International companies face a risk that affects the performance and management of a business. This public risk service has come up with an international country risk guide that helps Multinational Corporation to asses the political stability of countries in which the corporations wish to operate. The public risk service bases its ratings in three broad categories: economic, political, and financial, among these categories are twenty-two variables whose combination provides a rate for each category, thus quantifying the rate. Multinational corporations then use the quantified ratings to decide which country to invest in.
Despite the benefits of global integration, managers have not been relieved of their political and legal concerns in foreign host countries. They must be more sensitive to risk factors and plan carefully where to allocate facilities and to base operations with full consideration of exposure to risk in its international business (Loke and Shong, 2008, pg 21). Multinational Corporations go through three phases in managing political risks. In phase one, the executives undertake to plan before venturing its operations of direct foreign investment, which enables investors to avoid investing in politically unstable countries, to negotiate specific agreements and arrangements with the host government and to ensure the company against risks.
Phase two entails the process of hedging the company against political risks during the life span of the venture, by maintaining a healthy relationship with the host government and incorporating local stakeholders into the business. Phase three is the achievement of nationalization strategy by negotiating on specific arrangements with the host country and taking advantage of the company’s bargaining power to come up with legal remedies that are favourable to the corporation (Baker and Powell, 2005, pg 314)
Country Risk Ratings
Countries whose risk ratings are high experience a decline or stagnation in economic performance mainly because multinational corporations avoid investing in risk-prone areas. Although Fiji was one of the countries in the pacific region with stable economies, it has experienced major economic decline because of its political instability brought about by the 1987 coup by the military. The 1987 coup by the Fijian military caused its economy to drastically lose a decade of steady growth and development in its tourism.
However, Fiji was a good place for international business where foreign investors have directly invested in; most of the large resorts, hotels and tourism facilities are as a result of foreign direct investment. Favourable conditions for investment by Australian investors can be directly linked to the attraction of tourists from Australia, which amounts to 40% of the total tourism (Stanley, 1993, pg 36). Foreign direct investment assists the hosting country to break the circle of poverty by complementing savings and offering effective management, marketing and technology to improve productivity (Moran and Institute for International Economics, 1998).
Fiji is the most independent nation in the pacific region; this is indicated by statistics done in 1989, which showed that, in that year, foreign aid was nearly 7% of the governments’ total expenditure. More so, the relatively small proportion compared to total government spending is from a well-diversified donor base, with Australia contributing almost half of the whole aid received (Stanley, 1993, pg35).
In international business, the knowledge of the executives who govern the companies is an important fact in managing risks that are crucial to the performance of the corporation. Executives of multinational corporations encounter huge management challenges such us the task of learning the rules of the game. Knowledge on the rules of the game can mainly be gained through frequent interactions of international business executives with host government officials. International business executives who have long outstanding experience in doing business in a particular country have gained so much knowledge. They have valuable information that can be of great importance to executives of other corporation who are new or want to invest in the host country (Schulz, 1979, pg 129).
Fijian government was said to have violated democracy rights of its citizens, which was characterized by military coups to prevent the government from more serious and adverse coups from the public. This aspect had a negative international perception that the government of Fiji is unstable and unable to ensure safe operations. According to the international country risk guide, Fiji is termed as a country with high political risk ratings basing its risk variable to violation of democracy rights (Braga and Dömeland, 2009).
The existence of political instability in Fiji since 1987 has adversely affected the economic growth of the country. To mend the situation, the government pursued policies that were considered to enable economic growth through the private sector. The policies failed as a result of the continued perception of political volatility and the inability of political parties to agree on situations such as land leases (IPS Publications, 2006, 144). The government also adopted a fiscal strategy of reducing government debt, which is to reduce the fiscal deficit; however, this also failed to address investment issues (Kumar 2003).
The economic downfall of Fiji was characterized by collapse and decline of specific industries such as the clothing industry, which was facing stiff competition from China-based companies. Garment factories in Fiji were owned by foreigners who lost confidence in the investment due to the political instability of the Fijian government. The tourism sector was also adversely affected by the huge decline in tourist visits, due to the perception that the government is unable to promote security in the country. Viability of the whole industry was threatened by political instability, the anticipated number of visitors drastically declined, and resorts were nearly empty (Lea, 1988, pg 32).
The mining sector believed to have unexploited potential, also faced a major blow when the Sydney based company closed Fijis’ largest gold mine owing to political instability reasons. Although there were claims that the closure was as a result of economic reasons, such as undercapitalization and depletion of mining deposits. Another major blow to Fiji’s economy is the loss of skilled manpower where thousands of educated and highly skilled citizens of Indian origin left Fiji. This mass exodus caused the economy to decline due to deprivation of human capital to an economy that had once been booming with high growth rates. The Fijian economy had become exceptional in the south pacific (Firth and Fraenkel, 2009, pg 121; Eur, 2002, pg 983).
The downfall of the major companies in Fiji’s economy led to thousands of workers being laid off to reduce costs to match the lower returns of the near-collapse companies. The risk-return trade in the economy was becoming a major variable of concern to foreign investors. Risk rating in the Fijian economy was high compared to expected returns to investment.
Fiji was facing huge claims of political instability in the international scene, therefore with regards to international risk guide; the variable of risk-return trade-off is an indication to the reason why very few foreign direct investments were made. Foreign investors viewed the level of political instability like that which poses a relatively higher risk compared to expected returns to investment. However, multinational firms may measure political and economic risks using foreign investment matrix where countries are grouped into the risk that a sovereign host government may unexpectedly change the rules under which businesses operate (McGowan, et al, 2009).
The military coup in Fiji exposed the long-suppressed feelings of the Fijians who have for a long time been eager to win back there control over their country and to establish a paramount existence in Fiji. The military coup helped in bringing out openly the long-standing dissatisfaction and feelings of inadequacy of the Fijian people mainly because of the presence and increasing dominance of people of Indian origin in Fiji (Ravuvu, 1988, pg 193).
Political Risk Regarding the Nature of Business
Insurers gain from assisting multinational companies to hedge against risks they face at a premium. Premium rates depend on the nature of business and the level of operation. Businesses with a higher level of operations need to pay higher premiums to enable insurance companies to cover the huge risks they are involved with. Nature if the business is also a huge factor to consider in insurance payment, some businesses are considered riskier than others are.
For example, banks pay huge premiums to insurance companies due to the risky nature of business. International businesses buy political risk insurance even if there are no specific threats in the host countries. In the project, finance insurance is attractive to both debt and equity investors as it allows them to better price and places political risks among themselves (Moran et al, 2005, pg 221).
Insurance companies undertake to invest in risk management and set capital levels to reflect individual insurer’s business irrespective of whether they are related to underwriting, investment, or markets. They need to asses risks of specific clients, risk assessment in a regulatory system is done so that high-risk businesses can be heavily regulated while those engaging in low-risk business can have their restrictions and regulation relaxed (Vickers, 2008, pg 218)
Multinational Corporations assess specific factors to ascertain the possibility of failure or success. These include economic infrastructure, market size, undertaking degree of host government political and human rights reforms and availability of factors of production such as raw materials, land, and capital and investment incentives (Billet, 1991, pg 3). The knowledge of the executives who govern international companies is an important factor in managing risks that are crucial to the performance of the corporation.
Executives of multinational corporations encounter huge management challenges such us the task of learning the rules of the game. Here, knowledge on the rules of the game can mainly be gained through frequent interactions of international business executives with host government officials. International business executives who have long outstanding experience in doing business in a particular country have gained so much knowledge, and they have valuable information that can be of great importance to executives of other corporation who are new or want to invest in the host country (Schulz, 1979, pg 129)
Political risk factor also affected specific industries such as the clothing industry, although not to a high degree as the tourism industry. The clothing industry was facing stiff competition from China-based companies, which were not facing political risks as those in Fiji. Garment factories in Fiji were owned by foreigners who lost the confidence of the investment due to the political instability of the Fijian government.
Compared to the clothing industry, the tourism sector was more adversely affected by the huge decline in tourists visits due to the perception that the government was unable to promote security in the country. Viability of the whole industry was threatened by political instability, the anticipated number of visitors drastically declined and resorts were nearly empty (Lea, 1988, pg 32). The tourism industry nearly wholly depends on foreign tourists whose visits can grossly be affected by security threats brought about by the governments’ political instability as in the case of Fiji.
Most states in the pacific have factors that are common in almost all the states: social, economic, and political structures raise concerns about there ability to effectively deal with conflicts that arise in society. Moreover, most of the pacific states have become Australia’s aid front as they receive substantial funds from Australian official development assistance (ODA) (Rumley, Forbes and Griffin, 2006, pg 1).
Businesses that are dependent on skilled manpower have a high risk of political stability. Fijian corporations faced a major blow when skilled manpower mainly of Indian origin left Fiji; this mass exodus caused the economy to decline due to deprivation of human capital to an economy that had once been booming with high growth rates. The Fijian economy had become exceptional in the south pacific (Firth, Fraenkel, 2009, pg 121). Indeed, skilled manpower is sensitive to political stability due to the critical analysis of political situations by the elite members.
Balance of power between multinationals always depends on several factors. More “valuable and unique specific assets firm posses such as technology and managerial skills enhance the firms bargaining power to challenge host government policies; bargaining power of the host government depends on the resources it possesses required by multinational companies such as domestic market and other natural resources, degree of competition between different firms for those resources, a host countries ability to develop resources capable of substituting resources controlled by foreign companies” (jones, 2005, pg 277).
The host government stability and economic potential is a contributing factor to its bargaining power with multinational corporations. Fiji is the most independent nation in the pacific region; this is indicated by statistics done in 1989, which showed that in that year, foreign aid was nearly 7% of the governments’ total expenditure (Stanley, 1993, p. 35). More so, the relatively small proportion compared to total government spending is from a well-diversified donor base, with Australia contributing almost half of the whole aid received (Stanley, 1993, p. 35). Its economic independence in the region enables it to bargain for conditions that are more favourable with foreign direct investors.
Bargaining power differs according to positions that states are in: countries that are mainly targeted by multinational corporations are more likely to bargain directly with multinational corporations through agreements investment. These countries can impose strict and unfavourable policies on a corporation who willingly accept the terms because of the need for investment in a desirable location.
However, their desirability does not enable them to benefit from the agreements thus have no sufficient value to justify foregoing the possibility to regulate investments. Likewise, countries that are not desired by foreign investors would not benefit from the agreements. However, countries that are neither desirable nor non-desirable to investors would gain from the creation of an international regime governing foreign direct investment (Crystal, 2009, pg 227)
Multinational companies need to adopt strategies such as: holding 100% share by owning the subsidiary fully; selling its technology to a domestic firm to be able to access a license of operation, arranging for a joint venture to enable it to share the profits and costs with a domestic firm. A foreign firm can charge a fixed fee with the assumption that there are no restrictions as regards to structures of payment therefore if the multinational company seeks to engage domestic firms in participation to enable bargaining for distribution of profits. The issue of host country welfare can be incorporated under non-committed and committed policies of the government. When the bargaining power of the foreign company is low, the host country will benefit under the non-committee policy (Mukherjee, 2000, pg 72).
The mining sector, which is believed to have the greatest bargaining power in the Fijian economy, faced a major blow when the Sydney-based company closed Fijis’ largest gold mine owing to political instability reasons. Although there were claims that the closure was as a result of economic reasons such as undercapitalization and depletion of mining deposits, the Sydney based company had unique and expensive technology could be rarely managed by both local and foreign companies. Due to their near-monopoly in the sector, they gained strong bargaining power with the Fijian government, though their closure is owed to the political volatility in Fiji
Bargaining power of the Fijian military government to be more flexible compared to the bargaining power of Vatukoula Gold Mine corporations. This is the case mainly because the mining corporation is one of its kind an is very unique compared to other multinational countries in Fiji. The technology and amount of capital used to undertake the task of operating a gold mine are huge and complicated. The military of Fiji has no option but to compromise with the mining company to enable the unexploited deposits to be utilized for the benefit of the economy (Mausio, 2003). Vatukoula corporation has a strong bargaining power to the military of Fiji, therefore, could bargain for more favourable policies.
Different countries experience different political risk ratings, thus it is important for corporations that intend to set their operations in foreign countries to first of all do a thorough analysis of political risks that they are likely to encounter. In the case of Fiji, the country has a great potential for business prosperity, more so due to favourable market and investment conditions, however, the instability in political environment coupled by recent coups in the country discourages multinational investors. In a bid to avoid exploitation by multinational corporations, host countries seek to acquire as much bargaining power as possible. In this case, Fiji has mainly ensured it retains bargaining power by enforcing policies that MNCs have to abide with before they are granted a license to operate in Fiji.
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