Facing intense competition from China and India, Europe still reeled in impressive activity in foreign direct investment (FDI) during 2006, according to Ernst & Young’s attractiveness survey “Wanted: A Renewable Europe.” The survey highlights Europe’s economic position relative to 13 world economic zones.

In 2006, Europe attracted 3,531 foreign investments, a 15.2 percent annual increase compared with 2005 FDI activity. That year saw 3,065 foreign investments.

The fact that 71 percent of FDI investment was for greenfield projects demonstrates a further sign of investment intensity and a broad base of investor interest.

Survey results show that the European FDI economy is increasingly reliant on service-related sectors. Those experiencing the most FDI growth in 2006 were software at 13.4 percent; business services (advisory, design, recruitment and maintenance, etc.) at 12.6 percent; electronics at 6.6 percent; and machinery and equipment at 6.4 percent.

Investments by European players continued to dominate FDI flows, representing 50.4 percent of investments announced in 2006. BRIC countries (Brazil, Russia, India and China) increased their investments significantly, from 112 in 2005 to 163 in 2006.

Utkarsh Palnitkar, a partner in Ernst & Young India, described Europe as extremely attractive to companies in India and China because of its rich and dense EU market, logistics infrastructure and unsurpassed connectivity in the world.

“I would also point out that India’s cultural affinity with Europe is relatively higher than that with the United States,” Palnitkar said.

On the downside is Europe’s overburdened healthcare infrastructure and high labor costs, which necessitate investment in automation.

UK Continues To Leads the Way

The United Kingdom and France remained the top two destinations for FDI, with the UK’s lead becoming more pronounced. Almost one-fifth (19.4 percent) of the total number of FDI projects in Europe in 2006 were sited in the UK, while France attracted 16 percent.

The United Kingdom obtained 43 percent of Europe’s FDI for headquarters, and was a key destination for software (35 percent) and business services (29 percent).

Romania experienced the highest growth in the number of projects announced, from 86 in 2005 to 149 in 2006.

With 22 projects, Romania is No. 2 in Europe for FDI in the automotive sector. Overall, despite a marked trend of a migration of automotive-related jobs toward emerging destinations, Europe managed to attract 226 automotive-related projects in 2006 (6.4 percent of the total).

Switzerland jumped to No. 8 on the strength of its popularity as a destination for headquarters operations and, to a certain extent, life sciences investments.

U.S. investors’ interest in Europe declined from 35 percent in 2002 to 30 percent at the end of 2006. Nevertheless, as opposed to 2005 when the two top companies investing in Europe were German, U.S.-based companies took the lead in 2006 The biggest investments were by IBM, Microsoft, DHL and GlaxoSmithKline.

Competition from Abroad

China and India continue to be the main competition to Europe for foreign investments.

As the survey states, the pull of India as a global call center location remains undisputable, despite a cooling off in investor interest in the region in 2006. Europe is also likely to continue to lose ground to India as a location for R&D and administrative/back office functions.

China gained significant ground in 2006 for manufacturing investments.

Meanwhile, Europe’s economic focus continues to move eastward with Poland and the Czech Republic strengthening their positions in the ranking. Nevertheless, Central and Eastern Europe’s favorable labor environmental image is increasingly challenged, and China has moved past the region in regional attractiveness, according to the survey.

While U.S. firms have expressed great interest in Central and Eastern Europe for light manufacturing and global business services operations, Mark Costello, managing partner for Real Estate Advisory Services in Ernst & Young’s New York office, indicated companies are concerned over the sustainability of wage and benefits, and the flexibility of labor regulations with EU countries overall.

“To maintain the growth of investments from U.S. companies, EU countries must continue to aggressively develop programs and incentives focused on work force quality rather than competing with other global locations on a cost basis,” he said.

Patrick Gounelle, president of Ernst & Young for France and Southern Europe, and Marc Lhermitte, partner, International Location Advisory Services, concurred that Europe represents the leading concentration of skepticism and attempts at protectionism.

“Having celebrated the 50th birthday of the Treaties of Rome, the grand vision of Europe has reached a time of renewal, a turning point for meeting new challenges and addressing new risks,” they said. “The time is ripe for a regeneration of its competitiveness policy, its political agenda, its institutions.”

Fifty-six percent of business leaders believe Europe’s attractiveness will improve during the next three years. Most of the improvement in perceptions is related to Central and Eastern Europe.

In order to improve, however, investors cite a need for reforms that provide greater labor flexibility (47 percent), simpler administrative procedures (44 percent) and more innovation support (35 percent).

More so than ever, environmental issues are key in site location decisions. More than 67 percent of respondents indicated they take the environmental performance record of their target area into account in their choice of location, with 30 percent stating that environmental issues play a strong part in their decision-making process. Only 9 percent of those surveyed stated that environmental issues played no part in their implantation preferences.

More than half (56 percent) believe that the adoption of new environmental regulations by European countries would provide a means of increasing its attractiveness and help to differentiate itself from other investment destinations.