Businesses operating in developing countries Essay Example

Holt refers to this as the "rule of man". It often leads to weak commercial regulations, unpredictable economic policies, and trade agreements that are determined by the preferences and whims of those in power. As a result, a company may enter a country, understand and comply with all the current regulations, but the government may change its policy and decide that one of these regulations (such as import/export taxes) no longer aligns with its ideologies. This change in regulation can directly impact foreign businesses and pose a risk to their production flow. Despite China's attraction of multinational ventures due to its WTO membership and resulting economic reforms, the Economist still predicts a significant increase in the risk of political instability in 2003.

Zemin is set to relinquish the state presidency in March 2003. However, the question remains as to whether this transition will occur smoothly, without negatively impacting foreign businesses. Multinational ventures in emerging economies also face the risk of government intervention. While many developing nations offer enticing incentives to attract foreign investment, governments may change their stance once commercial activity within the country has become established. Governments begin to seek control over businesses without making direct investments. As governments expand their own commercial activities, they also increase their regulatory influence over foreign enterprises. Excessive intervention poses a direct threat not only to a company's ownership, assets, and property rights, but also to the safety of its employees.

The government seizing a company's assets and expelling foreign managers without any negotiation or compensation is known as confiscation. Expropriation, on the other hand, involves the government compensating the affected business but does not involve hostile action. These

actions may be taken when there is a change in government ideology, often occurring in unstable economies. Other forms of extreme intervention, such as mandated equity or foreign taxation, pose ownership and operating risks that can disrupt the firm's operations. Even more subtle forms of intervention, such as legal and regulatory measures, can exert significant pressure on management decisions.

The host government has the ability to alter labor regulations and enact new laws requiring mandatory labor benefits. This would result in higher operating costs for businesses. Additionally, governments can implement content controls on the products produced by multinational corporations (MNCs). For instance, they might require a certain percentage of components in the finished product to come from the host country, leading to higher taxes when importing into other countries. Price controls can also pose a threat to business profitability. Foreign companies are susceptible to price mandates from the host government, including additional fees for entry visas and production costs. Other forms of intervention, such as quotas, taxes, and licensing charges, can all pose risks to the profitability of foreign businesses as well.

Governments can present challenges for businesses because of their legal and regulatory frameworks, as well as variations in how regulations are enforced across nations. These risks can emerge even without explicit intervention from the government. For instance, businesses may encounter difficulties when it comes to understanding and navigating diverse methods of enforcing ownership rights and intellectual property rights in specific countries.

Although not all countries have ratified them, there are global treaties in place to safeguard intellectual property rights. Putsay affirms that insufficient protection of these rights can result in significant expenses for international businesses. China

is renowned for its extensive production of pirated CD and cassette copies. Likewise, music stores in Belgrade, Serbia solely offer replicated music products. Consequently, companies attempting to sell their music products in these nations might encounter considerable difficulties if cheaper duplicates of the same item are readily available on the market. Currently, only the actions taken by the host-government have been assessed concerning their potential risks.

However, risks that may affect businesses operating in developing countries can also arise out of the actions of the home government itself. A business wanting to move and operate in emerging economies may not want its labour force to follow which implies job losses at home and other unattractive economic consequences. Consequently, the home government may want to discourage businesses from relocating internationally. The home government may then want to impose on its own businesses import/export licenses, taxation, currency restrictions, treaty constraints, and other specific domestic laws applicable overseas. These are other economic risks international managers will have to face when relocating.

Relations with the home-government can also therefore turn out problematic. However, what may complicate home government relations further is its relation with the host-government and the implications this relation has for businesses. For instance, it would be extremely risky for an American business to operate in Iraq these days. They would not only face potential physical attacks on their assets and/or employees but also encounter boycotts and similar forms of opposition. Recently, Mac Donalds closed 75 branches worldwide due to the growing international anti-American sentiment stemming from hostilities towards American foreign policies. Therefore, the political and diplomatic relations between two countries often determine the relative risk of conducting business

in one country over another.

Businesses operating in emerging economies and developing countries encounter various governmental risks, such as instability, intervention, differences in regulation enforcement, and tensions between governments. These risks can significantly impact their overall profitability. However, international managers relocating to emerging economies may also face non-governmental risks that are unrelated to direct governmental actions. One such risk is the volatility of exchange rates and currency values, which are beyond the control of both governments and businesses. In her book "International Business," Margaret Woods discusses the impact of exchange rates on international business. Managing the profitability of different markets and mitigating the effects of exchange rate fluctuations can often harm a company's financial performance.

Operating in emerging economies presents companies with extra difficulties related to exchange rates, given the typical economic and political instability associated with developing countries. This uncertainty further amplifies the volatility of exchange rates, posing challenges for businesses in handling financial aspects such as cash-flow forecasts, transactions, and translations. Furthermore, businesses also confront the effects of inflation since high inflation rates result in higher operating costs.

Argentina, as an emerging economy, serves as a prime example of a hyper-inflationary economy. According to the "Economist", this situation may lead to "foreign investors selling off assets". Emerging economies face social risks such as kidnappings, terrorist threats, and various forms of violence like local antagonism. These risks can have subtle yet significant impacts on companies, including disruptions in production, increased security expenses, higher management costs, and subsequently reduced productivity and profitability.

Besides these risks, businesses also encounter challenges caused by other international businesses operating in the same region rather than being accountable to the host country itself. This

can result in some form of damage. For instance, consider how the local population in Bhopal (India) would respond if an American company chose to relocate there. The Union Carbide explosion in Bhopal in 1984 led to around 2500 casualties and left 100000 individuals without homes or adequate financial compensation. Consequently, new foreign factories might be met with hostility from locals. This understandably hostile environment can significantly impact businesses.

In summary, governmental actions or influence play a crucial role in determining the nature and extent of risks associated with internationalization in emerging economies.

In pursuit of different objectives, businesses face various risks. If a company is seeking new resources, it may encounter issues regarding intellectual property rights at a later stage. Similarly, a business looking to expand into new markets might encounter regulations that hinder the sale of their product in the host-country. For instance, the Chinese government banned direct selling after successful operations by an American-based direct sales company called "Amway" due to fraudulent activities associated with this sales approach. Consequently, businesses aiming to sell products in China using direct selling methods will be prohibited from doing so, significantly constraining their operations. Lastly, companies relocating to minimize overall costs may face currency restrictions or similar measures imposed by their home-government due to job losses resulting from the relocation.

To summarize the first section of this essay, two major types of risks have been identified: governmental risks and non-governmental risks. Governmental risks encompass factors like government instability, government intervention, variations in regulation enforcement, restrictions from home governments, and tensions between home and host governments. Non-governmental risks include exchange rate volatility, high inflationary economies, terrorism, and the impact of

other multinational corporations on the host region. However, simply highlighting the nature of political, economic, and social risks is insufficient for international managers seeking to operate in emerging economies.

It is important to expose the methods used to assess risks in order to make confident decisions regarding locations and entry modes. While managers face similar issues in most countries, the specific risk factors vary depending on the company, industry, and host country. As a result, observers have developed various risk models, but each has limitations and none are considered completely reliable. Holt identified three main methods for assessing entry risks: intuitive assessment, advisory assessment, and analytical assessment. Regardless of whether a company relies on individual subjective judgment or utilizes advanced risk assessment techniques, managers ultimately evaluate the risk of conducting business abroad based on their personal perceptions.

The initial stage of a comprehensive and intuitive approach involves company executives engaging in a structured dialogue with foreign managers. During this dialogue, the focus is on discussing the most significant risks that the company will face. This initial analysis will lead to fundamental conclusions, such as classifying countries into categories like "very high risk" or "high opportunity".
The next stage involves assessing risks based on various entry modes (licensing, franchising, turnkey projects, joint ventures, etc.) and markets available. In this stage, the categories become more complex. Consequently, many companies adopt risk-preference strategies. These strategies aim to align desired opportunities with acceptable levels of risk exposure. Countries are then ranked using letters. For instance, Iraq and Zimbabwe might be assigned the letter Z, while Brazil or China may be given the letters E or F.

This ranking method can be enhanced

by conducting internal surveys among the company's foreign managers and international executives or engaging various types of consultants. However, there are limitations to this approach. The assessment may partly rely on the perspective of foreign managers, and their recommendations may not be completely trustworthy. While they can offer valuable insights based on their personal experiences regarding general risk factors, they may have limited knowledge about the overall SWOT (Strengths, Weaknesses, Opportunities, Threats) analysis of the company since they are only familiar with their own activities. Additionally, local managers might possess expertise in operational risks but often lack a comprehensive understanding of the political and economic situations in the host country. Hence, very few international companies solely depend on intuitive methods; instead, most also consider established risk-rating services, consulting reports, or government advisory services.

In the US, the government generally does not intervene with business activities like Japan does. However, the US State Department provides businesses with extensive advisory services, including country-specific commercial guidelines. Although government services offer a lot of information, it is not tailored to specific industries and is not conclusive. Therefore, companies would need to interpret the figures themselves and draw appropriate conclusions.

Large businesses can also turn to fee-based advisory services and contract with consulting organizations like Euromoney. Euromoney publishes an index of country risk ratings based on six criteria: economic performance, political risk, debt indicators, default record, credit rating, and access to international finance. This index provides a numerical rank-ordered list of around 170 countries and territories. The lowest possible risk earns a country 100 points, while the highest risk results in a score of zero.

Switzerland would earn 95 points, while Iraq

would earn less than 20 points. The "Economist" also publishes country ratings using its "International Country Risk Guide". Consultancy agencies like PriceWaterhouseCoopers, Dataquest, and Chase Econometrics provide similar assessments. However, all of these methods have limitations. Although most of these services assess political risk in economic and financial terms, they do not reach a consensus on common patterns of analysis. Consequently, the conclusions of different agencies will vary significantly, making overall judgment problematic.

Similarly, some agencies will rely on a small number of variables, while others will find up to 200 variables to base their ratings on. As mentioned above, businesses may seek advice from fee-based consulting agencies; however, these agencies also refer to and utilize objective analytical assessment methods. There are three widely used risk-assessment techniques: "The Economist model", "The BERI model" and "The PRS model". "The Economist model" assigns a risk ranking to a country using a 100-point scale, where a higher score indicates higher risk (in contrast to Euromoney).

The analysis assesses risks in three main categories: Economic variable (such as falling GDP per person and high inflation of raw materials as a percentage of export); Political variables (including bad neighbours, authoritarianism, and illegitimacy); and social variables (such as corruption and Islamic fundamentalism). Although this approach appears comprehensive as it considers social factors in addition to economic and political factors, it is still not reliable. It suggests that authoritarianism, which implies a lack of democracy, can pose a threat to businesses. However, there are numerous countries that are non-democratic yet have experienced minimal civil difficulties, such as monarchies in the Middle East or Southeast Asia.

The use of "Islamic fundamentalism" as a social

variable is inconsistent. This is because fundamentalists can be found in every religion and country. For instance, a business in America may have concerns about its minority of fundamentalist Mormons or Catholics. It is important to approach this model with caution as it includes prejudiced variables. An alternative model used by consulting agencies is the "Business Environmental Risk Intelligence (BERI) Model". This assessment method calculates the "Political Risk Index" based on ratings given by global experts on ten variables. These variables are divided into three categories: Internal Causes of Political Risk, External Causes of Political Risk, and Symptoms of Political Risks.

This study examines data for 100 countries and rates them on a scale of 0 (maximum risk) to 7 (no risk). While considered a better model than the Economist, it still has critics who argue that it fails to address social and cultural issues and neglects important economic and financial data necessary for investment decisions. Another method used by agencies to advise international managers is the Political Risk Services (PRS) Index, which differs from the Economist and BERI indexes. The PRS Index assesses the likelihood of loss due to political risk, instead of producing absolute scaled indexes like the Economist or BERI models.

It contains 12 variables such as "political turmoil probability", "Equity restrictions", "Exchange controls", "Tariff imposition", etc. These variables are primarily political and financial. Additionally, these indexes offer political forecasts for the next 18 months and five years for up to 100 countries. Subscribed organizations will also receive a monthly report specifically tailored to their industry. Therefore, companies using this model may not require professional consultants to interpret the figures for them, unlike the

previous two models. However, this model has limitations as it does not consider social and cultural variables.

In addition, long-term forecasts that extend up to five years in the future are inevitably based on significant speculations and should therefore be approached with caution. All three assessment methods (intuitive, advisory, and analytical) have their own advantages and disadvantages. However, combining these methods may present the most effective technique for assessing political, economic, and social risks. Businesses should recognize this combination and avoid relying solely on one method. It is evident that businesses have limited control over the risks they encounter while operating in volatile, emerging economies. Both governmental and non-governmental risks can impact businesses in either dramatic or subtle ways.

Government intervention, whether originating from the host-country, home country, or a third party, inevitably disrupts a business's activities and ultimately impacts its profitability. Economic uncertainty also leads to minimal control over exchange rates and various financial aspects for businesses. Terrorism and local hostility can even reach extreme levels, forcing businesses to shut down. It is clear that businesses encounter risks alongside opportunities, always facing the possibility of failure. However, it is essential to consider the flip side of the coin: businesses may be influenced by their surroundings, but in turn, they equally impact their environment. Therefore, opportunity brings not only risks but also responsibilities. The foremost responsibility of businesses is to ensure effective assessment of the choice of location and associated entry risks.

Businesses need to comprehend various methods of risk assessment and recognize their limitations. It's not sufficient for businesses to solely rely on intuitive risk assessment; they should also seek knowledgeable advice that is founded on

dependable and impartial risk assessment models. By thoroughly examining all associated risks of a new venture, a business demonstrates responsibility. Even though a business cannot control the risks it encounters, it should at least anticipate and acknowledge them, approaching the new opportunity with awareness.