In this extremely competitive global economy, financing is not only a necessary part of the export process, but also a very important tool. Your ability to offer your foreign customers liberal payment terms can provide the necessary edge to sell more goods and services worldwide. But, in doing so, it’s essential to accurately weigh the risks. This could mean the difference between international success and failure.

Managing international financial transactions is becoming more important, especially to the welfare of exporters who generate a greater and greater share of their profits from international trade. So it’s vital to understand your risks. For our purposes, we have categorized three types of risk: commercial, operational, and country risk, which are the focus of this article. Keep in mind that these often become blurred and intermixed, as one may impact the others.

Commercial Risk

Commercial risk is mainly viewed in terms of the credit strength of the buyer. This involves the buyer’s ability and willingness to pay for the goods, the terms of payment, and the credibility of the buyer’s bank, if involved.

A very important rule of prudent exporting is to understand the buyer’s financial and business standing. If it is sound, exporters may offer extended credit payment terms. However, the longer the length of the credit terms, the greater the degree of risk, since it is difficult to determine if the foreign customer will have the financial capacity to make a payment six or 12 months later.

Operational Risk

Operational risk involves the documentation and customs process. For example, if your financial documentation is not in order, or foreign customs requirements are not met, goods could sit on a dock accumulating demurrage fees or be returned at your expense.

Country Risk

Country risk is often overlooked by exporters. It involves economic, political, and social risks that are largely beyond the control of the buyer, but can seriously impede or prevent payment from being effected.

Generally, economic conditions are reflected by growth, inflation, unemployment, balance of trade, and taxes. Political risks are often assessed in terms of country stability, and are sometimes measured by the level of confidence in a government. Social factors are usually concerned with social unrest and violence.

Country Risk Tends To Be Higher in Developing and Transitional Countries

In many developing and transitional countries, a change in leadership is often a time of instability. Should social turmoil envelop the nation, the disruption of activities could put your foreign buyer’s business at risk. And, a new government may impose economic policy that could prevent you from being paid for goods shipped.

Currency Fluctuations

Each nation’s currency can have a major impact on country risk — affecting the economy, and political and social stability. Plus, it could impact your ability to collect payment. For example, if your buyer’s currency is devalued by half its value and you are collecting in U.S. dollars, it will take twice as much of your buyer’s currency to pay you. This could put an enormous financial strain on your customers’ business.

On the other hand, if you are collecting payment in the foreign currency, you’ll receive half of what you expected. In either situation, this could put you in a very difficult position.

Currency Predictions Are Difficult

Factors affecting currency trends are complex and are contingent on seemingly independent activities, rhetoric and highly fluid capital shifts, in addition to macroeconomic forces. As such, predicting whether a currency will increase or decrease in value is very difficult and extremely risky. In fact, rarely is an economist, trader or investor able to foresee the chain reaction or identify the complex factors that lead to currency devaluations. Therefore, managing foreign currency exposure requires more than research-based predictions — it may demand a sound hedging strategy. Through the use of spot, forward and option contracts, for example, you can insulate your business and minimize the risks against losses due to currency fluctuations.

The Latin American Economic Crisis

On December 20, 1994, the economic situation in Mexico drastically changed. An attempted currency adjustment by the Mexican government, that some say should have occurred earlier but at a more gradual pace, accelerated out of control.

Within two days pressures mounted; currency reserves used to prop up the peso quickly dwindled. As a result, the peso was allowed to float freely. Shortly thereafter, it nose-dived. Like falling dominoes, what began as a short-term liquidity crisis, turned into a full panic. Many Mexican banks experienced severe problems.

Mexican fallout quickly spread to Brazil and Argentina, whose economies dipped, along with those in other developing countries worldwide. Exporters received what some have referred to as a “wake-up call,” reminding them that political and economic instability in developing countries can largely affect importers’ ability to pay for goods.

The Asian Financial Crisis

From 1997 through 1999, country risk in East Asia was high. With the front page news of plunging currencies — beginning with the Thai baht and quickly affecting the Malaysian ringgit, the Indonesian rupiah, and the Korean won — it is easy to understand the damage caused by currency fluctuations. Not only did the domino effect put pressure on traditionally strong currencies, but it also resulted in banking and financial crises, and economic recession in several countries.

More Recent Concerns

In 1999, Brazil and Ecuador became embroiled in separate financial crises. Both crises were precipitated by currency devaluations that impacted local businesses.

Today, many exporters agree that Russia deserves careful country risk consideration. Russia is in a period of major economic, political and social transition. Yet, with this upheaval we are seeing many changes and new opportunities.

The ongoing transitional period, however, has created instability. Unlike other countries in Central and Eastern Europe that appear to be adapting more easily to a market economy, Russia has no institutional memory of democracy or free markets and is struggling to make the transition. As such, the level of country risk has increased.

About The Author John Manzella [Full Bio]

John Manzella, founder of the Manzella Report, is a world-recognized speaker, author of several books, and an international columnist on global business, trade policy, labor, and the latest economic trends. His valuable insight, analysis and strategic direction have been vital to many of the world's largest corporations, associations and universities preparing for the business, economic and political challenges ahead.




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