its competitive advantage in the marketplace over the years. Warren Buffet who popularized the term “moat” referred to it as a share of mind, opposite to market share, as such it is the characteristic that all valuable brands have.
The Buffet Indicator is a measure of the total value of all publicly-traded stocks in a country divided by that country’s GDP. It’s a measure and ratio to evaluate whether a market is undervalued or overvalued. It’s one of Warren Buffet’s favorite measures as a warning that financial markets might be overvalued and riskier.
Venture capital is a form of investing skewed toward high-risk bets, that are likely to fail. Therefore venture capitalists look for higher returns. Indeed, venture capital is based on the power law, or the law for which a small number of bets will pay off big time for the larger numbers of low-return or investments that will go to zero. That is the whole premise of venture capital.
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Double-entry accounting is the foundation of modern financial accounting. It’s based on the accounting equation, where assets equal liabilities plus equity. That is the fundamental unit to build financial statements (balance sheet, income statement, and cash flow statement). The basic concept of double-entry is that a single transaction, to be recorded, will hit two accounts.
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Business valuations involve a formal analysis of the key operational aspects of a business. A business valuation is an analysis used to determine the economic value of a business or company unit. It’s important to note that valuations are one part science and one part art. Analysts use professional judgment to consider the financial performance of a business with respect to local, national, or global economic conditions. They will also consider the total value of assets and liabilities, in addition to patented or proprietary technology.
A financial option is a contract, defined as a derivative drawing its value on a set of underlying variables (perhaps the volatility of the stock underlying the option). It comprises two parties (option writer and option buyer). This contract offers the right of the option holder to purchase the underlying asset at an agreed price.
Gennaro is the creator of FourWeekMBA, which reached about four million business people, comprising C-level executives, investors, analysts, product managers, and aspiring digital entrepreneurs in 2022 alone | He is also Director of Sales for a high-tech scaleup in the AI Industry | In 2012, Gennaro earned an International MBA with emphasis on Corporate Finance and Business Strategy.
