Why Companies Need Political Risk Analysis

Why Companies Need Political Risk Analysis

Risk analysis is a fundamental, often underestimated, strategic function of business management. It can be as basic as a SWOT (strengths, weaknesses, opportunities, threats) analysis—COWS in British business vernacular, using the term “challenges” instead of “threats”—which addresses risk explicitly. Risk is also addressed in a more nuanced fashion in other commonly employed analytical paradigms, such as Michael Porter’s Five Forces Model, which treats risk indirectly as an aspect of the competition dynamic.

Risk analysis should not be an alien concept to anyone with more than an undergraduate education in business. It should be part of any manager’s understanding of his or her job. But from the accumulated evidence, especially during the last six years since the global financial crisis of 2007 and the subsequent Great Recession, it seems the fundamentals of risk analysis were forgotten or, worse, ignored.

Poorly executed risk analysis routinely leads to failure or, at best, mediocre performance. This failure can be systemic, resulting in the dissolution of the company—as occurred with Enron in 2001 and Kodak last year—or confined to a particular project, product or corporate division—such as HP’s failed acquisition of Autonomy in 2011.

Either way, failure or mediocrity can be very expensive. HP recently took a charge of $8.8 billion on Autonomy. But when done well, the process of collecting, assessing, evaluating and integrating information regarding the risks entailed in political events and decisions facing a company—whether in its line of business or in its industry—often enables that company to succeed.

Surprisingly, given its importance and the costliness of its failure, risk analysis  is generally not done well, nor is it well understood. Even the most sophisticated and experienced models generate inaccurate information, or misinterpret accurate information, regarding the risks they face. Invariably, this contributes to poor strategic planning and sub-par decision-making.

Enterprise risk management (ERM) is a common approach to addressing this problem. ERM takes into consideration all sources of strategic risk an organization could conceivably encounter—political, economic, social, financial, operational, supply—however one wishes to define them. Structured this way, ERM captures the broader context of strategic risk management.

Information regarding political risk is key for companies, governments and other organizations to collect, assess and evaluate, but it must be considered in a broad context. Political risk is thus an essential starting point for analysis because it influences most other types of risk.

Regardless of the source, the information itself is insufficient for risk management purposes. To reach an adequate level of understanding, the information must be analyzed in the context of the business decisions at hand. Otherwise, the information is little more than descriptive data. Viewed in this manner, analysis is value-added information, otherwise known as understanding. And understanding is the foundation for action in the realm of strategy.

Categories: Europe, International

About Author

Steven Slezak

Steven is on the faculty at Cal Poly in San Luis Obispo, California, where he teaches finance and strategy. He taught financial management and financial mathematics at the Johns Hopkins University MBA program. He holds a degree in Foreign Service from Georgetown University and an MBA in Finance from JHU.