Risk Analysis is a formal framework that is used to evaluate the risks that organizations can face. A good risk analysis affords the organization the opportunity to decide what actions to take to minimize disruptions or decide whether the suggested strategies can be used to control risk and are cost-effective. Multinational firms must constantly assess the business environments of the countries they are already operating in as well as the ones they are considering investing in. One of the most important international risks, which an organization faces, is exchange rate risk. Organization which invests internationally in today's increasingly global investment arena face the prospect of uncertainty in the returns. After they convert the foreign gains back to their own currency. Unlike the past when most U.S. investors ignored international investing alternatives, investors today must recognize and understand exchange rate risk, which can be defined as the variability in returns on securities caused by currency fluctuations. Exchange rate risk is sometimes called currency risk. Moreover firms must constantly assess the business environments of the countries they are already operating in as well as the ones they are considering investing in. It involves country risk analysis, the assessment of the potential risks and rewards associated with making investments and doing business in a country. This is the subject matter of political economy—the interaction of politics and economics. Such interactions occur on a continuous basis and affect not just monetary and fiscal (tax and spending) policies but also a host of other policies that affect the business environment, such as currency or trade controls, changes in labor laws, regulatory restrictions, and requirements for additional local production. By extension, the international economic environment is heavily dependent on the policies that individual nations pursue. Given the close linkage between a country’s economic policies and the degree of exchange risk, inflation risk, and interest rate risk that multinational companies and investors face, it is vital in studying and attempting to forecast those risks to understand their causes. There can be various Country-Specific Risks. It affects both domestic and foreign firms that reside in a host country. These risks, which arise from the actions of the host government, apply more to the multinational corporation whose cash flows are impacted. Examples include exchange controls, currency inconvertibility, and blockage of funds. Exchange Controls are a common policy of host governments facing balance-of-payments difficulties is to impose exchange controls that block the transfer of funds to nonresidents. Currency Inconvertibility is some governments will not permit conversion of the local currency into another currency Blockage of Funds are subsidiaries of MNC's typically send funds back to their parents to repay Intercompany loans, remit dividends, and pay for supplies and other administrative services. When host governments experience a foreign exchange shortage, they may block the transfer of funds back to the parent. Credit risk arises due to lack of knowledge and credit knowledge about the other party in foreign country. Action Plan to deal with risk
1. Country Diversification
They can diversify their suppliers to reduce their exposure to one specific country. Translation exposure is simply the difference between exposed assets and exposed liabilities. The controversies among accountants’ center on which assets and liabilities are exposed and on when accounting-derived foreign exchange gains and losses should be recognized (reported on the income statement). A crucial point to realize in putting these controversies in perspective is that such gains or losses are of an accounting nature—that is, no cash flows are necessarily involved. Firms have three available methods for managing their translation exposure: (1)...
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