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When Fidel Castro came to power, huge investment projects made by U.S. businesses were repatriated, simply...

When Fidel Castro came to power, huge investment projects made by U.S. businesses were repatriated, simply taken over by the Cuban government without offer of payment. Short of going to war, little could be done to stop this action. Though the world is different today, many forward-thinking businesses are ready to invest again, this time in the Middle East and Africa. Is the potential of governmental seizure of investment another risk of international capital budgeting? How do you quantify this risk in an analysis?

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Expert Solution

The term “Confiscation” refers to the seizure of assets of the foreign investors by the government. It is done without any compensation. In 1959, the cuban government confiscated the properties of U.S. businessmen. Following this act of the Cuban government, the U.S. government passed Helms - Burton law in 1959. The law entitles the U.S. companies to sue companies from the country that sue the U.S. companies. Later this law was repealed in order to maintain the relationship with the foriegn countries.

The major impacts of confiscation on firms are:

  1. Loss of assets: The investors lose their assets for no compensation. Investments for profits turn out to be a complete loss.
  2. Loss of future profits: The profits that are assessed to be incurred in the future are lost to the investors. Sometimes this estimated profits may be huge for the investors.

In the long run, confiscation reduces the income of the host economy.

Similar is the situation of investing in western Africa and the Middle east.

These events put forth the major risk faced by foreign investors - political risk. In this globalised economy, the actions of various governments have a vital role. It will decide the scope of foreign investment.

Confiscation will affect an investor’s financing abilities and supply chain management. Quantification of political risk is a major task for the management. Geopolitical Risk (GPR) index developed by Dario Caldara and Matteo Iacoviello is a method to measure political risk. Another method is to insure the risk.

Measurement of political risk differs with person. It depends on the situations prevailing in the economy. It is based on probability and analysis of events. There are specialised multilateral and national credit rating agencies functioning for the purpose. These agencies provide information regarding the profitability of investing in a region.International Monetary Fund (IMF) and World Bank also releases data regarding the political risk. Quantification of political risk is done by firms based on the data released by these trustworthy agencies. As mentioned earlier, quantification depends from person to person.

jeff jeffy answered 1 year ago
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