For a relatively small country located far from most major markets, Chile has been remarkably successful at attracting inward Foreign Direct Investment (FDI). However, the nature and extent of the contribution of inward FDI to Chile is not well understood. Most research has focused on the direct effects of FDI on the economy or the foreign affiliate. That is, there is a lack of research that considers the impact of FDI on the development of local industry. Therefore, this thesis main research issue is: “How does inward FDI impact on local industry in Chile?” It focuses on the impact of FDI at the firm level by assessing the indirect and direct linkages that foreign affiliates form with local firms, through which they may influence the upgrading of local industry, as well as identifying factors that may influence linkage formation. This thesis uses Scott-Kennel’s model of local industry upgrading as a guideline to address the main research issue. This model provides a micro-level explanation of the Investment Development Path (IDP), in turn, making it feasible to examine how the impact of FDI on local industry upgrading may occur. The model proposes a process of local asset augmentation (upgrading) that operationalizes the IDP by illustrating the mechanisms by which local firms may upgrade their resources and capabilities via linkages with foreign affiliates. However, Scott-Kennel’s model is based on the New Zealand context, which presents differences from the Chilean context. Hence, this thesis assesses the suitability of Scott-Kennel’s model in the context of a developing economy, Chile. From a methodological perspective the value of this thesis originates from the various challenges encountered during data collection by using quantitative methods that triggered the reconsideration of the research context and research questions that ultimately led to adopt a qualitative methodology using multiple case studies. Case firms included in the study are significantly foreign-owned affiliates operating within the service sector in Chile. This thesis provides evidence that FDI has a significant impact on the upgrading of local industry in the context of Chile, through direct effects over the affiliate, competitive effects, local sourcing, assistance linkages, corporate social responsibility linkages and collaborative agreements. The results also support Scott-Kennel’s findings that not all FDI is the same. Distinct groups of affiliates are distinguished according to their extent and quality of linkage formation. In so doing, it provides a starting point for identifying those affiliates that are more likely to be engaged in a variety of local linkages and those that are less likely to be so well integrated with the local industry. A key contribution of this thesis relates to the role of government policy in the process of local industry upgrading via FDI in the context of developing countries. The evidence suggests that while FDI policy may be neutral government policy plays a major role through directive industry policy and the provision of an investment environment which is stable politically and economically. Overall, the findings in this thesis relating to foreign affiliates and their activities in Chile will provide policy makers with a better understanding of the nature and outcomes of interaction between foreign and local firms.