This article first appeared in The Edge Malaysia Weekly on January 18, 2021 - January 24, 2021

MALAYSIA’s attractiveness as a foreign investment destination was a hot topic last week after Finance Minister Tengku Datuk Seri Zafrul Abdul Aziz asserted in a LinkedIn  post that foreign investors remained confident about Malaysia.

The minister stated that Malaysia registered total investments, comprising domestic direct investment (DDI) and FDI, of RM109.8 billion for the first nine months of 2020. DDI amounted to RM67.2 billion (61.2%) and FDI, RM42.6 billion (38.8%).

Compared to the same period in 2019, DDI and FDI are lower by 18.74% and 35.74% respectively but note that 2020 was the year of the pandemic.

In response to Zafrul’s post, Sven Schneider, chief executive of the European Chamber of Commerce, said that European foreign investors have many concerns about Malaysia being a “viable investment destination”.

It is true that foreign direct investment (FDI) numbers have not been encouraging.,  but this has been happening in the past decade and not just the past two years.

Growth in FDI has been inconsistent over the last decade despite the many promotional activities and incentives given to attract foreign investors. FDI has remained lumpy over the years, and there have been some years when no growth was seen.

FDI is important to a developing country like Malaysia as it has a positive impact across many facets of the economy.

“It is important to note that FDI has assumed a paramount role in Malaysia’s emergence as a dynamic and vibrant industrialised nation,” says the Malaysian Investment Development Authority (MIDA) in an email reply to The Edge.

There is no doubt that FDIs in the early years led to the transfer of technology and created supply chain opportunities and other benefits that sowed the seeds for home-grown companies that have now become formidable players in the electrical and electronics space. Companies such as Pentamaster Corp Bhd, Inari Amertron Bhd and Vitrox Corp Bhd in Penang’s E&E cluster are testament to that.

“Foreign multinational corporations (MNCs) have supported the establishment of a local supply chain and domestic ecosystem, creating opportunities for local talent in terms of employment, skill development and training within the industry,” says MIDA.

Be that as it may, the data shows that Malaysia is indeed losing its shine as an investment destination — and for local investors too — even without taking into account Covid-19-stricken 2020. Various parties have voiced their concerns over the weakening private investment growth numbers, especially at how growth has slowed considerably over the last decade.

In 2019, private investment (as a component of GDP) grew 1.5% from the previous year, the lowest growth recorded since the global financial crisis. By 3Q2020, private investment had contracted 9.3% for the quarter following the sharp dip of 26.4% in the previous quarter. But this is no surprise, given that the world was in the grip of the coronavirus.

Notably, MIDA’s data shows that growth in total approved investments has been on a declining trend in the last decade, led by the drop in DDI. Approved DDI only grew 1% in 2019, to RM125.49 billion, from the previous year.

DDI made up the bulk of the country’s approved private investment with the largest contribution — some 72% of approved domestic investments between 2014 and 2019 — derived from the services sector.

According to MIDA’s 2019 Annual Report, DDI commanded 60.4% of the country’s approved private investments of RM207.87 billion that year. FDI made up the remaining 39.6% of approved private investments, totalling RM82.3 billion for that year.

With DDI making up a sizeable component of approved private investments, its role is not to be underplayed.

“The domestic investment agenda has always been the priority for Malaysia, especially when the small and medium enterprises (SMEs) contribute about 38.9% to the country’s GDP with export performance of 17%, led by the services sector,” says MIDA.

It adds that various initiatives and incentives have been deployed to promote domestic investments further and has some success stories to share, namely the application of Internet of Things (IoT) and big data analytics by a local farming company through a collaboration with a local R&D company, and the adoption of digital technology and e-commerce platform by an SME via a collaboration with a local fintech.

However, growth in DDI has also been slowing in recent years.

In Bank Negara Malaysia’s Economic and Monetary Review 2019 report released in April 2020, the central bank highlighted that the slowdown in DDI has been seen in slower investment growth in mining, agriculture and construction, while FDI saw a sharp slowdown in the mining and manufacturing sectors. Bank Negara cites several factors that have contributed to the slowdown in private investment, including trade and geopolitical tensions, decline in oil prices and an oversupply in the domestic property market.

Another contributing factor to the slowdown in DDI growth is the slump in the property market. Note that real estate as a sub-sector is one of the largest contributors to approved investments in the services sector.

In 2014, approved investments in real estate hit a peak of RM88.5 billion, equivalent to 59% of domestic investments approved in the services sector. The peak in the real estate sub-sector in 2014 coincided with the highest total approved investment seen for the country at RM235.9 billion.

But since the slowdown in the domestic property market post-2014, real estate approved investments have also trended lower, contributing to the decline in total approved investments.

Bank Negara highlighted in its article on private investment in the 2019 report that the higher share of investments concentrated in property suggests that investment in Malaysia has not transitioned towards more productive assets, such as R&D, ICT equipment and computer software, which are seen as crucial in improving labour and productivity.

Malaysia has no doubt been a welcoming host to foreign investors and many are pleased with their investments in the country. But at the same time, most local business owners hold the view that the country has been too hospitable to FDI, so much so that local businesses feel “discriminated against” by authorities who appear to be favouring FDIs over local investments.

MIDA does not agree with that view. In a reply to The Edge, it says that the country places equal importance on its efforts to attract FDI and DDI.

“MIDA has long been striving to position Malaysia as the base for high value-added activities such as those that are tradeable, have high knowledge intensity and linkages with the rest of the economy and the potential to generate high-income jobs,” it says.

MIDA is positioning Malaysia as a hub for R&D, high technology, high value-added as well as complex activities and global operations among the FDIs while among the DDIs, its efforts include creating local conglomerates, expanding the breadth and depth of the domestic supply chain and nurturing technology adoption.

Socio-Economic Research Centre executive director Lee Heng Guie agrees that the grouse of favouritism towards FDI is often heard among the local business community.

“To be fair, it is the state governments’ KPI to drive FDI, so naturally, many people think that DDI has been neglected. Whether or not this is true is something worth investigating. But if you ask me, I think there is a lot of incentives for both FDI and DDI. Generally, there is no bias. Why is there such a perception? I am not sure.

“To me, both are important — they have to complement each other. Perhaps the local firms feel that when the MNCs come here, the government gives them special lanes and other facilitations.

“But we need to understand that the state leaders have to showcase that our country welcomes FDI. To attract the MNCs to come here, we need to make them feel like they have special treatment. But factually speaking, there is no unequal treatment per se,” he says.

Sunway University Business School economics professor Dr Yeah Kim Leng concurs, saying that foreign companies usually get more attention when making an investment because they are bigger in size and help boost confidence at the country level.

“The main objective is to complement the domestic investments. When you have foreign investors, you will see a spillover effect because they will build up their domestic supply chain, and hence, local suppliers will benefit. But of course, we have to admit, some foreign companies do not really have advanced technology production processes,” he explains.

While incentives are offered equally to both DDI and FDI, FDIs could be the ones that benefit from them substantially, says Chow Chee Yen, Grant Thornton’s senior executive director, tax advisory and compliance.

“This is due to their capability to spend the capital outlay required, especially on those capital-based tax incentives,” he says.

Objectively, there does not seem to be discrimination in terms of incentives made available to local and foreign investments. However, one thing that many tax consultants and businesses have highlighted for many years now is how “outdated” and “irrelevant” the incentives offered can be, given that many have been around for more than 20 years.

“We urgently need a review of the tax incentives framework to assess whether it is still effective,” says EY Asean tax leader Amarjeet Singh.

While the government has been reviewing the incentives regime over the years, there has not been any major overhaul or change so far, he says.

“Instead, we saw specific incentives being introduced. In Budget 2021 though, we saw the introduction of the Approved Incentive Scheme (AIS), which would likely form the basis of future incentives. This incentive is in the form of reduced tax rates (capped at 20%) for activities approved by the finance minister. This appears to be a key step in a new direction for incentives. We should expect to see a move away from the traditional incentives towards a lower corporate tax rate instead,” he adds.

KPMG Malaysia head of tax Tai Lai Kok says that since tax incentives are generally available to both local and foreign companies, investors’ consideration would not wholly depend on tax incentives.

“Other non-tax factors such as costs of doing business, consistency in tax policies and stability of the political environment, among others, may also influence their decision to invest in Malaysia,” he says.

Notably, Malaysia’s ranking on the World Bank’s Ease of Doing Business Index is commendable. In the 2020 edition, Malaysia moved up the rankings from 15 to 12 out of 190 countries surveyed, MIDA points out.

“Continual reforms and a commitment to restore the country’s fiscal health has helped Malaysia boost its competitiveness ranking throughout 2019, with the country holding its own as a global investment destination. Malaysia remains as the preferred investment destination due to its location in the heart of Southeast Asia, one of the fastest-growing economic regions in the world. The Malaysian government continues to be pro-business, prudent and pragmatic in its policies to ensure that Malaysia’s investment climate remains attractive for businesses, not only to conduct business activities, but also to expand and diversify existing operations,” MIDA says.

While rankings show that the ease of doing business in Malaysia has improved, there are some who believe that the country could be falling behind the curve if nothing is done.

“Sure, many will say that Vietnam is not there yet. Malaysia is still ahead of Vietnam but this won’t always be the case. Look at how aggressive the investment board in Vietnam is in courting investors now. Very soon, they will overtake us,” says a high-end medical device manufacturer.

As the global and domestic economies are expected to make a recovery this year, fuelled by the deployment of Covid-19 vaccines, Malaysia should ramp up efforts to revitalise private investments — an important lever of growth. But are we moving fast enough to catch up with the times or are we still resting on our laurels of the success in the 1970s?

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