Risks associated with international projects- financial, political, others
1. Financial risk
In general, international projects are prone to greater financial risk as a bulk of finance is in the form of debt. The major factors affecting financial risk are degree of indebtedness, the terms and conditions of repayment of debt and currency used.
Some projects will have expenses and revenues that involve several currencies. As a result the exchange rate risk is very high.
Projects maybe financed with floating rates. In view of the volatility observed on the rates like LIBOR, the interest rate risk is also significant. Therefore it is necessary to plan the coverage of all these risks.
2. Foreign Exchange Risk
As corporations expand their international activities, they begin to acquire foreign assets and foreign liabilities. As exchange rates change, the values of these foreign assets and liabilities change accordingly. For a corporation, exchange rate risk is the sensitivity of the value of the corporation when the exchange rates change. Obviously, the change in the corporation value is related to the net change in the values of the foreign assets and foreign liabilities. (E.g. foreign direct investment, foreign exchange loss, sales and income from foreign sources.)
3. Economic Risk
Economic risk is risk created by changes in the economy. Typically, it is related to technological changes, the actions of competitors, shifts in consumer preferences, etc. Ideally, a pure domestic firm is affected only by domestic economic conditions – the domestic economic risk. However, in today’s integrated world economy, the concept of a pure domestic firm has less practical relevance. Many firms that appear strictly pure domestic confront foreign economic risk indirectly. (E.g.: local restaurant/dept store, real estate agent)
4. Political Risk
Political risk is risk created by political changes or instability in a country. These factors include, but are not limited to, nationalization, confiscation, price controls, foreign exchange and capital controls, administrative hurdles, uncertain property rights, discriminative or arbitrary regulations on business practices (hiring, contract negotiation), civil wars, riots, terrorism, etc. Each country in the world presents a different political profile and represents a unique source of political risk that firms must assess and manage when they make foreign investments.
In order to minimize this risk, local investors or the local government may be associated with the project. Insurance against political risk is another useful technique recommended for the purpose.
What constitutes political risk and how to measure it?
The political risk management typically involves:
– Identifying political risk and its likely consequences
– Developing policies in advance to cope with the possibility of political risk
– Strengthening a firm’s bargaining position
– Devising measures to maximize compensation in the event of expropriation
Country Risk: It refers to elements of risk inherent in doing business in the economic, social, and political environment of another country.
5. Counter party Risk – The risk that a counter party will default on a financial obligation.
6. Liquidity Risk -The risk that a financial position cannot be sold quickly at prevailing prices.
7. Delivery Risk – The risk that a buyer will not deliver payment of funds after a seller has delivered securities or foreign exchange that were purchased.
8. Rollover Risk – The risk of being closed out from a financial market and unable to renew (or roll over) a short-term contract.
9. Other risks – Other risks relate to the risk of cost overruns and bad management.
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