Political risk: The probability that political forces will negatively affect a multinational’s profit or impede the attainment of other critical business objectives.
A very recent example:
“Negotiations for a major free-trade agreement between the European Union and the U.S. have been postponed after Washington expressed its inability to continue them because of the partial government shutdown. Officials from EU member-states and the U.S. were scheduled to meet in Brussels next week to discuss the Transatlantic Trade and Investment Partnership, or TTIP, which upon its successful conclusion would be the world’s largest free-trade pact. However, U.S. Trade Representative Michael Froman informed EU officials Friday that the federal government shutdown has made it impossible to send a negotiating team to Brussels as scheduled.”
Source: International Business Times, October 10, 2013, 3:12PM EDT. http://www.ibtimes.com/us-government-shutdown-hits-free-trade-pact-talks-eu-1415360
Unstable political forces (e.g., government, legal system, etc.)
Some examples:
Expropriation (with/without compensation) e.g., in Oct 2010, Venezuelan president Hugo Chavez’s forced takeover of
Agroislena, a Spanish vendor of agricultural products that has operated in Venezuela for more than 50 years.
Indigenization laws e.g., on March 9, 2008, Zimbabwe’s President Robert Mugabe signed the
Indigenization and Economic Empowerment Bill into Law. The bill gives indigenous Zimbabweans the right to take over and control over many foreign owned companies, where an indigenous Zimbabwean is defined as “any person who before the 18th of April 1980 was disadvantaged by unfair discrimination on the grounds of his or her race, and any descendent of such person”.
Restriction of operating freedom, e.g., hiring and production Breach of contracts Damage to property and/or personnel from terrorism, riots, etc. Loss of financial freedom Increased taxes and other financial penalties
Legal/governmental risks: are potentially harmful to foreign businesses but are the product of, or permissible within, the existing political, economic and legislative system.
Non-legal or extra-governmental risks: lie outside the system and are a violation of existing laws.
Recent evidence in aluminum industrySource: Jo Jakobsen (2010). Old problems remain, new ones crop up: Political risk in the 21st century. Business Horizon, 53, 481-190.
Guinea: in April 2007, when the former civilian government moved to withdraw the agreement it had made with Russian aluminum giant Rusal, allegedly as part of a planned review of mineral contracts in general.
Source: Jo Jakobsen (2010). Old problems remain, new ones crop up: Political risk in the 21st century. Business Horizon, 53, 481-190.
Azerbaijan: in March 2006, the government moved to terminate the 25-year contract it held with Dutch company Fondel for management of the Azeralumnium smelter, opting instead to take over management of the plant itself. To avoid a blatant case of breach of contract, the government contended that certain aspects of the contract were “against Azerbaijan’s interests”
Source: Jo Jakobsen (2010). Old problems remain, new ones crop up: Political risk in the 21st century. Business Horizon, 53, 481-190.
The Dominican Republic: in October 2008, U.S. bauxite miner Sierra Bauxita Dominicana had to leave the country because of Dominican government’s expropriation of the firm’s bauxite deposite at a port in the Caribbean country without compensation.
Recent evidence in aluminum industrySource: Jo Jakobsen (2010). Old problems remain, new ones crop up: Political risk in the 21st century. Business Horizon, 53, 481-190.
Guinea: In November 2008, aluminum majors Rusal, Alcoa, and Alcan were forced to stop production and evacuate employees because of several social unrest.
Source: Jo Jakobsen (2010). Old problems remain, new ones crop up: Political risk in the 21st century. Business Horizon, 53, 481-190.
Nigeria: in June 2007, six Russian workers employed by Rusal were kidnapped, and their Nigerian driver killed, by gunmen entering Rusal’s residential compound in Ikot Abasi, Nigeria. The abductees spent over 2 months in captivity, before being released physically unharmed in August.
Source: Jo Jakobsen (2010). Old problems remain, new ones crop up: Political risk in the 21st century. Business Horizon, 53, 481-190.
Brazil: in 2004, local environmentalists and protests, who are afraid of being resettled, succeeded in delaying a $400 million hydroelectric power project in Brazil – a project whose purpose was to secure access to cheap energy used in primary aluminum production. The project consortium, led by Alcoa, eventually had to agree to a substantial compensation package and to increase its spending on environmental measures.
All risk is relative. The political/legal, economic, socio-cultural
and technological environment of a foreign country has different implications depending on the type of international business that a firm is evaluating. For example: export restrictions are more
important if a firm is seeking to set up a plant to produce goods for exports than if the products are for the local market.
The Weighted Country Risk Assessment ModelSources: The approach and the items in the table draw from prior risk assessment models and studies, including D. W. Conklin, “Analyzing and Managing Country Risks,” Ivey Business Journal, vol. 66, no. 3 (January/February 2002), pp. 36–42; S. T. Cavusgil, “Measuring the Potential of Emerging Markets: An Indexing Approach,” Business Horizons, vol. 40, no. 1 (1997); A. I. J. Dyck, Country Analysis (Boston, MA: Harvard Business School Press, 1997); E. Dichtl and H. G. Köglmayr, “Country Risk Ratings,” Management International Review, vol. 26, no. 4 (1986), pp. 4–12
The Weighted Country Risk Assessment Model (Continued)Sources: The approach and the items in the table draw from prior risk assessment models and studies, including D. W. Conklin, “Analyzing and Managing Country Risks,” Ivey Business Journal, vol. 66, no. 3 (January/February 2002), pp. 36–42; S. T. Cavusgil, “Measuring the Potential of Emerging Markets: An Indexing Approach,” Business Horizons, vol. 40, no. 1 (1997); A. I. J. Dyck, Country Analysis (Boston, MA: Harvard Business School Press, 1997); E. Dichtl and H. G. Köglmayr, “Country Risk Ratings,” Management International Review, vol. 26, no. 4 (1986), pp. 4–12
Labor costsHuman capital – productivitySupport industries/services
Science and technology infrastructure
Domestic market-size of market: Per capita GDP (buying
power) + potential future growth
Policies toward FDI: openness; liberalization + incentives to
attract FDIEconomic stability
Political stability: risk
Host Government Wants:
EmploymentTechnology transfer + training (knowledge
transfer)Capital investmentLocal multipliers
Increased exports (forex earnings)
Two of my research papers in 2013
New theories and practices
Mining MNEs in Tanzania
Summarized from Jing Li, Aloysius Newenham-Kahindi, Daniel M. Shapiro, and Victor Zitian Chen (2013). “Bargaining model revisited: Theory and evidence from China’s natural resource investments in Africa”. Global Strategy Journal, forthcoming.
Case Study 1:Political risk management through business-
A case study on mining firms’ investment in Tanzania, a politically risky country
Time of the interviews: May-Jun 2010 Jul-Aug 2011
Sample organizations interviewed: 4 Western (2 Canadian, 1 Australian, and 1 British) 2 Tanzanian government officials 5 Chinese (3 state-owned and 2 privately owned) *
* we suspect that Chinese firms/government are different.
International private equity/venture capital (PE/VC) in China
Summarized from Sunny Li Sun, Victor Zitian Chen, Mike W. Peng, and Liang Hao (2013). The process of international institutional entrepreneurship: Transfer of equity ratchet in China. working paper.
Case Study 2: Political risk management through creative strategy
Political risks facing international PE/VC in China
Required political environment for PE/VC Strong rule of law that enforces contracts specifying the rules of
forming and transferring equity ownership before it’s actually listed in the capital market
Strong property-rights defining and protecting the possession and transfer of equity ownership
Strong credit system that tracks and sanctions credit history Strong capital market allows capital exit through initial public
offerings (IPOs)
Corrupt legal-political system and market failures in China Weak rule of law featured by weak legal enforcement De facto lack of property-rights regime Nonexistence of credit system (no sanctions on credit default) Non-fluent capital market
A consortium of Morgan Stanley (US), CDH Investment (Hong Kong), and ACTIS (UK) invested in Chinese Mengniu, a dairy products manufacturer and retailer, in October 2002 and October 2003 and successfully cashed in HK$ 2.61 billion via Mengniu’s IPO in Hong Kong.
A consortium of Morgan Stanley (US) and CDH Investment (Hong Kong) invested in Chinese Yongle, an electronics and appliances retailer, in January 2005 and cashed in HK$0.84 billion via Yongle’s IPO in Hong Kong.
Morgan Stanley (US) invested in Chinese Dongxiang, a sportswear manufacturer and retailer, in May 2005 and cashed in more than HK$2.5 billion in Dongxiang’s IPO in Hong Kong.
A consortium of Deutsche Securities Nominees (HK), Baytree Investment (Mauritius), and Indopark Holdings (US) invested in Evergrande, a Chinese real estate company, in 2007 and cashed in via Evergrande’s IPO in Hong Kong.
The underlying theory: when formal institutions such as political system do not work stably and effectively, business has to rely on the prevailing informal institutions such as cultures and norms to enforce cooperation and transactions.
