There are definitely risks associated with international business expansion, so what are they?
Risks are part and parcel of every business expansion, whether local, national, or international. It is just that the risks associated with international business expansion are far beyond the scale as compared to when expanding business locally.
On a larger note, the risks associated with international business have increased globally. In fact, it has been rising for the past few years. As per the Global Business Risk Report of Dun & Bradstreet, the GBI score has increased to 288 in 2021 last quarter. However, compared to 2020 (during a pandemic) last quarter, the risk has gone down by 32 points.
As per this report, the top global risks are:
- Global inflation due to the natural gas crisis
- US-China competition over military presence in Taiwan and the South China Sea
- Resurgent Covid-19 variants of concern and variants of interests
- Supply chain disruptions worldwide
- Politics in the EU regarding the placement of the Russian military along the Ukrainian border
- Europe’s energy challenge
- Political polarisation
- Climate change and its policies
- Emerging markets suffering from fiscal worries like inflation
If you are expanding your business internationally, at the very least, you should be aware of the risks that come with it. When you know the risks associated, you work with a different frame of mind that focuses on eliminating or minimizing such risks. You cannot minimize all the risks but you can minimize them to a certain extent.
To make your company overcome uncertain challenges such that they do not act as a roadblock to your business revenue, here are some of the risks associated with international business expansion every business owner should know about.
Risks Associated With International Business Expansion
The risks that are directly related to finances are the financial risks. Some of the financial risks associated with an international business expansion include foreign exchange, political, shipping, economic, and credit risks.
Foreign Exchange Risk/Currency Risk
The most common financial risk is the risk related to foreign currency or foreign exchange rates. Foreign exchange rates are constantly fluctuating. If businesses enter into a contract and the exchange rates are lower when they materialize, the business can be at a disadvantage. Therefore, foreign exchange risks are usually concerned with accounts receivable and account payable.
For instance, if you are an Australian business and want to expand its operations to the UK, the company’s revenue in the UK is converted into Australian dollars to arrive at the right profits. If the UK currency depreciates against Australian dollars, the company will incur a loss due to foreign exchange conversions.
To avoid such risks, the business should develop corrective measures in advance. It should frame a competent foreign exchange policy. The most common policy is hedging. Hedging is the process of reducing the risks resulting from sudden fluctuations in foreign currency.
The most common hedging tools include:
- Forward contracts
Example of financial risk
Multinational giants like dominos and KFC faces transaction risk when operating in a country with less currency value against the dollar. For instance, KFC has its outlets in India. India follows Rupee as its currency. One dollar in Indian Rupee is around Rs 73. The value is falling due to macroeconomic factors like increased crude oil prices etc.
Now, if KFC collects 7 crores as revenue from its outlet in India, if the value of the Rupee was said Rs 70, the total revenue in dollars would be $10,00,000.
But as the value of the Rupee falls, i.e., Rs 73/dollar, the revenue collected after converting it into US dollars will reduce to $9,58,904, occurring a loss of around $41,098.
Political Risk/ Geopolitical Risk
Another financial risk associated with expanding business internationally is the political or geological risk. Such risks are risks of loss to the company due to sudden changes in the government policies of the foreign country.
Such changes could be in the form of trade policies like:
The trade barriers are the restrictions put by the foreign country on the foreign business to prevent foreign goods in the market. This is necessary to enhance the demand for the local goods and reduce the amount spent on imports.
Trade barriers thus are detrimental to international business expansion as they are directly put into place to limit the sale of their product.
Tariffs and quotas
A tariff is one such sort of trade barrier that is levied by a foreign country on imports. It’s a tax that the business has to pay for selling its products in a foreign country. These tariffs can be of different types like a specific tariff, Ad valorem tariffs, voluntary import restrictions and more.
Quotas also form part of trade barriers but fall under non-tariff barriers. Quotas represent an upper cap on the number of goods to be imported into a country. The business cannot import goods above the fixed quota.
Anti-dumping duty is also a tariff imposed on imports of goods when such goods are dumped into a foreign country at a lower price than in the domestic country. The company has to pay anti-dumping duty then.
The Free Trade Agreements changes can sometimes restrict a company from expanding its business internationally to its full potential. A Free Trade Agreement or FTA is signed between two countries or more by the government of the countries to fix certain rules and regulations regarding the trade of goods and services between them.
Political risks are also related to the risk of war, political instability, terrorism, poverty, and other sudden changes that the country has to face. Other political or country risks include Nationalization, gradual expropriation, Forced Divestiture, currency inconvertibility, and others.
Examples of political risks
- In 2015, Walmart Stores Inc. mentioned facing political risks and other related operational risks with countries like Brazil. The company faced complications in filling the 10-k document with the Securities Exchange Commission. It also had to face regulatory, legislative, legal, and various other issues.
- Another major example of political risk is trade wars. The most talked-about trade recently was between US and China. This happened during Donald Trump’s presidential ship. In 2018, due to the changes made in tariffs and increased tariffs on China products especially. This resulted in a trade war situation between the two countries and led to a huge loss to Chinese companies operating internationally in the US. Many American companies also were negatively impacted by the move as they were dependent on raw materials from China.
This sort of political risk is termed gradual expropriation. There is also an ongoing trade war between China and Australia.
Economic swings risk
The changes in the local economic market also act as a risk for a company with a branch in a foreign country. Other related economic risk arises when a company invests in a foreign company due to the changes in the monetary and fiscal policies.
The best way to deal with an economic risk is to stay cautious. Keep an eye on the government policies and consequently on your investments. Being aware of the potential changes in the market can also help businesses deal with the expected future losses.
Example of economic swing risks
Amazon Inc is an eCommerce company that has faced various financial risks due to changes in inflation rates, foreign exchange, economic policies, and political unrest. Since 1/3rd of its revenue of Amazon comes from the international market, it is highly susceptible to risks associated with international expansion. It also reports huge losses due to changes in foreign currency rates.
The shipping risks fall under the financial risk with global operations. Shipping goods within the local market also carries some level of risk. The level of shipping risks when shipping foods internationally increases a bit. As goods are shipped at a larger scale, there is an increased possibility of accidents, spillage, thefts, breakage, seizure, or contamination.
Shipping risks can be eliminated greatly by transferring the responsibility of shipping goods to the other parties involved in the distribution channel. Also, insuring the goods is another solution to minimize the shipping risks.
Working with a forwarding agent is a good solution. Moreover, the chamber of Commerce in each country works toward the interests of such businesses. It lays down each party’s roles and responsibilities in shipping goods and services from one place to another, whether through air, land, or sea.
Shipping risks in specific include:
- Error in the freight tracking system
- Faulty cargo capacity monitoring
- Risks due to geographical, technical, and weather changes
- Issues related to transportation
- Disputes arising during payments
- Overweight cargo penalties
- Missing documents like bill of lading
- Custom clearance problems
However, using the right technological solution, shipping risks can be eliminated. These solutions include Blockchain technology, IoT sensors, Robotic Process Automation, and so on.
Example of shipping risks
For eCommerce companies like Amazon, shipping costs rise every year. In 2016, Amazon suffered a 7.2 billion USD as shipping loss.
Credit risk is involved in not receiving the payment when it is due. This is the counterparty risk when they fail to fulfill their obligations and deprive the seller/business of the accounts receivables.
This risk increases when expanding business internationally due to the increase in the parties you deal with. However, such risks can be avoided by following certain approaches like:
Letter of credit
A letter of credit is a document issued by the financial institution (bank) to protect the interest of both buyer and seller. This document acts as the institution’s commitment to the product or service seller. According to this, the financial institution agrees to pay a set (a part of) amount of the product service to the provider (company) when the company releases its goods to be shipped.
The bank sets the money aside, but the buyer cannot use the same to make the payment until the letter of credit is enforced.
Credit insurance is another method to protect the credit risk of businesses operating internationally in return for the premium. Also, the buyer of goods and services is provided flexible payment options to allow him to make the payment on time.
Factoring is the process of transferring business accounts receivable to a third party in exchange for the payment due to such a third party. This helps in transferring the risk of finance operations. It also helps businesses with low capital to make future payments when immediate cash is not available. It also helps solve the liquidity problems that arise due to increased sales.
Full payment on account opening
Allowing the buyer to make full payment as the order is placed is the best way to stay protected from credit risk. This eliminates the risks of non-payment as payment is received even before the services are rendered or goods are shipped. The most common example is making online payments when ordering goods online.
When it comes to the legal risk of expanding business internationally, it covers the risk of not adhering to the foreign country’s labor laws, compliance laws, licensing regulations, or tax laws.
Remember, legal risks differ from country to country. In some developing countries, these laws could not be as sound as in your domestic country. In such a case, it becomes more difficult to protect your assets than it would have been in the domestic country.
One such problem is compliance with accounting practices. Different countries follow their own accounting practices. Sometimes, complicated account systems and tax laws become a huge hurdle for international business expansion and result in huge losses.
For instance, Airbnb in the year 2014 had to pay a huge fine as it breached the tourism laws in Barcelona. The company had to pay a fine of €30,000 to the Barcelona government.
Intellectual property risk
Intellectual property risks can also be covered under legal risks. When expanding business internationally, the risk involved with the unauthorized use of your intellectual property like trademark, contracts, signs, research, patents, design, etc., is referred to as intellectual risk property risk.
If you need to make a contract with a third party as part of expanding business internationally (as in the case of the joint venture or strategic alliance), the risks of misusing your research, terms, and conditions in the contract mentioned increase.
To prevent such risks, the business should first register their trademarks and corporate names before entering into any contract or agreements. The business should also be ready to improve and modify its intellectual property rights from country to country. In some countries, it is hard to protect your patent rights than in others. Stay one step ahead and thoroughly research intellectual property rights prevailing before moving forward.
Example of intellectual property risk
Apple vs. Prepear over similarly designed logo gathered much attention. Apple, a tech giant, entered a complaint against a mere five-employee company, Super Healthy Kids Inc., over its cooking app service, Prepear. According to Apple, the logo looked very similar to Apple’s logo. Apple also claimed that they are trying to impede Apple’s new expansion in nutrition.
Another intellectual property right risk falls over Vox Media. It was a copyright infringement issue, and even its lawyers could not win against the outrage of internet users.
Local risks when expanding business internationally include the risks that arise from operating the business in the local market of the foreign country. Some local risks include local demand, competitors, and cultural differences risk/ethics risk.
Local demand risk
The local demands pose a high risk. You cannot do enough study to understand the customer behavior in the local market of the foreign country. Your product or service may be doing good in your domestic country but fail to reap any profits in another.
The difference in tastes, likes, and dislikes from one country to another gives rise to the local demand risk. Many well-known brands earn well in one country while failing to impress the customers of another country. For instance, Starbucks found it difficult to penetrate the Australian market as people opposed drinking coffee from corporate giants.
Various other brands were affected by the local demand risk. Though it is reasonable to conduct market research before entering a foreign market, sometimes businesses can’t fully understand how locals react to their product until it is placed within the market.
Local competition risk
How do you enter a new foreign market if long-standing brands are already available to meet their needs? Why would the local customers prefer your product over the product of their local market? The only condition is when there is a fairly high price difference, and the product is much more convenient t and advanced.
Deciding the product’s price is integral. It is sometimes difficult to place a product with lower pricing than its counterparts after considering the various tariffs that also have to be borne by the company.
Also, the local business owners have the edge due to easy access to market information and other lucrative business opportunities.
Cultural differences risk
Cultural difference or the ethics risk is another local risk that businesses expanding business internationally have to face. However, you can eliminate this risk greatly by giving due diligence to market research.
The cultural differences can arise due to differences in business culture and the cultural differences lingering between the country.
Firstly, a business culture that the working culture of business varies from East to the West. There are different working hours sets in different countries for work. Also, the methodology of performing tasks differs. On the other hand, cultural differences also get highlighted when hiring local employees or establishing ties with foreign businesses.
For instance, the UK’s working hours are lesser than in the US. This creates differences when a UK company joints hands with a US company to work together. Where employees in the UK are also provided with 14-week maternity leave, there is no such provision in the USA.
Also, cultural differences risk linger when you launch a product in the market that is against the people’s religious or cultural sentiments. This can hit back badly and would result in losing all your customers.
Example of cultural Difference risk
Another example of cultural difference risk arose for Chevrolet when it launched its car Chevrolet Nova in Latin America. The term No Va Spanish means ‘no go’, which was a no-go car for people. Thus, they suffered from erroneously naming their car in the region, leading to slumped demand in Latin America.
Climate change has also become a worldwide issue for businesses these days. It is one of the forms of ethical risk.
A business, when expanding globally, also has to be socially responsible for the environment. They have to begin production keeping in mind the UN’s Sustainable Development Goals in tune with the country’s goal of being a carbon-free country.
Environment issues come under the ethical risks. More and more big companies like Dell, MUD, and Renault are shifting towards a new way of business, i.e., a Circular economy. It is all about the optimal use of industrial waste in terms of reuse or recreation and as a way of production that provides an economic boost by traveling a full circle.
The risks that are present inside the company are termed internal risks. It has nothing to do with the external environment and imbibe due to the operational inefficiency within the company’s workings in the foreign country. Some of the related internal risks include:
Opportunity cost risk
The opportunity cost risk is the cost of opportunity lost in the domestic country to the cost of opportunity gained in the foreign country. This risk states if the benefits of expanding business globally far outreach the expansion in the domestic market? Will expanding business mean creating opportunities for the competitors in the domestic country? Does this also mean risking your way through competitors in the foreign market?
Budgeting risk can be a part of financial risk as well. This risk is associated with deciding on setting your budget for business expansion. If the expansion fails, it shouldn’t be too low to deprive you of good market research or too high to cost your business. Also, budgeting risk is about choosing between two investment options for business expansion, such as appointing a distributor, setting up a legal entity, or hiring expertise.
Budgeting risk, therefore, is the risk of over or under-investing when expanding business internationally.
Internal operation risks
The operational inefficiency in sales, marketing, logistics, hiring teams and employees, and managing finance comes under the internal operational risks. Internal operation within a foreign country would be different from that in the domestic market. The distance barriers, time zone, and cultural differences all affect the internal working of the organization.
It hampers the everyday working of the business. This will hamper the performance in the target market and the home market. It is mostly dependent on human errors, the negligence of the workforce, and alike. Other operational risks a business can face include:
- Breach of private data due to cyber security attacks
- Internal frauds
- Technological mishaps due to automation, robotics, and AI
- Physical events like a natural or manmade disaster
- Failure in business processes and controls
The right personnel management and adequate employee training can help increase operational efficiency and reduce internal operation risks. Further, following a proper operational Risk Management (ORM) procedure can help businesses.
The risks associated with the business’s external environment are all covered under the external risks. Some related risks include security, product-market fit, regulatory, and macroeconomic risks.
Security risks in some types of business have a greater bearing than others. For instance, industries dealing in oil, gas, mining, and similar operations carry greater security risks.
Security risks can be managed by following proper safety standards and procedures in such businesses. To comply with security norms and even use technological innovations like Automated power security systems.
Product market fit risks
The risk that arises from not finding the perfect market for your product is knowns as product-market fit risk. Well, you have an idea for a product. You start your business based on that idea. However, the real trouble lies when you can find an identical market for your product.
Selling woolen stockings in a country that is experiencing severe summers. The key to avoiding the product-market fit is to follow a three-fold step strategy. If you are starting a business from scratch without a product idea in hand. That’s great! It is easy to fit a needful product into the market than to fit a product after creating its need.
Thus, the first step includes identifying the needs of the customer. Now, develop a feasible solution (product) to fulfill the need gap. Finally, do everything to make your product stand out in the market. Create its awareness when a key marketing plan comes into action.
Expanding a business internationally comes with regulatory risks. These risks arise from not placing the right business model in the right place. The regulatory risks are present in every stage of business expansion, from placing the product in the market to finding the right target market, creating a value proposition, following a revenue cost model that generates profit, and the need for the proper use of resources operate a model.
This all-forms part of regulatory risk, i.e., the risks simply associated with regulating a business in an international market. For instance, when Uber was launched in its home country, it was simply a connector model between the passengers and drivers.
However, when it decided to expand its market internationally, it realized that it was accountable for its drivers. Its drivers are its employees, and thus, it had to change everything about its business model.
Many of the risks above fall under the macroeconomic risks, but a few macroeconomic factors are left to discuss.
Some of the big names in the macroeconomic risks are the GDP and the unemployment rate. Will the foreign country’s macroeconomic factors like GDP or unemployment rate affect your business? Well, definitely yes!
The GDP, or the gross domestic product of a country, says a lot about it. It is the total amount of goods and services produced in the country. The higher the GDP, the better it is. It represents a better standard of living. The better health infrastructure, the number of restaurants in the country, the automobile industry, and the exports all form part of the GDP.
Now, if you are expanding your business in a country with a good GDP, this would simply mean that the country’s people have good purchasing power. This allows greater chances that your product/service will be affordable to most of the country’s people.
The unemployment rate is another macroeconomic factor that can threaten the success of businesses expanding internationally. If an unemployment rate of a country is high, this means people do not have a job. They lack purchasing power. However, we can interpret this in different ways.
There are various unemployment rates, like educated unemployment or structural unemployment. This sort of unemployment means the unemployment is not chronic as people keep changing jobs due to better opportunities, short-term contracts, and technological advancements. This is not so troublesome for the business.
On the contrary, low unemployment sometimes does not favor companies when they have to make urgent hiring. As there is low unemployment, the companies have to lure people with a better salary than their current workplace to entice them. This leads to an increase in consumers’ costs, leading to inflation.
Thus, depending on the nature of your product and requirement, the unemployment rate is another macroeconomic risk business expanding internationally should not overlook.
Expanding business internationally means thorough research that includes awareness of what is happening worldwide. If you have no idea where you would choose to spread your business internationally, it is better to start with a good amount of research.
Keep in mind the political tensions governing the country and all the other risks likely to be present in the foreign country.
We have tried to cover all the possible risks associated with international business expansion. This can be a great tool to provide your research with a roadmap. Frame your decision based on the current global risks governing the businesses and the other risks that can arise in the future.
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