Find Out If Your Company Is Exposed To Political Risk

As previously stable governments including Egypt, Libya, Yemen, Jordan and Oman began experiencing civil unrest earlier this year, corporate executives around the world started to feel a chill of uncertainty as the political winds in the Arab world suddenly shifted without warning. Any company with operations in the Middle East and North Africa, or even a strategic plan for entering the region, was now on high alert, trying to determine what type of disruption they were likely to suffer, how much damage would be done to their bottom lines and whether or not they should continue to conduct business in the region at all.

In late February, SNC-Lavalin, an $8.2 billion Montreal-based engineering and construction firm, evacuated 4,000 employees from two major construction projects in Libya as rebel forces clashed with Libyan leader Muammar Gadaffi. The company was building water treatment facilities and pipelines in the Libyan desert and had a contract to construct the Benghazi airport.

With those projects stalled, the company was determined to limit the damage. Denis Jasmin, SNC-Lavalin’s vice president of investor relations, recalls that while the phones were ringing constantly at the height of the crisis, the company was focused on finding a strategy to deal with investors’ questions about its future.

In 2010, Libyan revenues represented $400 million, or about 7 per cent of SNC-Lavalin’s total revenues. Jasmin says that given the uncertainty of the situation, the company simply told investors that it would be removing Libyan revenues from all future projections. While quickly acknowledging the loss of business was difficult, these are some of the realities of political risk, an inescapable part of the global economy that all businesses must learn to manage. Political risk is becoming more important for companies, and for those that have spent billions of dollars building operations in foreign lands, the stakes are incredibly high.
Unfortunately, political risk is a concept that’s hard to get one’s head around, mainly because it assumes so many different forms – and it appears to be on the upswing. At one extreme is the risk of expropriation, or a foreign government nationalizing resources that a public company has developed. Instances of expropriation are relatively rare, but have occasionally occurred in Venezuela and other countries.

At the other extreme are risks from garden-variety problems such as corruption. Simon Whistler, senior consultant, global risk analysis, for independent specialist risk consultancy Control Risks, points out that corruption and local crime can fall into the category of political risks. With increased enforcement of the Foreign Corrupt Practices Act in the US and the 2010 UK Bribery Act, doing business with foreign governments increases risk exposure. ‘Companies have to be aware at all levels of their business how bribery, solicitation payments and internal fraud can impact their operations,’ Whistler says.

Assessing and protecting against risk

Historically, companies have not been particularly savvy about assessing political risk. ‘Many studies have shown that companies outside of the extractive industries don’t necessarily monitor political risk on a regular basis,’ says Jennifer Oetzel, associate professor in the international business department at American University. ‘And there’s not as much coordination as you’d imagine between headquarters and subsidiaries experiencing high levels of risk.’

Stephen Kay, senior vice president and US practice leader for political risk and structured credit at insurance broker Marsh, notes that companies’ awareness of political risk tends to be cyclical. Before the recent global financial meltdown, political risk didn’t seriously register for most public companies, but over the past two or three years, Kay says, ‘political risk has appeared on many companies’ radar screens.’ He notes that companies with more than 20 per cent of their operations overseas are now actively planning how to manage – or offload – the political risks they face.

In some cases, companies are looking at ways to insure against political risk. The Overseas Private Investment Corporation (OPIC) is the US government’s development finance institution. OPIC insures against everything from currency inconvertibility (instances where governments impose new restrictions preventing companies from converting or transferring investment returns) to political violence (property and income loss from politically motivated unrest).

OPIC also offers standalone terrorism coverage, or protection against violent acts committed for a political purpose by individuals or groups who aren’t part of a country’s armed forces. Standalone terrorism coverage protects against chemical, biological and radiological weapons or other weapons of mass destruction.

The amount of time and resources companies devote to analysing political risk usually varies by industry. ‘Oil companies have had much more sophisticated in-house competencies around assessing political risk,’ says Oetzel. ‘They often operate in countries with the highest political risk, and they have less choice about where they operate.’ Manufacturing or service companies don’t typically consider political risk with the same urgency.

Learn why political risk has to be taken on a case-by-case basis >>

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