UK remains top destination for inward investment, but Germany and France are closing the gap as Brexit bites

11 June 2018

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  • The UK attracted 6% more Foreign Direct Investment (FDI) projects in 2017 compared to 2016, but in a European market growing at 10%, the UK’s market share fell for the second successive year.
  • When 450 global investors were asked ‘where is the most attractive place to invest in the future’, they favoured Germany (1st), with France (2nd) overtaking the UK placed 3rd. France has seen a surge in FDI projects by 31% in 2017, supported by the so-called “Macron effect”.
  • Investor concerns over Brexit led to a decline in Financial Services, Business Services and HQ investments into the UK - against an expanding European market – but were offset by a 22% boost in Digital FDI, compared to a 33% rise across Europe.
  • 2017 was a record year for UK outflows, with a 35% increase in UK businesses investing into Europe, led by Financial Services, Business Services, and Digital, as they start to position themselves for Brexit.
  • The quality of UK transport infrastructure is a major concern for foreign investors.
  • Manufacturing investment remained resilient - up by 17% - as investor’s signal they will wait for details on Brexit before moving assets out of the UK.
  • The report suggests only 8% of investors will move assets out of the UK in the next three years, offering policy makers a short window to protect and improve the UK's competitiveness. 

The UK remained the number one destination for foreign direct investment (FDI) in Europe last year, ahead of Germany and France, despite a decline in sentiment from foreign investors towards the UK as a place to invest, according to EY’s 2018 UK Attractiveness Report released today.

Amidst a 10% growth in the European market for FDI, the UK attracted 1,205 FDI projects in 2017, a 6% increase when compared to 2016 (1,138). Germany also saw a 6% rise last year – constrained in part by a tight labour market - compared to the 31% surge in projects (from 779 in 2016 to 1,019 in 2017) experienced by France, supporting claims of the emergence of ‘The Macron effect’. Indeed France overtook the UK to be named the second most attractive place to locate in the future by investors, behind Germany placed first.

Although the UK experienced a growth in the number of FDI projects locating in the UK, its market share of European FDI fell for the second year running – from 21% in 2015, to 19% in 2016 and 18% in 2017. In addition, the number of headquarters locating in the UK – a significant FDI performance indicator – were also down by 25%.

Investors expressed clear concerns surrounding Brexit, which contributed to the UK’s waning attractiveness and a decline in FDI projects in certain sectors, including: Financial Services, Business Services, and Logistics. A 22% increase in Digital investments into the UK helped to cushion the hit and push the UK into growth territory.

EY’s UK Chairman, Steve Varley, commented: “The UK’s FDI performance shows an economy in transition, influenced by Brexit and the force of technological change, which is impacting on the mix of investment across sectors, project types and size.

“In 2017 a swell of digital projects flowed into Europe changing the shape of FDI and bringing new dynamic businesses to the continent. Digital projects increased by 33% across Europe - three times the rate of overall market growth – and 34% in London, but only 22% across the UK as a whole.

“At a time when investor sentiment towards the UK as an attractive destination is weakening, opportunity arises in the shape of digital. An urgent digital drive is needed with a renewed focus on digital skills, infrastructure, and investment in research and development will help to shape the UK as an attractive environment, to maintain its competitiveness in a post-Brexit world."

Positioning for Brexit drives a 35% increase in outbound investment flows from UK businesses

According to the report, there was a marked increase in UK outbound investment by 35% in 2017 to a new high. 110 of those investments went into Germany and 79 to France, as UK businesses appear to be accelerating their activity to position themselves for a post Brexit environment.

That trend was evident in the Financial Services sector, Logistics and particularly prevalent in Business Services, which saw inflows surging into Germany from the UK in 2017 (from 133 projects recorded in 2016 to 226 in 2017).

Sectors make geographic realignment moves

Whilst the UK attracted the highest amount of Financial Services investment in Europe, there was a 26% fall in the number of projects locating in the UK, compared to the sector experiencing a 13% increase in FDI across Europe.

Financial Services firms already based in the UK made 54 investments into Europe in 2017 compared to 28 in the previous year, suggesting they are using their UK business to access EU markets and are implementing strategic plans ahead of Brexit, including moving some people and operations to the continent.

Business Services – historically contributing significantly to the UK’s FDI growth – saw projects into the UK fall slightly in 2017 (from 170 projects to 168) against a 26% growth experienced in Europe, representing a substantial loss in market share for the UK. In contrast, France saw Business Services investment grow by 32% and Germany by 74%. The UK lost its position as the market leader in attracting Business Services FDI in Europe to Germany in 2017.

On a positive note, manufacturing projects into the UK increased by 17% in 2017 and R&D investments grew by 31% - significantly faster than the European rate of 26%. More specifically, Food and Electronics saw investment projects in the UK increase by around 50% in 2017, and Transport Manufacturing investment was up by one third (33%), reflecting the actions of businesses to ensure effective operation in the UK after Brexit.

EY’s chief economist, Mark Gregory commented: “Once again we find evidence of an economy in transition with individual sectors behaving in different ways in response to changes in the business environment. The services sectors appear to be the first movers in responding to Brexit, in part reflecting the fact that it is easier to delay or shift investments, compared to capital intensive activity in manufacturing for example.”

Projects into London increase, but the capital loses its crown to Paris

FDI performance across the UK regions mirrored the national picture with growth rates similar to the UK average. However, more detailed analysis reveals that the changing nature of FDI into the UK is having differential impacts across the regions’ - most obviously in London.

The capital has been the jewel in the UK’s FDI crown for several years, attracting more projects in 2017 than some countries in Europe – excluding the UK, Germany and France. However, whilst FDI projects into the capital rose slightly in 2017 (from 446 in 2016 to 459) – representing half of the UK’s overall growth rate - Paris was named by foreign investors as the most attractive city to invest in, overtaking London for the first time since the survey began in 2004.

Gregory added: “The UK’s FDI landscape is changing, and with London at the heart of that shift, the capital is feeling the impact most acutely. The decline in Financial and Business Services projects, and the drop in the number of HQ investments into the UK, were major factors influencing London’s FDI outcome in 2017.

“However, more positively, the capital saw a 34% rise in the number of digital projects locating in the city, equating to almost a fifth of the European market, and nearly two thirds of all UK digital projects.”

Looking at other regions in the UK, Scotland, the North West, the East, and South East all had a strong FDI performance in 2017, driven in part by an increase in the number of digital projects locating there. Nine digital projects located in Edinburgh in 2017, 15 in Manchester, seven in Cambridge and five in Reading, contributing to regional FDI growth.

Gregory added: “In an increasingly digital world, the UK will need to accelerate and maximize its transformation into a digital economy or risk losing out on growth opportunities. We must learn from London’s success.”

UK outlook stable in the short-term, but longer-term threats visible

EY’s report includes a survey of 450 global investors, to understand the drivers of their investment plans. When asked how their investment activity in the UK has changed since the EU referendum, 6% of investors said they had reduced it, 7% said they had increased it, and 8% had put their plans on hold.

In line with historic trends, albeit low, 24% of investors said they intend to establish or expand operations in the UK in the coming year, compared to 28% who cited Germany. This suggests a stable short-term outlook for the UK.

More long-term, investors appear to become increasingly concerned. 30% of those surveyed said they expect the UK’s attractiveness for FDI to improve in the coming years, whilst 36% expect it to decline – the lowest level of confidence ever seen in the nation’s future appeal.

Gregory adds: “Unsurprisingly, ‘access to the European market’ and the ‘UK’s domestic growth’ are areas of concern cited by investors given the Brexit process. But there has also been a striking decline in the UK’s qualitative appeal, which takes into account a country’s social climate, quality of life, diversity and the political environment.

“Beyond these factors, the survey also reveals a 20% decline in how investors rate the UK’s transport and logistics infrastructure, highlighting a potentially significant issue.

“The good news is that many investors, especially manufacturers, appear to be willing to wait before making any significant investment decisions, including moving their UK operations elsewhere. This gives the UK some time to craft policy responses to combat waning sentiment from international investors.”

According to EY’s report, confidence in the UK as a place to invest would be improved if the Government were to articulate a long-term vision for the UK, including: how it proposes to drive the future growth of the UK economy, emphasising a pro-business environment, and outlining its approach to immigration and foreign investment to encourage people and businesses to come to the UK.

“Despite the image of the UK declining among investors, France is an example of how feelings towards a country can change significantly, and swiftly, based on perceived shifts in attitude towards enterprise by politicians. Whilst we are in a period of transition the UK has time to act, but the window is short” concluded Gregory.