MGMT20144 Management Business Context Master of Business Administration (MBA) School of Business and Law MGMT20144 Management Business Context Unit 3 Risks confronting the Firm Introduction Business organizations, that is firms, face many risks in the various parts of their operations over the various stages of their lifecycle and the various environments in which they operate over time. The firm faces particular risks in its start up phase as it develops its product or service offerings and establishes reputation in a viable market whilst building sufficient revenue streams to outweigh costs of operation. Risks in the early stage of business for a firm are financial in the main with economic factors playing a crucial role also. None the less other risks can alter the fortunes or even viability of a firm (Hill, 2015; Hill & Hult, 2016). For example, a socio cultural change – a new product or service becomes more consumer attractive than the one offered by your firm, changing socio-cultural demographics or psychographic impacts alter demand. Similarly, new technology breakthroughs mean that your value proposition for product or service is devalued as an improved and less expensive option appears in the market (Hill & Hult, 2016; Peng, 2014). Legal or Political risks may alter the level of competition or type of competition. Many ‘brick’ store retailers have closed against the competitive forces of ‘click’ based competition of e-tailers not only in their own nations but from around the globe. The rise of Amazon.com has impacted independent as well as chain bookstores, music and dvd sellers. This unit covers aspects of risk that will be identified again to a fuller extent in further courses in the MBA. In the course FINC20018 Managerial Finance there is always a consideration of risk in investments and also levels of risk in operating a business regarding the mix of debt and equity over a period. Thee is also risks associated financing capital expansions. In a course such as MGMT20133 Strategic Business Management different strategic alternatives will have differing risk profiles. In relation to MGMT20131 Governance and Leadership the nature of the business its governance profile and leadership will determine the type of business opportunities to be pursued which will be guided by the risk appetite of the firm itself. Learning objectives This unit has the following learning objectives: ⦁ To understand the concept of risk and the notions of risk related to level of probability and level of exposure in assessing risk. ⦁ Understand that firm based risk can occur at the economic level, financial level, legal level, political level, and societal-cultural level. ⦁ Examine approaches to assess and manage or mitigate risk for the firm. ⦁ Apply knowledge and skills gained from this unit towards resolving business challenges and issues. ⦁ Risks According to Berg (2010, p.79) ‘risk refers to the uncertainty that surrounds future events and outcomes. It is the expression of the likelihood and impact of an event with the potential to influence the achievement of an organization's objectives…. For each risk, two calculations are required: its likelihood or probability; and the extent of the impact or consequences.’ Common Firm Risks As discussed in the introduction there are a number of risks facing a firm from start up right through its lifecycle. According to Hill and Hult (2016) some of the typical risks faced by a firm are: ⦁ Poor market assessment and market research by the firm – this can lead to risky decisions on what the business produces or provides as services, its operational decisions, its investment decisions. ⦁ Poor selection of suppliers or supplier relationship management – Supply chain management risk. ⦁ Poor monitoring of competitor activities – Leads to risk of missing critical competitive intelligence to act upon. ⦁ Poor responses to economic changes particularly downturns – No contingency planning especially in financial controls and operations. ⦁ Poor capacity to deal effectively with government legislative changes - Examples can include taxation, business reporting standards, trade restrictions, product controls and the like. ⦁ Exposure to lawsuits – risks associated with product use, service advice that can leave the firm exposed. Firm Risks in the Global Market For a firm that is operating or intending to operate internationally there are a number of further risks to consider. New and different forms of competition may be encountered in the new market and the business model that achieved success in the business home market may not be as successful when translated to a new market (Peng, 2014). There are also the costs associated with coordinating and operating internationally certainly if the firm has presence in more than one overseas market the risk that the overall returns are diminished by higher costs rather than economies of operation can be real (Hill & Hult, 2016; Peng, 2014). So even before considering a raft of specific risks the general risk of just doing business in a different market are prevalent. De Kluyer, (2010, p 30) ‘Control Risks Group, a London based international business consultancy, multinational corporations (MNCs) are now active in more than 100 countries that are rated ‘medium’ to ‘extreme’ in terms of risk, and hundreds of billions are invested in countries rated ‘fairly’ to ‘very’ corrupt.’ De Kluyer, (2010) outlines several risks for MNCs operating globally. The first of these Political Risk relates to politically induced actions or policies that are initiated by foreign governments and have an impact on the firm’s operations directly or indirectly in some aspect of its value chain. De Kluyer (2010) notes that crises such as the September 11 2001 terror attacks in the U.S., unrest in the Korean peninsula, Isis actions in Iraq and its involvement in the civil war in Syria, and recent terrorist attacks in France and Belgium all create geopolitical uncertainty. Such uncertainty impacts a firm’s capacity to develop an integrated global strategy. Political Risk assessment involves an estimation of the stability of a country’s current government and of its relationships with other countries (De Kluyer, 2010). A high level of risk affects ownership of physical assets and intellectual property and security of personnel, increasing the potential for difficulty. Analysts frequently separate Political Risk into two subcategories: Global Risk and Country Specific Risk. Global Risk impacts all of a firm’s multinational operations, whereas Country Specific Risk relates to investments in a specific foreign country. There can be a further distinguishing element between Macro and Micro Political Risk (De Kluyer, 2010). Macro Risk is concerned with how foreign investments in general in a particular country are affected. By reviewing a government’s past use of soft policy instruments, such as blacklisting, confiscation, nationalization or compulsory local shareholding, a firm can be better equipped for potential future government actions. At the Micro Risk level, analysis is focused on a company or particular group of companies. A weak balance sheet, questionable accounting practices, or regular breach of contracts should raise concerns. As De Kluyer (2010) notes, Legal Risk is risk that MNCs encounter in the legislative and regulatory environment of a country. Legal Risk is closely tied to Political Risk. An assessment of Legal Risk requires investigating the basis of a country’s legal system and assessing whether the laws are properly framed and enforced. Legal Risk analysis involves becoming familiar with the country’s enforcement agencies and their scope of operations. As many firms have learned, numerous countries have written laws to protecting an MNC’s rights, but these laws are already enforced. Entering such countries can expose a firm to a host of risks, including the loss of intellectual property, technology, and trade marks (De Kluyer, 2010). Economic Risk in a foreign country relates to the volatility of the country’s macroeconomic performance and the country’s capacity to meet its financial obligations (Hill, 2015). It is a key indicator of both economic and political stability. It is crucial for MNCs to have a clear indication of a healthy macroeconomic climate for a target host country if they are to invest in operations in that country (Hill & Hult, 2016). The current financial macroeconomic crisis in Greece in which successive Greek governments have not been able to curtail spending and meet their inter-country debt obligations is a clear example of Economic Risk. Many businesses and even wealthy individuals have left Greece as a consequence of the Economic Risk resulting from government policy and market failure and investment has flowed outward. Other facets to consider in assessing Economic Risk are; the level and pace of development of the nation and particularly its investment in, infrastructure such as roads, transport, communication, technology generally, education to stimulate higher employment, labour conditions and natural and human resources. Indications that these elements are on a positive trajectory provide firms with the signals thy are seeking from markets that are suited to their global expansion strategies (Hill, 2015; Hill & Hult, 2016; Peng 2014). Societal Risk is related to operating in a different socio-cultural environment. MNCs need to consider the ideologies, ethnicities, dominant religious beliefs, nationalistic fervor and a country’s capacity to accept foreign investors and the nature of changes they can bring. Care needs to be taken to assess socio-cultural aspects that may impact on the success of any entry by an MNC into a foreign country market (Peng, 2014). Firstly, there is the question of whether the products and services of the MNC as they stand will be accepted as a global product/service or must be adjusted in terms of contextualization or significant customization for the local nation market (Hill & Hult 2016; Peng, 2014). Even after fulfilling an analysis and any adjustments to product/service, marketing approaches, and channel management and securing value for the firm. Secondly, there is the question of operations with host country employees and the fit between firm values and needed capabilities versus national values and norms. Sometimes there can be incongruences and challenges in cultural values and norms between the MNC and host country employees (Hill & Hult, 2016; Peng, 2014). These issues present considerable potential challenges and tensions within the realm of Societal Risk. Risk Management The Nature of Risk – The anatomy of Chance and Uncertainty Each day, all of us make choices and decisions in the face of uncertainty. We do not have the fullest and even the most up to date information. We may not even be certain of the reliability or the absolute accuracy or veracity of the information we have at hand. Never the less we are required to process the information we have consider it against previous experience and memorized knowledge and logic and make a decision. We are guided by a combination of intuition and logic. We spend a large part of our lives traversing the hazy waters of chance. This is choice under uncertainty - this is risk, and we are confronted by risk taking events each and every day. ‘Risk is a probability or threat of damage, injury, liability, loss, or any other negative occurrence that is caused by external or internal vulnerabilities, and that may be avoided through preemptive action’ (BusinessDictionary.Com, 2016). One approach to assessing risk is to apply a Risk Assessment Matrix. Applying this tool any risk can be assessed in terms of its level of Probability versus its degree of Impact. This approach permits analysis of the likelihood of a particular event occurring (Probability) against its expected severity on the firm (Impact). By taking a measured approach that managers can assess the degree of exposure that they may have to an event, the preparedness they require or the contingency or insurance measures they may need to consider or invest in. For many firms using a tool like a Risk Assessment Matrix provides them with a means to develop strategies for hedging, contingency planning, security planning, crisis planning and the like for critical events that may have a catastrophic impact to their industry or their particular firm. An example of a Risk Assessment Matrix is presented in Figure 1 below. FIGURE 1 RISK ASSESSMENT MATRIX Risk Mitigation Risk mitigation is defined as the process to reduce adverse effects. There are four types of risk mitigation strategies that can be executed by the firm to ensure Business Continuity and Disaster Recovery. It is critical to develop a strategy that closely relates to and matches the company’s values and profile as well as the type of event that it it is facing (Hill & Hult, 2016). Risk Acceptance: Risk acceptance does not reduce any impacts however it is still considered a strategy. This strategy is a common option when the cost of other risk management options such as avoidance or limitation may outweigh the cost of the risk itself. A company that does not wish to allocate a high level of finances or operational resources on avoiding risks that do not have a high possibility of occurring will use the risk acceptance strategy (Herrera, 2013). Risk Avoidance: Risk avoidance is the opposite of risk acceptance. It is the action that avoids any exposure to the risk whatsoever. Risk avoidance is usually the most expensive of all risk mitigation options. It requires the firm to thoroughly assess the range and scope of responses necessary to avert the risk (Herrera, 2013; Hill & Hult, 2016). Risk Limitation: Risk limitation is the most common risk mitigation strategy used by firms. This strategy limits a company’s exposure by taking some action. It is a strategy employing a mixture of risk acceptance along with some risk avoidance or an average of both. An example of risk limitation would be a company accepting that its website may be open to hacking but avoid downtime by having site backup and rebuild capacity (Herrera, 2013; Hill, 2015, Hill & Hult, 2016). Risk Transference: Risk transference is the involvement of contracting risk to a willing third party. For example, numerous companies outsource certain operations such as, payroll services, call center customer service etc. This can be useful for a company if the transferred risk is not a core capability of that company. It can also be used so a company can focus more on their core competencies. (Herrera, 2013) Global Risk Each year the World Economic Forum (WEF) releases a Global Risk Report. This report is compiled by experts from international government, non government inputs specialist agencies and academic experts to pinpoint the critical risk touch points that are facing the world each year and key trends that are emerging. The five areas the Global Risk Report considers are: Environmental, Geopolitical, Societal, Economic and Technological. These are the five most impactful risk areas facing the globe. In 2016 the top risk is failure of climate change mitigation and adaptation. It is assessed as having greater impact than weapons of mass destruction, water crises, and large scale involuntary migration. In 2016 the likelihood index of most risks has grown in 2016 increasing the magnitude of challenges over the coming decade. In 2016 on the impact of risk large scale involuntary migration rose to number one risk followed by extreme weather effects (WEF, 2016). This recognizes the changing nature of risks and their prevailing depth of impact when they occur. The Syrian and general Middle East refugee crisis which has sent millions of refugees pouring into southern Europe sees no let up as does the severity and regularity of severe storms, floods as well as droughts around the globe (WEF, 2016). The WEF Global Risk Report 2016 notes that ‘On a global scale, two economic risks – unemployment and underemployment and energy price shocks – are mentioned as the top risks of highest concern for doing business in half of the 140 economies. These are followed by the failure of national governance, fiscal crises, asset bubbles and cyber attacks.’ (WEF, 2016) The activity presented below is designed to aid your thinking through issues associated with being aware of risks and assessing potential risks. Required Reading References: Berg, H.P. 2010. Risk Management: Procedures, methods and experiences, Risk: Analysis & Theory, Vol. 1, No. 2 [17], pp. 79 – 95. BusinessDicionary.Com, 2016. Risk- Definition, BusinessDictionary.Com website at http://www.businessdictionary.com/definition/risk.html accessed 20 June 2016. De Kluyer, C. 2010. Fundamentals of Global Strategy: A Business Model Approach, Business Expert Press, Sterling Forest, U.S. Herrera, M. 2013. Four Types of Risk Mitigation and BCM Governance, Risk and Compliance (GRC), MHA Consulting website at http://www.mha-it.com/2013/05/four-types-of-risk-mitigation/ accessed 20 June 2016. Hill, C.W. 2015. International Business: Competing in the Global Market, McGraw-Hill, New York, N.Y. Hill, C.W. & Hult, G.T.M. 2016. Global Business Today, 9th Edn. McGraw-Hill, New York, N.Y. Peng, M. W. 2014. Global Business, 4th Edn. Cengage Learning, Mason, OH, U.S.A. World Economic Forum, 2016. Global Risk Report, WEF website at https://www.weforum.org/reports/the-global-risks-report-2016/ accessed 20 June 2016.