Module 8: Special Topics in Financial Management PDF

MODULE 8 PREPARED BY: RONALYN P. VILLALVA COLLEGE LECTURER  Multinational Financial Management Module Overview: This module aims to provide an in-depth understanding of the financial management challenges faced by multinational corporations (MNC...

MODULE 8 PREPARED BY: RONALYN P. VILLALVA COLLEGE LECTURER  Multinational Financial Management Module Overview: This module aims to provide an in-depth understanding of the financial management challenges faced by multinational corporations (MNCs) as they engage in global business operations. The module will cover various modes of international business, strategies for expansion, and the management of financial risks associated with operating in diverse global environments. Introduction Multinational Financial Management refers to the effective management of financial resources and strategies by corporations operating in multiple countries. In an era of globalization, companies expand beyond their domestic borders to capitalize on international markets, diverse resources, and strategic opportunities. However, conducting business on a global scale introduces a myriad of financial complexities and risks that require specialized knowledge and strategic financial management. The primary goal of Multinational Financial Management is to optimize financial performance, mitigate risks, and maximize shareholder value in the context of a multinational corporation (MNC). This field encompasses a broad spectrum of financial activities, including capital budgeting, financing decisions, risk management, and strategic planning, all tailored to the unique challenges presented by the global business environment. Key Components of Multinational Financial Management  Currency and Exchange Rate Dynamics: MNCs must navigate the complexities of multiple currencies and fluctuating exchange rates. The exposure to currency risk necessitates strategic decisions to hedge against adverse movements and capitalize on favorable changes.  Global Capital Markets: Multinational Financial Management involves tapping into global capital markets for financing. MNCs must choose optimal capital structures, considering the diverse financing options available in different regions and currencies.  International Investment Decisions: Decision-making in multinational corporations extends beyond domestic considerations. Evaluating the financial viability of international investments, whether through foreign subsidiaries, joint ventures, acquisitions, or other strategies, requires a nuanced understanding of global markets and risk factors.   Risk Management in Global Operations: Managing risks associated with political instability, economic fluctuations, regulatory changes, and cultural differences is paramount. Financial managers must develop and implement risk mitigation strategies to safeguard the financial health of the organization.  Cross-Border Mergers and Acquisitions: MNCs often engage in mergers and acquisitions on a global scale to gain market share, access new technologies, or achieve operational synergies. Multinational Financial Management plays a critical role in valuing, financing, and integrating these cross-border transactions.  Legal and Regulatory Compliance: Operating across borders requires a keen awareness of diverse legal and regulatory frameworks. Financial managers must navigate international tax laws, trade policies, and compliance standards to ensure the MNC operates within legal boundaries. International Trade International trade is the exchange of goods, services, and capital across national borders. It has been a driving force in shaping the global economy, fostering economic growth, and facilitating the exchange of ideas and technologies. The principles of international trade are rooted in the concept of comparative advantage, where countries specialize in the production of goods and services in which they have a lower opportunity cost, leading to increased efficiency and overall economic welfare. Importance of International Trade  Economic Growth: International trade contributes to economic growth by allowing countries to specialize in the production of goods and services where they have a comparative advantage. This specialization leads to increased efficiency, productivity, and output.  Resource Optimization: Nations can optimize resource allocation by focusing on industries that capitalize on their unique resources, whether it be natural resources, skilled labor, or technological expertise.  Consumer Benefits: International trade provides consumers with a broader range of goods and services at competitive prices. Access to a variety of products from different parts of the world enhances consumer choice and quality of life.  Innovation and Technology Transfer: Trade facilitates the transfer of technology and innovation across borders. Companies from different countries can collaborate, leading to advancements in technology and increased global competitiveness. Drivers of International Trade  Comparative Advantage: The principle of comparative advantage, proposed by economist David Ricardo, suggests that countries benefit by specializing in the production of goods and services where they have a lower opportunity cost.   Factor Endowments: Differences in land, labor, and capital resources among countries drive international trade. Nations may export goods that require abundant resources and import goods that are resource-intensive.  Economies of Scale: International trade allows companies to achieve economies of scale by producing goods in larger quantities, reducing the average cost per unit and making products more competitive in the global market.  Differences in Consumer Preferences: Variations in consumer preferences across countries create opportunities for exporting goods that cater to specific tastes and demands. Challenges in International Trade  Trade Barriers: Tariffs, quotas, and non-tariff barriers imposed by countries can hinder the free flow of goods and services, affecting trade relationships.  Exchange Rate Volatility: Fluctuations in exchange rates can impact the competitiveness of exports and imports, affecting the pricing and profitability of international trade.  Political and Regulatory Risks: Political instability, changes in government policies, and regulatory uncertainties can introduce risks and disrupt international trade.  Intellectual Property Protection: Ensuring the protection of intellectual property rights is a challenge in international trade, as different countries may have varying levels of enforcement. Global Supply Chains The evolution of international trade has led to the development of intricate global supply chains. Companies source components and services from various countries to optimize costs and efficiency. While this allows for increased specialization and competitiveness, it also exposes businesses to risks such as geopolitical events, natural disasters, and disruptions in the supply chain, as demonstrated by the COVID-19 pandemic. Role of Trade Organizations International trade is governed by a network of trade agreements and organizations. The World Trade Organization (WTO) serves as a platform for negotiating trade agreements and resolving disputes. Regional trade agreements, such as the European Union and NAFTA, aim to reduce barriers and promote economic integration among member countries. Future Trends in International Trade The future of international trade is likely to be influenced by technological advancements, the digitalization of commerce, and the pursuit of sustainable and inclusive trade practices. E-commerce, blockchain technology, and artificial intelligence are transforming the way businesses engage in global trade. Moreover, there is an increasing emphasis on environmentally sustainable practices and fair labor standards, reflecting a growing awareness of the social and environmental impacts of international trade.  Licensing Licensing is a business arrangement in which a licensor grants another party, the licensee, the rights to use its intellectual property, such as patents, trademarks, copyrights, or proprietary technology, for a specified period and under predetermined conditions. This strategic approach enables companies to expand their market reach without the need for substantial capital investment in new facilities or operations. Types of Licensing  Patent Licensing: Involves granting the right to use, make, sell, and distribute patented technology.  Trademark Licensing: Allows the licensee to use the licensor's brand name, logo, or other trademarked elements in association with specified products or services.  Copyright Licensing: Pertains to the use of copyrighted material, such as literature, music, or software, by the licensee for specific purposes and under defined conditions.  Franchise Licensing: A specific form of licensing that involves a broader relationship, including not only the right to use trademarks but also a complete business model, operational support, and ongoing assistance. Advantages of Licensing  Market Entry Strategy: Licensing offers an efficient means of entering new markets, especially in foreign countries, where establishing a physical presence might be challenging or costly.  Cost Savings: For licensors, licensing provides a source of revenue without the need for large-scale production or distribution. Licensees, in turn, benefit from gaining access to established brands or technologies without the upfront costs of development.  Risk Mitigation: Licensing allows companies to share the risks and responsibilities associated with entering new markets. The licensee assumes the operational and marketing risks, while the licensor retains control over its intellectual property.  Speed to Market: Compared to other market entry strategies, licensing can expedite the time it takes for a product or service to reach the market. This is particularly advantageous in industries with rapidly changing technologies or consumer preferences. Disadvantages and Challenges  Loss of Control: Licensors may face challenges in maintaining control over how their intellectual property is used. The licensee's actions and business decisions can impact the reputation of the licensor.  Limited Revenue Potential: While licensing provides a revenue stream, it may not generate the same level of profits as direct involvement in production and sales.  Licensors trade potential higher profits for the reduced risk and resource commitment.  Quality Control Concerns: Maintaining consistent product or service quality can be challenging when licensing, especially when operations are dispersed globally. Variability in quality may affect the licensor's brand reputation.  Dependency on Licensees: Licensors become dependent on the success and ethical conduct of their licensees. Failures on the part of licensees can have negative consequences for the licensor's brand image. Licensing Agreements  Terms and Conditions: Licensing agreements outline the terms and conditions under which the licensor's intellectual property can be used. This includes the duration of the license, geographic scope, royalty payments, and any restrictions on use.  Royalty Structures: Licensors typically receive royalties, a percentage of the licensee's sales, as compensation. The royalty structure is a critical aspect of the agreement and must be carefully negotiated to ensure fair compensation for both parties.  Protection of Intellectual Property: Licensing agreements include provisions for protecting the licensor's intellectual property. This may involve specifying quality control measures, monitoring mechanisms, and dispute resolution processes. Examples of Licensing  Technology Licensing: Companies in the tech industry often license their patented technologies to other businesses, allowing them to use specific innovations without having to develop them from scratch.  Brand Licensing: Fashion and consumer goods companies may license their brand names to manufacturers or retailers to produce and sell products under the established brand.  Entertainment Licensing: Film studios and content creators license their intellectual property to merchandise manufacturers, theme parks, and other entities to capitalize on popular characters and franchises. Challenges and Considerations  Loss of Control: One of the main challenges in licensing is the potential loss of control over how the licensed products or services are produced, marketed, and sold. Maintaining brand integrity and quality standards becomes critical.  Protection of Intellectual Property: Ensuring the protection of intellectual property is crucial. The licensor must have robust legal agreements and mechanisms in place to safeguard against unauthorized use or replication by the licensee.   Dependency on Licensees: The success of the licensing arrangement is contingent on the capabilities and performance of the licensee. Poor execution by the licensee can reflect negatively on the licensor's brand reputation.  Limited Revenue Potential: While licensing generates revenue, the licensor may miss out on the full revenue potential that could be realized through direct control over manufacturing and distribution. Franchising Franchising is a business model where an individual or entity (the franchisor) grants the rights to another party (the franchisee) to operate a business using its established brand, business model, and support systems. This strategic arrangement allows for the expansion of a business without the need for significant capital investment by the franchisor. Types of Franchises  Product Distribution Franchise: Involves the sale of products through franchised outlets, often with exclusive rights in a specific geographic area.  Business Format Franchise: Provides the franchisee with a complete business format, including the brand, operational procedures, and support.  Master Franchise: Involves a more extensive relationship where the master franchisee is granted the rights to sub-franchise in a specific territory. Challenges and Considerations:  Control and Consistency: Maintaining control over brand standards and ensuring consistency across multiple franchise locations can be challenging. Variations in quality and customer experience may impact the overall brand image.  Franchisee Selection: The success of a franchise system depends on selecting suitable franchisees. Franchisors must carefully evaluate potential franchisees to ensure they align with the brand's values and are capable of running a successful business.  Franchisee Independence: Balancing the need for consistency with allowing franchisees some degree of independence can be challenging. Franchisors must strike a balance that ensures adherence to brand standards while accommodating local market nuances.  Legal and Regulatory Compliance: Franchising involves navigating complex legal and regulatory frameworks. Franchisors must comply with franchise disclosure laws, intellectual property regulations, and other legal requirements, both domestically and internationally. Franchise Agreements  Terms and Conditions: Franchise agreements specify the terms and conditions under which the franchisee operates. This includes the duration of the franchise, territorial rights, royalty payments, and any restrictions on business operations.  Royalty Fees: Franchisees typically pay ongoing royalty fees to the franchisor, often calculated as a percentage of sales. Clear and fair royalty structures are crucial for maintaining a positive relationship between franchisors and franchisees.  Training and Support: Franchise agreements outline the training and support provided by the franchisor. This includes initial training for new franchisees and ongoing support in areas such as marketing, operations, and technology. Examples of Franchising  Fast-Food Chains: McDonald's, Subway, and KFC are examples of global fast-food chains that operate through a franchise model. Individual franchisees own and operate specific restaurant locations under the parent brand.  Retail Franchises: Retail brands, such as The UPS Store or 7-Eleven, often operate through franchising. Franchisees benefit from established branding, supply chain support, and operational guidance.  Service Franchises: Service-oriented franchises, such as cleaning services, fitness centers, or education centers, offer franchise opportunities where entrepreneurs can leverage an established business model. Advantages of Franchising  Brand Recognition: Franchisees gain immediate access to an established brand with a recognized reputation. This can significantly reduce the time and resources required to build brand awareness in the market.  Proven Business Model: Franchisees benefit from a business model that has been tested and proven successful by the franchisor. This includes operational processes, marketing strategies, and often, a track record of success in similar locations.  Training and Support: Franchisors typically provide comprehensive training and ongoing support to franchisees. This support covers various aspects, including operations, marketing, and management, helping franchisees navigate challenges effectively.  Economies of Scale: Franchisors can leverage the collective strength of multiple franchise locations, achieving economies of scale in purchasing, marketing, and other operational aspects. This can lead to cost savings for both the franchisor and franchisees.  Entrepreneurial Opportunities: Franchising offers entrepreneurs the opportunity to own and operate their own businesses with a higher likelihood of success compared to starting a business from scratch. The established brand and support systems reduce some of the risks associated with entrepreneurship. Disadvantages and Challenges  Franchise Fees and Royalties: Franchisees are required to pay initial franchise fees and ongoing royalties to the franchisor. While these fees contribute to the support and resources provided, they represent a financial commitment for franchisees.  Loss of Autonomy: Franchisees operate within the framework established by the franchisor, limiting their ability to make independent business decisions. The trade- off for brand support is a reduction in entrepreneurial freedom.  Quality Control Challenges: Maintaining consistent product or service quality across multiple franchise locations can be challenging. Variability in quality may impact the overall brand image.  Dependence on Franchisor: The success of franchisees is often linked to the overall success and strategic decisions of the franchisor. Changes in the franchisor's strategy or brand reputation can affect individual franchisees. Joint Ventures A joint venture (JV) is a business arrangement in which two or more independent entities come together to form a new business entity or collaborate on a specific project. Joint ventures are established to achieve shared goals, combining the resources, expertise, and capabilities of the participating entities. This collaborative approach allows organizations to leverage each other's strengths and share risks and rewards. Key Elements of Joint Ventures  Formation and Structure: Joint ventures can take various forms, including the creation of a new legal entity, a partnership, or a contractual agreement. The structure depends on the nature of the collaboration and the goals of the participating entities.  Equity and Ownership: Entities in a joint venture contribute capital, assets, or expertise in proportion to their agreed-upon ownership stakes. Equity ownership reflects the level of influence and control each party has in the joint venture.  Shared Risks and Rewards: Joint ventures distribute risks and rewards among the participating entities. Successes and profits are shared, but so are the challenges and losses. This shared responsibility encourages a cooperative approach to problem- solving.  Governance and Decision-Making: The governance structure of a joint venture outlines how major decisions are made, the allocation of responsibilities, and the mechanisms for conflict resolution. Decision-making authority may be proportional to ownership stakes or based on specific expertise. Types of Joint Ventures  Equity Joint Venture: Involves the creation of a new legal entity in which each partner holds equity.  Contractual Joint Venture: Entities collaborate through a contractual agreement without forming a new legal entity. This approach is common for short-term projects or partnerships.  Minority or Majority Joint Venture: In a minority joint venture, one partner holds less than 50% ownership, while a majority joint venture involves one partner holding more than 50% ownership. Advantages of Joint Ventures  Risk Sharing: Joint ventures allow companies to share the financial and operational risks associated with new projects or market entries. This can be particularly beneficial when entering unfamiliar or high-risk markets.  Access to Resources: Entities in a joint venture can pool their resources, including capital, technology, distribution networks, and expertise. This collaboration enhances the capabilities of the joint venture beyond what each party could achieve independently.  Market Expansion: Joint ventures provide a means for companies to expand into new geographic markets or industry segments without bearing the full burden of entry costs. Local partners can provide valuable insights into the nuances of the market.  Synergy and Expertise: Combining the strengths of different entities often results in synergies that lead to enhanced operational efficiency, innovation, and overall competitiveness. Each partner brings unique skills and perspectives to the collaboration. Disadvantages of Joint Ventures  Complex Decision-Making Process: Joint ventures involve multiple stakeholders, each with their own interests and perspectives. Decision-making becomes complex as partners may have differing opinions and must reach consensus. This complexity can lead to delays and challenges in implementing strategic initiatives.  Potential for Conflict and Misalignment: Differences in business cultures, strategies, and priorities among joint venture partners can result in conflicts. Misalignment of goals and values may emerge over time, creating tension within the collaboration. This potential for conflict can impact the overall harmony and effectiveness of the joint venture.  Risk of Partner Non-Performance: Joint ventures rely on the active and committed participation of all partners. If one partner fails to fulfill their obligations, such as  financial contributions, resources, or expertise, it poses a risk to the success of the venture. Non-performance by one partner may lead to financial strain, operational disruptions, and reputational damage.  Sharing of Profits and Losses: In joint ventures, partners share both profits and losses based on agreed-upon terms. While profit-sharing is equitable, the sharing of losses may pose a significant disadvantage, especially if partners are not directly responsible for the issues causing the losses. Unequal burden-sharing during challenging times can lead to dissatisfaction among partners. Challenges and Considerations  Cultural Differences: Joint ventures involving entities from different cultures may face challenges related to communication, decision-making, and business practices. Cultural sensitivity and effective communication are essential for successful collaboration.  Misalignment of Objectives: Misalignment of goals and expectations among the participating entities can lead to conflicts. Clear and comprehensive agreements, including well-defined objectives and exit strategies, are crucial for mitigating such risks.  Coordination and Integration: Coordinating activities and integrating the operations of multiple entities can be complex. Differences in management styles, processes, and systems may require careful planning and execution.  Legal and Regulatory Challenges: Joint ventures may face legal and regulatory challenges, especially when operating in different jurisdictions. Ensuring compliance with local laws and navigating complex regulatory environments is a critical consideration. Examples of Joint Ventures  Automotive Industry: Many joint ventures exist in the automotive sector, where companies collaborate to develop new technologies, share manufacturing facilities, or enter new markets.  Telecommunications: Joint ventures are common in the telecommunications industry, with companies partnering to build and operate network infrastructure or to enter emerging markets.  Pharmaceutical Research: Pharmaceutical companies often form joint ventures to pool resources for research and development, particularly in the development of new drugs or medical treatments.  Acquisitions of Existing Operations Acquisition refers to the process by which one company purchases the assets, liabilities, and operational control of another existing business. This strategic move is often undertaken to achieve various business objectives, including expansion, market share growth, synergy creation, and diversification. Acquisitions can take the form of friendly negotiations or hostile takeovers, depending on the mutual agreement between the acquirer and the target company. Key Elements of Acquisitions  Target Identification and Due Diligence: The acquisition process typically begins with the identification of a target company. Due diligence is then conducted to assess the financial health, operational capabilities, and potential risks associated with the target. This thorough investigation is critical for making informed decisions and valuing the target accurately.  Valuation: Determining the fair value of the target company is a complex process that involves assessing its assets, liabilities, future cash flows, and market position. Various valuation methods, such as discounted cash flow analysis, comparable company analysis, and precedent transactions, may be employed.  Negotiation: Negotiations between the acquirer and the target company involve discussions on terms, purchase price, and deal structures. The negotiation phase can be influenced by factors such as market conditions, competition, and the strategic motivations of both parties.  Legal and Regulatory Compliance: Acquisitions must adhere to legal and regulatory requirements. This includes antitrust regulations, disclosure obligations, and any industry-specific regulations that may apply. Regulatory compliance is crucial to avoiding legal challenges and ensuring a smooth transition. Types of Acquisitions  Horizontal Acquisition: Involves the acquisition of a competitor operating in the same industry.  Vertical Acquisition: Involves the acquisition of a company in the supply chain or distribution network.  Conglomerate Acquisition: Involves the acquisition of a company in a completely different industry, diversifying the acquiring company's portfolio. Advantages of Acquisitions  Rapid Market Entry: Acquisitions provide a quick entry into new markets or industries without the time and resources required to build from the ground up.   Synergy Creation: Strategic acquisitions aim to create synergies, where the combined entities achieve greater operational efficiency, cost savings, and enhanced competitive advantages.  Access to Talent and Expertise: Acquiring companies often gain access to the talent, expertise, and intellectual property of the target, contributing to innovation and organizational growth.  Diversification: Acquiring businesses in different industries or geographic locations can help diversify a company's portfolio, reducing risk and increasing resilience in changing market conditions. Disadvantages of Acquisitions  Integration Challenges: Integration challenges arise when merging the acquired operations with the existing business. This includes aligning organizational cultures, processes, and technologies, which can be complex and time-consuming.  Cultural Clash: Cultural clash refers to differences in organizational cultures between the acquiring and acquired companies. These differences can manifest in communication styles, management approaches, and work practices.  Financial Strain: Acquisitions often involve significant financial investments, including the purchase price, integration costs, and potential restructuring expenses. The financial strain can impact the acquiring company's liquidity and overall financial health.  Customer and Employee Disruption: Acquisitions can cause disruptions among both customers and employees. Customers may face uncertainties about the continuity of products or services, while employees may experience changes in roles, reporting structures, and job security. Challenges and Considerations  Integration Challenges: Merging the operations, cultures, and systems of the acquiring and target companies can be challenging. Successful integration is critical for realizing the anticipated synergies and maximizing the value of the acquisition.  Financial Risks: Acquisitions involve financial risks, including the potential overvaluation of the target, unforeseen liabilities, and the cost of financing the acquisition. Diligent financial planning and risk assessment are essential.  Employee Concerns: Workforce integration and management of employee concerns are critical factors for successful acquisitions. Addressing cultural differences, maintaining employee morale, and minimizing disruptions are key challenges.  Market Perception: The success or failure of an acquisition can significantly impact the market perception of the acquiring company. Managing stakeholder expectations and communication is crucial to maintaining investor confidence.  Establishing New Foreign Subsidiaries International Risks Establishing new foreign subsidiaries is a strategic move that offers significant opportunities for global expansion and market presence. However, it comes with inherent risks associated with operating in unfamiliar environments. Successful navigation of these risks is crucial for the long-term success of the multinational corporation (MNC). a. Exchange Rate Movements Exchange rate movements pose a significant risk when establishing new foreign subsidiaries. Fluctuations in currency values can impact the financial performance, costs, and profitability of the subsidiary, affecting the overall financial health of the multinational corporation (MNC). Challenges and Considerations  Transaction Exposure: Suppose the foreign subsidiary conducts transactions in a currency different from the reporting currency of the MNC. In that case, exchange rate movements can lead to gains or losses on these transactions, affecting the subsidiary's financial results.  Translation Exposure: The financial statements of the foreign subsidiary, when translated into the reporting currency of the MNC, can be impacted by changes in exchange rates. This can influence reported profits and financial position in the consolidated financial statements.  Hedging Strategies: MNCs often employ hedging strategies to manage exchange rate risks. For example, using forward contracts or currency options to lock in exchange rates for future transactions. However, these strategies come with costs and complexities and may not provide full protection. Examples: Consider a U.S.-based MNC establishing a subsidiary in the Eurozone. If the U.S. dollar strengthens against the euro, the translated profits of the Eurozone subsidiary in the consolidated financial statements of the MNC may decrease, impacting overall financial performance. Alternatively, if the subsidiary conducts sales in euros and the U.S. dollar weakens, the MNC may face higher costs when converting euro-based revenues into U.S. dollars. To mitigate these risks, the MNC might use currency hedging instruments, such as forward contracts, to lock in exchange rates for specific transactions or periods. b. Foreign Economic Conditions Foreign economic conditions encompass factors such as economic growth, inflation rates, interest rates, and overall economic stability in the host country. These conditions can significantly affect the success and sustainability of a new foreign subsidiary. Challenges and Considerations  Economic Volatility: Economic conditions in the host country may be subject to volatility, impacting the demand for goods and services. Economic downturns can affect the revenue and profitability of the foreign subsidiary.  Inflation and Interest Rates: High inflation rates and interest rates in the host country can increase operating costs and impact the financing costs for the subsidiary. MNCs need to adapt financial strategies to varying economic conditions. Examples: Suppose an MNC establishes a manufacturing subsidiary in an emerging market. If the host country experiences rapid economic growth, there may be increased demand for the subsidiary's products. However, if the country faces an economic downturn, the subsidiary may experience reduced sales and profitability. Inflation in the host country can also impact costs, making it more expensive to operate the subsidiary. Additionally, high-interest rates may increase the cost of financing for the subsidiary. To navigate these economic conditions, the MNC needs to conduct thorough market research, adapt pricing strategies, and develop contingency plans. c. Political Changes Political changes in the host country can have profound implications for the operations and stability of a new foreign subsidiary. Changes in government policies, regulatory frameworks, or geopolitical events can introduce uncertainties and risks. Challenges and Considerations  Political Risk Assessment: MNCs need to conduct a comprehensive political risk assessment before establishing a new foreign subsidiary. This involves analyzing political stability, regulatory environments, and the likelihood of policy changes.  Regulatory Compliance: Political changes can lead to alterations in laws and regulations affecting businesses. Ensuring compliance with new or modified regulations is crucial to avoid legal challenges and operational disruptions. Examples: Consider an MNC establishing a subsidiary in a country where there's a sudden change in government leadership. The new government may introduce policies that impact the business environment, such as changes in taxation, trade regulations, or nationalization of industries. Political instability, protests, or geopolitical tensions can disrupt operations and supply chains, affecting the subsidiary's ability to function effectively. To mitigate political risks, the MNC may engage in government relations, build relationships with local authorities, and develop contingency plans for unforeseen political events.