MANAGING POLITICAL RISK

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MANAGING POLITICAL RISK
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POLITICAL RISK MANAGEMENT
Identifi- cation
Measure- ment
Techniques
Implemen- tation
Evalua- tion
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Nature and Analysis of Political Risk

• Political risk
• Likelihood that a businesss foreign investment
  will be constrained by a host governments policy
• In the past, risk stemmed from expropriation of
  foreign operations by the host government
• Today, governments of struggling economies may
  make policy decisions that adversely affect MNCs

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Macro Analysis of Political Risk

• Purpose To review the major political decisions
  likely to affect all business conducted in a
  country
• Evaluates the status of host governments economy
• Assesses ability of a country to make the
  transition to a market-driven economy
• Examples
• tightening controls on flow of foreign currency
• bureaucratic legal systems
• requiring foreign investors to establish joint
  ventures with local partners

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Nature and Analysis of Political Risk

• Micro political risk analysis
• Analysis directed toward government policies and
  actions that influence selected sectors of the
  economy or specific foreign businesses in the
  country
• Micro risk issues may involve
• Industry regulation
• Taxes on specific types of business activity
• Various restrictive local laws

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DIFFERENT CATEGORIES OF RISK

• Expropriation
• Seizure of businesses by a host country with
  little, if any, compensation to the owners
• Transfer Risks - policies that limit the transfer
  of capital, payments, production, people, and
  technology in or out of a country
• tariffs on exports or imports
• Ownership Control Risks
• Laws that require that nations hold a majority
  interest in the operation
• Operational risk
• MNCs ability to get a good return from their
  foreign investments may be limited by government
  regulations
• May require the use of domestic suppliers
• May restrict amount of profit taken out of the
  country

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POLITICAL RISK ANALYSIS A HISTORICAL PERSPECTIVE

• Expert methods of political risk
• Grand Tours Old Hands
• Old Hands
• New types of political risk analysis
• Quantitative
• Qualitative

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QUANTITATIVE METHODS PSSI

• Socioeconomic Characteristics Index
• Ethnolinguistic fractionalization, GNP growth per
  capita, energy consumption per capita
• Government Process Index
• Political competition index, legislative
  effectiveness, constitutional changes per year,
  irregular chief executive changes
• Societal Conflict Index
• Public Unrest Index (20), Internal Violence
  Index (40), Coercion Potential Index (40)

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QUALITATIVE METHODS

• Relied on the perceptions judgments of country
  experts.
• Provided numerical indices (most based on Delphi
  technique)
• PRS survey for each country (3-7 country
  experts) answers aggregated into a common
  projection assigned risk levels to each
  country.
• Dow Chemical established its own program
  standardized interviews analyses, determined
  key issues in a given country then developed
  scenarios probabilities for a 5-year time frame.

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DECLINE OF POLITICAL RISK ANALYSIS

• Late 1980s most companies disbanded their
  formal corporate political risk assessment
  functions cut back on their use of formal risk
  services
• Why?
• Serious gaps (limited information in terms of
  criteria)
• More familiar with the international environment
• Not good at predicting political events
• BUT POLITICAL RISK ITSELF DID NOT DECLINE!

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POLITICAL RISK MANAGEMENT QUESTIONS

• What does one do once one has an investment?
• How can you minimize the probability of loss once
  you are there?
• How can you minimize the extent of loss if it
  occurs?

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SELECTION DEVELOPMENT OF TECHNIQUES

• Risk Transfer
• Risk Avoidance
• Risk Retention
• Risk Reduction

Residents Armed with Swords and Guns
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POLITICAL RISK REDUCTION TECHNIQUES

• INTEGRATIVE TECHNIQUES
• Reduces frequency of loss
• PROTECTIVE DEFENSIVE TECHNIQUES
• Reduces amount of loss

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EXAMPLES OF INTEGRATIVE TECHNIQUES

• Host Government Relations
• Channels of communication negotiate fair
  agreements, participate in government jvs, etc.
• Relations with Local Economic Groupings
• Form jvs with local partners maximize use of
  local suppliers, subcontractors sell public
  shares in host country
• Management Practices
• Employ high proportion of local nationals, insure
  cross-cultural effectiveness of expatriates,
  increase commitment expertise among local
  employees

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PROTECTIVE TECHNIQUES

• Logistics Policies
• Locate crucial part of process outside host
  country balance manufacturing of same components
  among several countries
• Product Policies
• Diversify investment among countries, maintain
  control over patents processes
• Marketing Policies
• Maintain control over the market /or
  transportation
• Financial Policies
• Maximize debt investment, raise capital from
  various sources, jvs with 3rd country firms,
  transfer pricing
• Management Policies
• Maintain control over essential management
  positions, limit training of host nationals to
  non-strategic areas of the firm

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POLITICAL RISK MANAGEMENT
Competitive Strengths Technological
Skills Production Skills Marketing
Skills Managerial Skills
Bargaining Between Host Government
Multinational Enterprises
Resultant Mixture of Integrative
Protective Techniques
Environmental Factors Relationship
Quality Complexity of Political Envir. Rate
Type of Political Change Restrictiveness of Pol.
Env.
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BARGAINING POWER

• FIRM
• relative size and competitive position
• access to capital
• presence or absence of capital intensive
  facilities which are difficult to move
• extent of the maturity of the market and
  technology
• extent of downstream control over the market
• alliances with local economic groupings
• the ability to generate exports.

• HOST GOVERNMENT
• extent of industry heterogeneity
• attractiveness of their markets and production
  factors
• their ability to regulate market access
• inducements to invest.

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POLITICAL RISK MANAGEMENT
Competitive Strengths Technological
Skills Production Skills Marketing
Skills Managerial Skills
Bargaining Between Host Government
Multinational Enterprises
Resultant Mixture of Integrative
Protective Techniques
Environmental Factors Relationship
Quality Complexity of Political Envir. Rate
Type of Political Change Restrictiveness of Pol.
Env.
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YOU BE THE INTERNATIONAL CONSULTANT GOING TO
GDANSK
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QUESTIONS

• What are some of the political risks that
  Andrzejs firm will face if he decides to go
  ahead with this venture? Identify describe two
  or three. Use figure 10-1 as a guide in helping
  you analyze the nature of the risks he faces.
• The assumption is that Andrzej decides upon the
  venture, and using the Gregory framework (outside
  reading), how would you recommend that he manage
  political risk in this venture?

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ASSIGNMENT FOR 13/3/2005

• GROUP CASE 4 Busang River of Gold
• Read case be prepared to discuss