International Business Project; part 2

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Risk and Issues in Operating Overseas

There are a multitude of risks and issues for corporations and industries operating in the international environment. No doubt, issues such as inferior quality of products manufactured by companies that engage in outsourced production, or the use of chemicals in the manufacturing process of edible products imported back to the U.S., which our regulatory system considers

toxic and which are regulated against within our own borders. These types of issues can result in a tremendous impact to a corporation's bottom line, from

the financial impact to sales to brand damage that diminishes their reputation in the marketplace.

Intro

There are a multitude of risks and issues for corporations and industries operating in the international environment. No doubt, issues such as inferior quality of products manufactured by companies that engage in outsourced production, or the use of chemicals in the manufacturing process of edible products imported back to the U.S., which our regulatory system considers toxic and which are regulated against within our own borders. These types of issues can result in a tremendous impact to a corporation's bottom line, from the financial impact to sales to brand damage that diminishes their reputation in the marketplace.

What are the various risks and issues facing companies and industries that operate in the global environment?

We can simplify the process for mitigating international risk in the following manner:

International Risk Management Process Steps

• Identify the individual risks • Assess risk magnitudes and exposure levels • Incorporate the risk assessment in the decision making process Risk areas for all corporations can be categorized as follows:

Strategic - Strategic risk is broad and is a function of forecasting future goals. Strategic risk addresses what a firm will do when new competitors enter its market, or strategic risk can be associated with operations. Let's say that your firm is deciding where to build its disaster recovery facility. If the facility is too close to your existing operations and a disaster occurs, this could create opportunities for your competitors to gain valuable market share. Too far away , and you will increase expenses for communications and travel. Balancing risk with strategic decisions is valuable in maintaining competitive advantage.

Operational - Operational risk is also broad but short-term in nature. The OCC (Office of the Comptroller of the Currency) defines Operational Risk as "the risk of loss resulting from failed processes, people and systems, or from external events." It is the risk that transactions or processes will fail due to weaknesses in operational management, such as poorly trained staff, inferior processes and policies, or even fraud.

Additional Resource

Business Risk Types

Financial - Financial Risk is the risk that a firm will not have sufficient liquidity to meet its ongoing financial obligations. These include payroll expenses, short-term and long-term notes and loans, taxes, government fees, dividend payments and other liabilities. Failure to have sufficient liquidity could also restrict a firm's ability to access capital in the marketplace. And all of these risks could negatively impact a firm's credit rating, stock prices and ability to conduct business. Financial Risk in the global marketplace carries greater risks due to the differences in currency valuations between nations, and in the daily currency fluctuations that impact the value of the profits when they are eventually transferred back into the home country.

Compliance - Compliance Risk is the risk that a company, willfully or unintentionally, will fail to comply with laws and regulations. In the mildest of cases, this can be a warning or mild financial penalty, however, in cases of gross misconduct, as in fraud cases, or negligent disregard for laws, a company can find its door shut for good. (Read about Enron, a global firm that willfully doctored their accounting books in order to hide information from their shareholders and the public.)

What are barriers to entry in the international market and what is their influence on a corporation's growth strategy?

Barriers to entry are obstacles that exist either naturally or through regulatory or other means that make it difficult for a start-up to establish business, especially where existing businesses already have a foothold, or for existing businesses to enter new markets. These obstacles can exist in the form of regulatory restrictions on new businesses, tax benefits to existing firms, special tariffs, etc. or they can occur naturally, as in brand loyalty or customer bases, patents or even transportation issues such as a lack of rail or shipping systems.

The international marketplace has significant barriers to entry that differ from nation to nation. Firms that have a desire to enter into one or more foreign nations must address all barriers to entry and determine if they have the resources required to achieve their objective. For example, U.S. businesses that wish to invest capital in China must enter into a partnership with a Chinese firm. According to current Chinese regulations, no foreign company entering into China can own more than 49% of the partnership. The Chinese government through its state-run corporations would be a 51% owner. This may be a significant barrier to entry for some U.S. firms, who might not be profitable under such an agreement.

The Difficulty of Managing Risk Exposure

In order to manage their exposure to various risks - both hidden and obvious - corporations engage in global business risk studies designed to identify the various risks within the macro-environment as well as their own internal environments that have the potential to impact their success. Data and information gathered from these studies is used to develop strategies and tactics to offset or mitigate the risk. Although no corporation can entirely insulate itself from all risks, often there are too many unidentifiable risks, or their exposure is the result of a combination of multiple risks and issues that integrate to create even greater risk than anticipated. It is essential that corporations operating in overseas environments invest significant resources to mitigate as much risk as possible.

The table indicates some of the primary areas of risk assessment for companies operating in foreign markets. While it is not a comprehensive list, it provides examples of how the complexity and variety of risks that global corporations must work to mitigate.

Area of Risk Examples of Risk

Economic Currency fluctuations that can erode profits when exchanged back into the home currency. Fluctuations in commodity pricing, such as oil and fuel costs.

Technology Lack of sufficient or robust technology infrastructure in host nation. Insufficient data security systems.

Socio-Cultural Gender differences, child labor issues, human rights differences, or other cultural differences that can create labor issues, or offend host nations. Customs that vary from nation to nation. Examples include methods of gaining trust, retaining honor, accommodating the differences in aspects of time, comfort levels with personal distance.

Environmental Use of target nation resources and impact on their environment.

Political Political turbulence or changes in leadership can create new and unforeseen risk.

Geographical Difficult terrains, lack of shipping or transportation systems, clean water for manufacturing purposes, commuting issues for labor forces.

Legal/Regulatory Variances in international and local laws and regulations regarding labor, finance, technology, taxation, tariffs, confidentiality, contract construction, business agreements, etc.

Macro environmental factors influence corporations' decisions in the international market.

As you have seen, corporations pay close attention to what is occurring in the industry and national environments in which they conduct operations. A certain amount of adaptability, flexibility, strategy and analytical expertise is vital to the continual management of international risk reduction. All of these factors are in addition to the need for corporations to remain nimble and competitive within their own market segment.

For corporations to effectively manage both their competitive strategies while reducing or mitigating their exposure to risk, they must have management staff with deep knowledge and experience capable of discerning critical information quickly and accurately. Failure to accurately assess risk or identify successful competitive strategies and tactics can cause a corporation to lose profits, market share or both.

Recently, we have all witnessed the failure of several of the major global financial and insurance firms, as they were unable to accurately assess the risk of their products in the marketplace. The collapse of many global firms and currency systems created by their failure, has now resulted in financial crises in multiple nations around the globe. Going forward, all financial institutions will conduct increasingly conservative risk assessments and governments are creating regulatory measures designed to prevent these firms from engaging in high-risk activities without appropriate risk mitigation policies. For the near-term, and perhaps the long haul, these firms will be highly influenced by the macro-environmental fallout in the nations and businesses impacted by the crisis.