Thecash flows of an MNC is likely to be affected by the environment in aparticular country, hence the need to conduct a risk analysis. Thisprocess would also provide guidance before the introduction of newprojects in different countries (Samuels, 2014). The primaryobjective of this section is to identify the political factors to betaken into consideration by an MNC when conducting a risk assessment.
Theincrease in the risk level of a particular country may necessitateMNCs to divest their subsidiaries. This tool also warns MNCs againstestablishing businesses in countries with an extreme risk. Financialdecisions or investments may be reconsidered in regards to thecurrent events ongoing in a country. MNCs can be influenced bynumerous characteristics which are linked to the politicalenvironment present within a state (Van den Berg, 2013). An MNCsubsidiary being taken over by the host country is one of thedangerous political risks.
Theconsumer attitude in the host country is one of the common politicalrisk factors. Local inhabitants may decide only to purchase goodsthat are produced locally hence preventing the success of the MNC. Itis a policy that is embraced in almost all countries with the primaryaim of supporting local manufacturers. Therefore, before enteringinto a new country, MNCs must monitor the loyalty of local consumers,whether they are for locally produced goods or they have no form biastowards the products. In the case of loyalty to local products, MNCsshould check on the possibility of fostering a joint venture with alocal manufacturer to improve the acceptance of their products (Nayakand Choudhury, 2014).
Theother factor involves the government actions in the host countrywhich are likely to have an impact on the MNC’s cash flow. The MNCmay incur additional costs imposed by the government, for instance,regulations on pollution also after-tax earnings may be affected byincreased corporate taxes, and finally, the cash flows after taxationmay be affected due to restrictions on funds transfers (Rivera andOh, 2013). Hence, it might be difficult to send money to the parentcompany. Foreign MNCs may also be required by the host government toobtain special permits or their operations undermined as a result oftheir competitors being given special subsidies.
Inother instances, the host government may institute policiesrestricting cash conversions hence the currency of the host countrycannot be converted into other currencies. As a result, it isdifficult for generated incomes in these countries by an MNCsubsidiary to be sent back to the parent company by using currencyconversions (Samuels, 2014). Inconvertibility may necessitate theparent to look for ways to benefit from their subsidiary in thatcountry, for instance, exchanging the income generated with goods.
Thepossibility of war is also a political risk factor. Conflicts arelikely to occur between distant countries or with their neighbors. Itexposes the safety of employees to unnecessary risks. In suchcountries, there is uncertainty in cash flows produced as thebusiness cycles in these countries is highly volatile.
Finally,corruption may also affect the operations of an MNC leading to thereduction in revenues while increasing the business operating costs.Corruption may involve numerous firms and the government. Somecompanies may pay bribes to government officials to be awardedcontracts, hence creating a futile competitive environment (Samuels,2014). It might be worsened by bureaucratic acts from the government,hence complicating the business climate.
Expansionand creation of new MNCs are dependent on the capital available. Theprofitability of an MNC is affected by the capital costs whichultimately have an impact on its value. This section outlines whycertain capital structures different from that employed by the parentcompany might be used at a particular subsidiary.
TheMNCs subsidiary may use debt or equity financing depending on thecharacteristics present in a particular country. It does not matterwhether the global financial structure is well balanced. Forinstance, the decision not to issue stock in a particular country maybe determined by the level of development of the stock market in thatparticular country. As a result, debts obtained from local banks maybe used to finance the subsidiary. The capital structure of theparent company is affected given that the decisions made bysubsidiaries have spilling effects upwards, thereby affecting theremittance of income generated (Panier, Pérez-González, andVillanueva, 2013). There should be consultation between thesubsidiaries and the parent company before financial decisions areimplemented.
Thereis a reduction in the retained earnings of subsidiaries that relyheavily on debt financing. An increase in internal funds within theparent company will reduce the possibility of sourcing for funds fromexternal sources (Levinson, 2013). If the parent company has utilizedall the internal resources and there is a need for debt financing,both the capital structures of the subsidiary and the parent companywill receive some offsetting effects. When the parent company lowersits debt financing, it leads to the offsetting of the debts incurredby the subsidiaries.
Thereduction of debt funding in the subsidiary has certain impacts. Moreinternal funding may be used in instances when the debt financing isnot heavily used. As a result, fewer funds will be remitted to theparent company, thereby leading to a drop in the available internalfunds. Offsetting effects might be encountered in both firms. Thechange of the capital structure of a subsidiary does not necessarilymean a change in the global capital structure.
Inconclusion, the paper has outlined and discussed the main politicalrisks that might affect the operations of an MNC, which includeconsumer attitude, government actions, cash inconvertibility, war,corruption and bureaucracy. Also discussed in the paper are thedifferences in capital structures employed by the subsidiaries andthe parent company.
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Nayak,D., & Choudhury, R. N. (2014). A selective review of foreigndirect investment theories. Asia-PacificResearch and Training Network on Trade, Working Paper,(143).
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Rivera,J., & Oh, C. H. (2013). Environmental Regulations andMultinational Corporations` Foreign Market Entry Investments. PolicyStudies Journal,41(2),243-272.
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