INTERNATIONAL BUSINESS

1
INTERNATIONAL BUSINESS

• Risk and financial aspect of international
  business
• Matev Rakovic
• December 11th 2009

2

• INTERNATIONAL BUSINESS AND RISK

3
Why is International business more risky?

• International business is more prone to risk,
  because (Buckley, 2004)
• Companies are operating and doing business in a
  less known socio-economic environment ? they
  harder understand the cause-and-effect mechanisms
  in such environment (i.e. change of government)
• Differences in language, culture and religion
• Harder collection of important data and
  information about the environment and potential
  partners
• Additional political and economic factors, i.e.
  changing currency rates
• Longer physical distances (different
  transportation modes)
• Higher transportation costs
• Longer time window for something to go wrong
• Usually bigger transactions (in terms of size and
  value)
• More complex logistics and management issues
• Thus, companies must be aware of different
• sources and types of risk and take measures
• to minimize them!

4
But what is risk?

• Risk connected with UNCERTAINTY, regarding FUTURE
  events, which can DECREASE the PROBABILITY of
  reaching SET / PLANNED goals and have an IMPACT
  on the company (Tayeb, 2000)!
• POSITIVE vs. NEGATIVE RISK?

www.youtube.com/watch?vvNSLnIxvhnkfeaturerelate
d
5
Types of risk in Int. business
COUNTRY RISK
FINANCIAL RISK
BUSINESS RISK

• RISK ASSOCIATED
• WITH ALL BUSINESS
• PROCESS AND
• ACTIVITIES
• Innovations
• Product design
• Marketing
• HRM
• Administration
• Documentation
• Transport

POLITICAL RISK
PAYMENT RISK
ECONOMIC LEGAL RISK SOURCES

• MARKET RISK
• Currency risk
• Interest risk
• Price risk

Source Tayeb, 2000.
6
Risk type 1 COUNTRY RISK
www.youtube.com/watch?vkXpB5JwpJFk
7
Country risk

• Country risk all economic, political, legal,
  financial and social aspects, which impact doing
  business in an international environment
• Key questions?
• How to determine the key risk factors of country
  risk?
• How to predict key country risk factors for the
  future?
• Which country risk factors are more and which
  less important?
• How to compare the country riskiness of two
  environments?
• All is relative!!!

8
Analysis of country risk

• Analysis of political risk
• Wars and political conflicts
• Terrorism and kidnappings
• Confiscation, expropriation and
• nationalization
• Corruption
• Government policies
• Monetary policies and so called
• transfer risks
• FOCUS corruption
• www.youtube.com/watch?voxlPyvRzMJMfeaturerelate
  d

• Macroeconomic risk
• Monetary policy
• Fiscal policy
• Currency exchange policy
• Foreign trade policy
• GDP growth
• Inflation
• Unemployment
• FDIs

• Legal environment risk
• Intellectual rights
• Ecology
• Tariffs and regulation on trade
• Taxes
• Regulation of products and services
• Accountability

9
Transparency int. corruption perception index
10
Analysis of country risk
2 approaches in practice

• In advanced prepared
• country reports
• BERI index
• Control Risk Group (CRG)
• Euromoney
• Economist Intelligence Unit (EIU)
• Moodys Investor Service and Risk
• Payment Review
• Coface
• Export Credit Agencies (ECAs)
• Euromoney Country Assessment
• Political risk 25
• Economic performance 25
• Indebtedness 10
• Servicing loans 10
• Credit ratings 10
• Access to various finance

• Own analysis
• PEST analysis
• PESTL analysis
• SWOT analysis
• Porters 5 forces analysis (industry)
• C-analysis
• Other analysis important to firm and
• industry specific

11
Example Coface

• www.coface-usa.com/CofacePortal/US_en_EN/pages/hom
  e/wwd/inform/Country_risk/Country20Risk20Assessm
  ent

12
Example BERI index
Very good
Some risk
High risk
www.beri.com
13
Example Doing business in
www.doingbusines.org
14
Protection / minimization of country risk

• Insurance (ECAs, insurance agencies, etc)
• Integration with the host environment
• Building political support at home and abroad
• Moving profits through transfer pricing
• Alternative business transactions
• Barter
• Compensation
• Counterpurchase
• Offset transactions
• Switch trading
• Swap deals.

15
Risk type 2 FINANCIAL RISK
16
Financial risks

• All unexpected changes in value of assets and
  liabilities of an internationally active company!
• Types of financial risks

FINANCIAL RISKS
PAYMENT RISKS
MARKET RISKS
Buyer doesnt pay
Market change
Commercial reasons (liquidity)
Non-commercial reasons (conversion restr.)
Change in currency rate
Change in interest rate
Change in prices
17
Protection against payment risk

• Running a check on a customers financial health
• Appropriate financial instrument
• Insurance of liabilities (insurance company,
  ECAs, etc)
• Following up and monitoring liabilities
• Offering discounts for early payment
• Maximum overdraft for different customer types
• Compensation
• Advanced forms of financing (factoring,
  forfeiting)
• Also some simple procedures, like
• Calling one of the customers customers or
  suppliers
• Reading their annual report
• Asking for proof of sound financial health

18
Examples of market risks

• Example currency rate changes
• A Japanese computer manufacturer sells 1.000 PCs
  to a German retailer, for 500 EUR per PC. The
  arranged payment currency is EURO and the amount
  has to be paid in 30 days.
• What happens if the EURO falls (depreciates)
  against the Yen in 30 days?
• How does this change impact the German buyer?
• How does this change impact the Japanese buyer?
• Similar also holds for interest risk and price
  risk!

19
Protection against market risk

• Use of special financial instruments futures and
  forwards
• Options
• Insurance of currency rate change (but it costs
  money!)
• Legal instruments contractual clauses of foreign
  currency
• Agreements of sharing the market risks
• Swap transactions

20
Risk type 3 BUSINESS RISK
Examples of two big business mistakes!
21
Business risks

• May arise in all business processes, which take
  place in the functioning of the company, and can
  span from technological innovation mistakes, to
  product design mistakes, to marketing mistakes,
  to production mistakes, to HRM mistakes.
• Most common business risk in Int. business
• Risk associated with various types of
  documentation
• Risks associated with pricing and calculations
• Transportation risks
• Manipulation risks
• Marketing faux pas

22
Protection against business risks

• Documentation
• Experienced staff
• Systematic tracking and IT systems
• Outside help
• Pricing and calculations
• Knowing your cost structure
• Knowing your Incoterms clauses
• Negotiate not only on the price, but also
  currency, payment deadliness
• Transportation and manipulation
• Transport insurance
• Lloyd's insurance policy
• Packaging
• Penalties
• Marketing
• Information is key to every marketer!!!
• Analysis, analysis and analysis

23

• FINACIAL INSTRUMENTS IN INTERNATIONAL BUSINESS

24
Elements of financing Int. business

• Currency
• Exporters currency
• Importers currency
• 3rd party currency
• Time frame of financing
• A key dimension of price
• Different value of money through time
• Financial instruments
• Open account payment
• Payment in advance or cash at order (full or
  partial)
• Documents against payment (D / P)
• Documents against acceptance (D / A)
• Bill of exchange
• Letter of credit (L / C)
• Bank guarantee

25
Risk as an important element
SELLERS RISK - EXPORTER
BUYERS RISK - IMPORTER
HIGH
LOW
Open account payment Bill of exchange Documents
against acceptance Documents against
payment Letter or credit and bank guarantee Cash
at order
LOW
HIGH
26
Bill of exchange

• A negotiable financial instrument
• ? negotiable ability to be sold or
  transferred to another party as a form of
  payment
• Sometime referred to also as promissory note
• Definition An unconditional order issued by a
  person or business, which instructs the recipient
  to pay an agreed and fixed monetary amount to a
  third party on a future date.

27
Documents against payment (D / P)
documents
Also referred to as an ADVISING BANK
SELLERS BANK
SELLER / EXPORTER
documents
Also referred to as an ISSUING BANK
documents
BUYER / IMPORTER
BUYERS BANK
Similar for D / A, but the buyer doesnt have to
pay immediately, he only has to sign a bill of
exchange (promissory note).
28
Letter of credit (L / C)

• One of the most important financial instruments
  in foreign trade and Int. business
• A safe, but costly(!) instrument that protects
  both sides involved
• Key participants in the procedure
• Applicant for the credit (i.e. buyer or importer)
• Issuing bank, principal (buyers bank)
• Beneficiary (i.e. seller or exporter)
• Advising bank (beneficiary's bank)
• 2 possible additional participants
• Confirming bank (guarantees he beneficiary the
  money)
• Nominated bank (pays the monetary amount to the
  beneficiary)

29
L / C scheme
30
L / C
31
Types of L / C

• LORO (export) vs. NOSTRO (import) L/C
• IRREVOCABLE / NON-IRREVOCABLE L / C
• CONFIRMED / NON-CONFIRMED L / C
• PAYMENT AT SIGHT L / C
• DEFFERED PAYMENT L / C
• TRANSFERABLE / NON-TRANSFERABLE L / C
• BACK TO BACK CREDIT
• REVOLVING L / C

32
Pros and cons of L / C
EXPORTER
IMPORTER

• Is guaranteed to get the money,
• if he complies with all the contract
• terms
• Gets payment immediately
• upon sending the goods and
• turning over all the relevant
• documentation

• Assurance, that the exporter
• will receive the money ONLY
• upon total compliance!
• Assurance of shipment of
• goods.
• Better negotiation position
• for other elements of deal.

• Has to prepare and process
• the relevant documentation,
• specified in the contract and L/C
• agreement. Failing to comply,
• he looses the money!

• Impacts and reduces
• the importers credit line!

33
Bank guarantee

• An instrument for the insurance of liabilities
• Not connected to the main business transaction
• An irrevocable obligation of the bank to pay the
  guaranteed amount, if the beneficiary does not
  get the money
• Bank guarantee protects mainly the seller
  (beneficiary of the contract)
• Very expensive instrument, used for high value
  deals with significant risk
• Different types of guarantees

34
Factoring

• One of the fastest growing financing types today
• Financing, management and insurance of
  liabilities
• Target segment rapidly growing SMEs (need money,
  cant wait)
• Time frame of liabilities short term, up to 60
  (perhaps 90 days)

35
Forfeiting

• Method of financing sales (export) deals
• Sale of less liquid, medium-term liabilities
  (between 120 days to 1 year)
• More abstract liabilities
• Difference from factoring?
• Time frame short vs. medium-term
• Financing vs. financing, management and insurance
• Forfeiting the liability is additionally
  insured by i.e. a bill of exchange
• Higher costs of financing
• Less providers of such financing

36
Deciding on the right financial instrument

• Size of the deal
• Size of the players?
• Characteristics of the players?
• Costs of the financial instrument
  (protectioncosts)
• First time deal or re-occurring deal?
• How well do we know the other side?
• Who initiated the deal?
• Who has more at stake in the deal?
• Legal environment and context of the deal?
• Calculate different scenarios?
• Negotiate different terms for different payment
  instruments
• Be smart, take only calculated risks!