Question

Examine the main risks faced by MNCs. In your answer explain how they seek to minimize country risk.

Answer 1

Solution:-

MNCs conduct their business in many countries and are generally large conglomerates who enjoy global brands. Having a global presence exposes them to various risks too. The main risks faced by multi national companies are as follows:

• Political risks of conducting business in a foreign country. These risks arise due to political instability, lack of trust-worthy taxation and legal system, inffective judicial system, in the country of operations. A classic example would be an poil company operating in a Middle East country and loses the control of its business due to political unrest in that country
• Foreign exchange risk is one of the primary risks that MNCs face due to their global operations. MNCs invest capital in their foreign subsdiaries and want returns on their investments in their domestic currency, i.e. the currency of their holding company. However, their revenues come from operations in foreign currencies and therefore they are exposed to adverse movement in the exchange rates of those currencies against the domestic currency
• Lack of knowledge of foreign markets is one of the primary risks as well that threatens MNCs' global ambitions. A lot of big companies may be hugely successful in their home country but could face a lot of difficulties in replicating that success in foreign countries due to lack of understanding of foreign markets, difference in consumer behaviour, etc. A classic example would be Ikea's inabilitry to replicate its success abroad despite being a huge success in US furniture market. It just couldn't understand the needs of consumers in other countries like China, etc and failed. Similarly, Starbucks has seen a lot of failure in Australia recently due to similar reasons

How do MNCs seek tro minimize the country risk:

The various ways MNCs seek to minimize the risk of their foreign operations are as follows:

• They prefer to enter a foreign market in partnership with a local player who has a deep domain knowledge of the local market and thus makes up for the lack of foreign company's knowledge of that market. This also reduces the level of investmnet they have to make to enter the new market, thus hedging its bet to an extent
• Use of derivatives in the forex market to hedge the foreign exchange risks
• Entering into agreements with foreign governments for making investments under clearly laid down rules for foreign direct investments (FDIs) which ensures that it can save itself from potential political risks in future
• Hiring local employees and consultants in their foreign subsidiaries give their operations the local edge they require for those markets. The employees belonging to those local countries bring in ideas and solutions which are effective in their societies and culture which adds great value to the overall success of the firm.