“The year political risk became everyone’s risk.” That’s how one insurance specialist described 2023 in WTW’s most recent Political Risk Survey in light of the shock of the Russia/Ukraine crisis, while an executive in the automotive sector surmised the current geopolitical landscape: “Business and politics have lived in two different realities. The events of the past year have now aligned these realities.”
In our latest Outsmarting Uncertainty webinar series, we delved into what makes a smarter strategic approach to decision making in the face of three geopolitical risk scenarios, examining the dilemmas facing business leaders in moments of global crises. In this insight, we’ll look at the first two scenarios, considering a third scenario in a follow-up insight.
In the live webinar we used ancient Greece to establish the backdrop and escalation of events and the decisions facing an imagined business in that era. For the purposes of this insight, we’re simplifying the stories, treat these territories and business as hypothetical countries not based on any specific locations, but with features recognisable to global organizations today, putting you in the shoes of senior decision-makers. Our aim throughout is to reveal some best practice approaches and practical frameworks to help your business remain resilient in the face of disruptive global events.
Let’s imagine you’re part of the leadership team of a renewable energy business, a windfarm that’s connected to global supply chains in multiple ways – spare parts for your turbines and access to global territories to export the energy you create. Let’s now imagine a scenario where geopolitical tensions fuel political risk and a financial crisis for this business.
This scenario begins with a political faction gaining the upper hand in regional politics, leading to sanctions by an aggressor country where you have major operations. These severely constrains your operations in that territory and leads to a drop in electricity output.
This threatens the energy security of the state aggressor state in which you operate and your company is banned from exporting its wind power through interconnectors. The state insists that you sell all your remaining power domestically at the heavily subsidised rate that was previously agreed for only a fraction of the output, rather than the lucrative profit-generating commercial rates through interconnectors.
This combines with a drop in the local currency so you can no longer meet your debt obligations to lenders; and the other states you used to supply power to are suing for a breach under their power supply agreements with you.
Let’s think about your options in this sort of scenario, in particular the trade-offs senior leaders can face:
Option one – You could sell the assets in the territory of the aggressor. This would represent a clean break, sending a message to your shareholders you don’t support nations that attack citizens. What you lose in revenue you may get back in goodwill; it’s not unusual for share prices to jump when companies like yours make bold decisions. However, the board has a responsibility to shareholders to find buyers that provide value for your assets. A further consideration is how you will obtain requisite presidential sign-off for any sale, if your business is deemed to have strategic value.
Option two – You could wait the situation out, being mindful of the threat of nationalization and if this does happen, readying your case for taking the government to international arbitration. This is probably the least confrontational option, where you hope diplomacy works to end the tensions. If worse comes to worst, you can rely on international legal protections, however, international arbitration can take years to resolve, and it isn’t clear what the value of your enterprise will be if the business has been attritted for an extended period. If you are successful in winning an arbitration award, you will need the government to honour the arbitration award, something they may not be willing or able to do.
Option three – You could threaten to turn off production until the situation is resolved, the only plan of action where you have ‘teeth’. With this option, you hope the goodwill you’ve generated over the years will pay off and the government will see the errors of its ways and normal service resumes. However, as your business is deemed a strategic operation by the government, they could nationalise your assets as they are deemed as failing to deliver, your assets could then be on-sold to your direct competitors, who will use this as an opportunity to increase their market share at your expense. Any news of this threat will also impact your share price.
Option four – Voluntarily pull back, wherein you remain in the country but stop investing and scale back production. This way, you stop haemorrhaging money, stay below the government’s radar and continue to earn revenues. However, this is a hard line to walk. A decision to suspend or close any subsidiaries in the territory, could be deemed as moves towards intentional bankruptcy which would be a criminal offense resulting in the prosecution of local managers and ultimately asset nationalization.
So, let’s assess those options more closely.
For the path where you sell the assets in the territory of the aggressor to deliver a better outcome, you would need the government to value their international reputation and respect the rule of law. Where this looks doubtful, you may end up simply antagonising the political leadership and making the situation worse. Also, while a sell-off could avoid some complexity, it is not a good long-term solution: you lose a key asset and with it market share, opening the door to competitors.
Waiting it out and if there is a nationalisation, taking the government to international arbitration is far from ideal. This option means you need to continue to invest and produce power but you lose precious planning time and goodwill in your home market.
A phased voluntary pull back and only relying on international arbitration if everything else fails is probably the best option, in conjunction with the wait-and-see approach. You don’t want to react too aggressively as the government is likely to be looking for targets they can make an example of. Provided you speak to your lenders and ensure their ongoing support, time could be on your side. This path anticipates the need to make essential investments in order to retain value in the assets, but otherwise you are starting to run production down. If the situation doesn’t look likely to resolve itself, you can look for a buyer, perhaps selling to your local management team with a future buy-back provision. In this outcome, you would need to build an audit trail for the value of the enterprise so you have a strong case to argue if you were to end up in international arbitration.
Finally, if you go down this path, you would be well advised to think about what to do with any profits you make as you cannot and should not be seen to have profited from the human misery the home government is creating in the region. You could, for example, use any profits to establish a humanitarian trust to help those impacted by the situation.
Let’s now imagine you’re operating a mine in a mineral rich nation and that one day, social media reports emerge that your company’s operations are compromising the nation’s wealth. These lead to your expat workers facing violent threats and attacks. It’s not long before the warehouse are destroyed and staff members reportedly detained. Meanwhile, fake news is working to incite violence.
Perhaps you ran a planning exercise around a similar situation, but that doesn’t match what’s unfolding here and, regardless, some of the role and individuals specified in the resulting plans aren’t part of the business anymore. So, now, you need to get the right people around the table from legal, finance and HR, and quickly the situation is incredibly fast-moving and the information patchy.
So, your options now might include:
Leave the response to riots and unrest to the state’s emergency services.
The first reality to embrace here is that you’re going to have to make your decisions based on incomplete information. It’s something we see many organizations having to accept in times of political risk crises. You’re also going to have to be agile, adapting your response and thinking beyond the immediate crisis and how you’ll manage your supply chain and future operations.
Typically, most organizations will respond with something like option two or three, or a combination of both. We would say the one the key element is to always do what is in the best interest of your staff.
On this, in terms of the option of relying on a troubled states emergency services, this is often a challenge, particularly in territories where the local capability and scope may be limited; they will have competing priorities, and these may not align with yours. Often it’s best to develop plans assuming the worst-case scenario: you will receive no support from them. As a minimum, these plans should feature a framework you can easily adapt to a range of crisis scenarios, based on their intensity. This isn’t for business continuity or recovery, but for the crisis phase immediately following a kinetic incident.
Your crisis plans should:
In addition to this, outsmarting geopolitical uncertainty is about further pre-emptive work including reviewing your insurances to make sure they are fit for purpose for your geopolitical exposure and risk appetite; they provide financial protection as well as incident support for you and your people. You should also horizon scan routinely, calling in specialist support where you need to in order to anticipate sanctions or civil unrest before those moments of crises.
Listen to our experts discuss board-level responses to geopolitical risk in our recent podcast. And to speak to our political risk specialist, get in touch.
Stuart Ashworth is Head of Credit and Political Risk Insurance for Corporates and Head of Broking and Market Engagement for WTW's Financial Solutions team. Prior to this he spent nine years in Singapore, looking after WTW business covering Singapore, Hong Kong, Japan and Australia.