Negotiations with the manufacturer had been ongoing for almost a year. The economic development agency tossed in one additional incentive to sweeten the pot and, hopefully, close the transaction. It worked. The sweetener? The agency promised to name a road after the chief executive of the company.

“I am not going to say that something so inconsequential could make a difference on its own,” says Timothy Schram, national leader of Grant Thornton’s credit and incentive practice, who was assisting the manufacturer in selecting a site for its new plant. “Firms will weigh an entire package and economic development agencies (EDAs) know that. They also know that there is always one component that can swing a deal from one location to another, all other things being equal.”

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Investment rituals

 

The traditional back and forth between a corporate and local EDA has become very ritualised. The company selects a few locations that best suit its transportation, workforce and market needs. It approaches the relevant agencies in each jurisdiction to see which can cut the best tax deal. If the investment is large enough, the tax savings can reach easily into the hundreds of millions of dollars.

Increasingly, though, both states and corporates are placing greater emphasis on the alternative, or softer, incentives that in some cases can bear almost as much influence on the final site selection as the tax benefits proffered.

For instance, educational standards are a growing concern for companies that invest in the US, says Nathan Jensen, author of Nation States and the Multinational Corporation: A Political Economy of Foreign Direct Investment and an assistant professor of political science at Washington University in St Louis. He tells of one car manufacturer that landed an attractive investment package and later found that its tax savings were unexpectedly eroded by the remedial reading and maths training it was forced to provide its local factory workers.

Another area of concern for companies investing in the US is the efficiency of the government’s EDA apparatus. “Numerous national-level investment promotion agencies have discovered that being the main contact for investors can help attract FDI flows,” says Mr Jensen. “If a state can help to streamline the process of investment, construction and production, this could increase its attractiveness.”

Perhaps the most fundamental concern, says Mr Jensen, is that a state’s or region’s infrastructure receives intense inspection from a corporate. “Providing efficient power and transportation networks – roads, airports, etc – is valuable to investors. By providing financial incentives, [government agencies] are providing direct transfers to investors, but providing public goods can help to increase the productivity or even the feasibility of an investment location,” he says.

Late in 2006, Merck & Co announced its plan to invest about $100m to expand its Durham, North Carolina, vaccine manufacturing facility to support the production and global distribution of several of its key vaccines. This decision – along with the Whitehouse Station, New Jersey-based conglomerate’s original choice in 2004 to build a $300m, 235,000-square-foot facility in the city’s Treyburn Corporate Park – was partly a result of the state’s strategy several years ago to emphasise biotechnology and pharmaceutical training and education initiatives.

“Our economic development strategy in North Carolina is to differentiate ourselves based on the quality of our workforce, supported by consistent investments in education and workforce development and lifelong learning,” says North Carolina secretary of commerce Jim Fain. He notes that 58% of the governor’s proposed budget for 2007-08 is allocated to education.

Education support

The state’s decision to support specifically biotech education and training is the result of its investments and funding in the North Carolina Biotechnology Center, a non-state agency supported by government dollars. The centre’s training activities went into overdrive after a survey it conducted of local business needs found that there would be a demand for at least 2000 people trained for the pharma and biotech industries over the next five years.

“That was the basis for us developing an education and training collaborative initiative,” says Mr Fain. The initiative, the BioTech Training Consortium, called for the state’s renowned community colleges to develop a biotechnology network. The network would address curriculum needs for the life sciences, pharma and biotech industries, plus job sourcing and other job-related activities.

“This was put in place to meet the needs of existing life science companies as well as meeting the needs of new companies that may come to the state,” Mr Fain says.

A highly qualified and educated workforce is definitely the top non-tax incentive that firms closely examine when considering a site, says Sandra Pupatello, Ontario’s minister of economic development and trade.

“The kinds of investments these firms are making require massive capital funding,” she says. “What’s more, this is a multi-generational investment. The company needs to know that, not just in 10 years, but in 20 and 30 years it will be able to source quality workers in the area.”

Ontario’s top-notch education system (“On average we receive 70 international delegations visiting our ministry of education”, says Ms Pupatello) has played a role in attracting many of the region’s investments, as has Ontario’s tax credit for ongoing training.

But the ministry’s secret strength is its concerted effort to provide one-stop assistance to investors, she says. “One of the things we pride ourselves on is the way we are able to cut through bureaucracy for investors. We have several levels of municipal government – and we deal with all that for them. Especially if a firm is not from Ontario, it could find the government system difficult to navigate.”

As more investors in Canada are coming from Asia and Europe, it has become a higher priority to provide this streamlined point of access, she says.

One-stop-shop assistance is also a focus at the North of England Inward Investment Agency (NEIIA), a government-sponsored agency responsible for promoting direct business investment from North America into northern England. NEIIA, though, tends to focus more on the minutiae that is associated with a direct investment, such as services for expatriates that are moving to oversee the investment.

“For US companies coming to the UK, particularly in the sciences area, we will help with work permits and such tasks as identifying housing, appropriate schools and cross cultural training,” says Ed Pennington, vice-president for development at NEIIA.

Cultural adjustments

Although US citizens are not likely to experience much of a cultural shock in a move to the UK – as they would during a move to, say, China – there are still adjustments to be made, says Mr Pennington. “It is the smaller things that tend to frustrate people, such as finding the appropriate appliances, shopping, even making like-minded friends in a new setting.” To help, NEIIA will introduce new arrivals to settled expatriates and connect them to industry groups for professional networking services.

If it sounds as though NEIIA is broaching the business model of an online dating service, Mr Pennington offers little apology: “The whole role of incentives is changing. Market opportunities remain the number one reason why companies come to the UK. Once we identify and market those, it then comes down to the people – whether a project will have sufficient staff.”

For high-value projects, companies tend to be more comfortable placing their own people at first, at least in the top executive and research roles, he says. “By making sure these people are comfortable, we are safeguarding the investment.”

By doing so, NEIIA is gambling that eventually local jobs will be created as well. “My raison d’être is to increase jobs in the UK,” says Mr Pennington. “If a firm wants to bring in its own staff, that is fine. We know that eventually they will add to their existing staff with local hires.”

The ultimate soft incentive is the health of the state itself, says Ronald R Pollina, president and real estate economist at Pollina Corporate Real Estate. Pollina publishes the popular Top 10 Pro-Business States annual report (it named this year’s top 10 as Virginia, South Carolina, Florida, North Carolina, Utah, Wyoming, South Dakota, Alabama, Georgia and Nebraska).

Mr Pollina is not criticising the financial incentives that states offer companies to invest in their areas. “In this global economy, most companies need those incentives if they want to stay competitive with labour costs in China or Mexico,” he says. At the same time, though, companies will not invest in a state without the right mix of infrastructure, tax policies, labour costs and other related issues. Even quality of life plays a role, depending on the point of the investment. “For a manufacturing facility, quality of life is not so high on the agenda. A headquarters relocation is another story,” says Mr Pollina.

As part of its extensive annual survey, Pollina Corporate looks at a wide range of factors: the same factors that companies look at when considering their investments. The list may be daunting to a state or locale that wishes to compete head to head on as many points as possible. That is why long-term state governance is vital to investment health, says Mr Pollina.

“These are not factors that can be influenced to any great extent with one or two governors’ terms,” he says.

The survey looks at factors ranging from employment figures, right-to-work statutes (Pollina Corporate has found that right-to-work status is a significant positive factor when evaluating locations for manufacturing and distribution: even states that have low union activity are often eliminated from further consideration if the state is not a right-to-work state), unemployment insurance regulations, employment trends of the past few years, corporate tax, individual income tax, sales and gross receipts taxes, average cost of electricity, basic educational skills proficiency in reading and maths, average teacher salary, highway deficiency, bridge deficiency, urban mass transit, sewage treatment needs, digital infrastructure, infant mortality, uninsured low income children, teen pregnancy, heart disease, home-ownership rate, charitable giving, voting and crime rate.

It is an interesting mix of qualities and one that defies a pat overall policy or political direction on the part of the state. How politics figure into the site selection decision-making process is an altogether different story.

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The evolution of tax incentives

Soft factors aside, tax incentives still matter in corporate location decisions. But political challenges have made the issue a sensitive one among both state agencies and large corporates that too easily become a target of public opinion and the media.

Perhaps in response to these trends, there has been a shift in the form in which tax incentives are granted, according to Paul Marttila, a partner at BDO Seidman, who leads the firm’s tax services, business location incentives and site selection practice.

“Traditionally, it was a formulaic, statutory calculation,” says Mr Marttila. “If a company invested X dollars or created X number of jobs it would receive a certain benefit irrespective of the company’s industry.” Special purpose financing in most states has taken over the model, in which the states provide more incentives to industries that they consider the most attractive or beneficial to their economies, such as biotech, health care or digital media, he says.

“States have also taken on more of a role in supporting venture capital and research and development, rather than just financing through low-interest loans or grants for capital expenditures,” he says. And states are becoming more willing to give grants and low-interest loans to start-ups based on their potential, rather than on the collateral of the capital equipment, which is what traditional state loan programmes have used to provide financing.

Tax increment financing is also now offered in all of the US states except Arizona, he says. At its most basic, this type of financing can be described as a tool to use future gains in taxes to finance a project or development.