Chapter Ten
Risk Management and Asset Protection
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Chapter Objectives
 To appreciate the difference between risk and
uncertainty
 To grasp the idea of managing risk as an opportunity
versus risk as a hazard
 To learn about foreign exchange risk and the tools that
traders and companies use to manage it
 To understand the idea of political risk, its principal
types, and active versus passive management
approaches
 To profile competing views of the scope of intellectual
property rights
 To realize how companies establish and protect
intellectual property rights
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Introduction
FDI, particularly in the economies of
emerging markets, offers many
opportunities
Sources of risk that especially menace
international operations:
• Fluctuations in foreign exchange values
• Political disruption and turmoil
• Intellectual property violations
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The Idea of Risk Management
 The best-laid plans of managers and companies run into
challenges when things do not go as planned
 Challenges can arise from:
• Internal conditions
Abrupt shortage of money to finance expansions
• Unforeseen changes in the marketplace
Uncertainty
o Comes from changes in economic, social, and
political trends
• Risk
The chance that a specific company will gain or
lose money on a particular investment activity
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The Idea of Risk Management
The view of risk follows the notion that a basic
relationship exists between risk and return
Prudently managed risky markets promise terrific
growth opportunities and great profit potential for
the confident MNE
Typically, the idea of risk conjures images of
negative events such as devastating financial loss
o Managing risk as a hazard pushes managers to
come up with methods to reduce the odds of a
negative event
Globalization steadily pushes firms to see risk
more as the price of better opportunities
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Foreign Exchange Risk
To many, the most striking operating differences
between domestic and international business is the
financial basis of exchange
Companies try to forecast exchange rate changes in
the effort to reduce their possible costs
Companies try to limit the downside of currency
fluctuation by:
• Modeling currency trends
• Forecasting exchange rate movements
Several factors violate the law of supply and
demand:
• National governments
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Foreign Exchange Risk
 The irony of government intervention in the foreign
exchange market is that it is theoretically impossible for
any form of intervention to permanently alter the value
of a national currency
 Government intervention tends to happen in hazardous
styles that create extensive foreign exchange risk for
international companies
 Exchange rate changes can impact:
• Marketing decisions
• Production decisions
• Financial decisions
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Foreign Exchange Risk
Currency values change frequently
A change in the exchange rate can result in
three different exposures for a company
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Translation exposure: created by the present
measurement of past activity
Transaction exposure: exchange rate fluctuations
materially change the expected income from a
transaction that is denominated in foreign currency
Economic exposure: materially influence a firm’s
future earning power
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Foreign Exchange Risk
 Typically, managers use a mix of the major tools of the
foreign exchange market:
• Spot exchange rate: the rate at which a foreign exchange
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market would willingly convert one currency into another
currency
Forward exchange rate: governs future deals
Currency swap: refers to the simultaneous purchase and sale of
a given amount of foreign exchange for different value dates
 Management of economic exposure requires that a
company carefully review its idea of risk and assemble
the optimum mix of countries within which to build and
operate its plants
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Political Risk
 Political risk:
the chance that political decisions, events, or
conditions in a particular nation will affect the business
environment in ways that lead investors to lose some or all of the
value of their investment or be forced to accept a lower-thanprojected rate of return
 There are several types of political risk:
• Systemic political risk: generally, the political process within a
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•
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particular nation does not routinely subject foreign operations to
discriminatory treatment
Procedural political risk: can interfere with the process of
transactions
Distributive political risk: this form may be subtle
Catastrophic political risk: includes random political
developments that adversely affect the operations of companies and
MNEs
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Political Risk
 The actions of host governments and local political
institutions and actors directly shape the success or
failure of overseas operations
 Methods of political risk management include:
• Active management: depends on identifying the
indicators that best measure political risk
Political risk management services
• Passive management: treat political risk as an
unpredictable hazard of international business and
seek ways to hedge their exposure
OPIC
Multilateral development banks (MDBs)
Private insurance
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Intellectual Property Rights
 Intellectual property: the creative ideas, innovative expertise, and
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intangible insight that gives an individual, company, or country a
competitive advantage
Intellectual property rights (IPRs): refers to rights of the
registered owner of the particular invention, literary or artistic work,
symbol, name, image, or design
World Intellectual Property Organization (WIPO): a United
Nations agency established in 1907, administers agreements
A country’s view of IPRs is influenced by:
• Level of economic development
• National cultural attitudes
• Social and economic institutions
Many organizations are trying to set minimum standards for the
protection and enforcement of IPRs
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Intellectual Property Rights
The basis and scope of disagreement among
nations on IPRs create fundamental gaps that
will not be easily resolved
Companies are trying to devise ways to
manage this risk:
• Employee relations
• Dealing with outside parties
• A tough reputation
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