Political Risk: Recognition and Management

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Events around politics are grabbing more news headlines and commentary as the months go by. The signs are ominous that 2018 is going to be a year of fast paced economic activities as government attempts to cover for any lost grounds. We will also witness deft maneuvers and horse trading by political actors.

National elections are always looked upon with anticipation because of the power citizens can derive to determine changes in the direction of governance. The buildup is usually a period characterised by high tension and uncertainties. Anything uncertain is characterised by an element of risk due to the outcome which could be unpredictable and uncontrollable.

Business strategies are driven by assumptions which are known, but what happens when there is a deviation and the truly unexpected occurs? When political factors affect business? And when models, simulations, and forecasting all fail critically?
Typically it could be one of two things: Denial or paralysis. Both are understandable, but they do nothing to help ensure business survival. There is a potential upside, however, for those with the foresight to mobilise in light of disruptive scenarios—and respond in a way that ultimately powers performance.

As we cross over to 2018, and the election year draws closer, Nigerian voters will be given the opportunity to make changes to how they are being governed. If so, these changes could have economic, political, and cultural knock-on effects resulting in disruptive scenarios.
Those enterprises that recognise the complex eco-political variables and develop a plan of attack for political risk management will be better positioned in the evolving marketplace. Others that sit on the sidelines may see opportunity pass them by. The downsides of ignoring risk can be far more complicated than trying to understand it (and manage it).

Political risk generally refers to uncertainty regarding adverse political situations. These include a possibility of economic instability leading to government closures and a shutdown of industries, as workers either refuse or are no longer able to do their jobs. Essentially for private businesses, political risk is defined as the risk of losing money as a result of uncertain politically motivated outcomes, or regulatory environments. Acts of terrorism, wars, and military coups are all extreme examples of political risk.

As a nation, we have been through peaceful elections and handovers in the past, therefore the approaching elections in 2019 should not be a cause for any concern. But business and government leaders make a serious mistake when they ignore or underestimate the consequences of any unfolding political risks. Any breakdown in law and order has the potential to pose significant problems. Therefore, this risk is of significant importance because of the substantial impact it has on the performance of every player big or small.

Most companies have increasingly focused their attention on financial, market and operational types of risk, and neither measure nor manage political risk. Organisations tend either to accept (or ignore) these risks, or to avoid altogether situations that seemingly pose large political risks, even when those risks are accompanied by significant opportunity.

Political risk management can be integrated into existing enterprise risk management (ERM) systems, yielding potential benefits such as lower risk management costs (through more rational hedging and insurance purchasing); new revenue streams from industries that would be too risky to enter without risk management support; better performance of existing businesses in high risk sectors; and loss mitigation through improved business continuity planning and crisis management.
Political risk may have different characteristics than other types of risk, but it can – and should – be managed. Effective management of political risk can enable companies to enter and navigate new business environments, providing a potential for competitive advantage.

The complex and ever changing factors that pose political risk are intimidating. A three-step process can be used to enable companies identify key political risks, measure their potential impact on performance, and determine the best method to manage such risks.

The first step is to identify the main political risks that exist and can be imagined. Gauging your environment holistically, based on geopolitical, ecological, and social factors, among others, is a key consideration when building a clear and comprehensive risk assessment. The key question at this stage is: “How can political actors or conditions directly affect our objectives?” From here, risk managers can develop an inventory of political risk types. A sound management team can then develop an evidence-based set of risk scenarios, based on both well-defined and highly specific data directly relevant to the company’s objectives.

In the second step, armed with a very specific set of political risk scenarios, an assessment and measurement of the potential impact of each scenario on the business is carried out. Discounted cash flow (DCF) analysis can be used, for example, to estimate the financial impact of specific events as an input to help organisations understand their tolerance levels. Other tools, such as an organisational network analysis, can help determine the estimated operational impact of specific risks.

Finally, once risks have been identified and measured, an effective system for active political risk management can be put in place. The first element in managing political risks is to map potential risk management methods against the priority risks. A course of action and framework can be designed to assign responsibilities and establish a schedule for consultation, reporting and review, as with other risk controls.

An enduring lesson from the past is that scanning, evaluating and, when necessary, adapting to this risk should be key to any survival strategy. The political actors also have a duty in the coming months to ensure transparency and minimal disruption to business and economic activities as the election stages warm up.