Political risk and adjusted present value

Abstract

This paper addresses three interrelated issues: a comparative analysis of the political risks for foreign direct investments in forty-nine countries located throughout the world; an adjusted present value procedure that incorporates political risk; and an application of the adjusted present value procedure to a numerical example in a sensitivity analysis. The comparative analysis relies on the statistical methods of mutliple regression analysis and discriminant analysis. The multiple regression models are estimated by the probit analysis procedure, whereas the discriminant analysis models are a four-group problem. Both methods give Switzerland the country least politically risky, followed by the United States; Iran ranks as the worst. Such a rating is essential for multinational corporations selecting countries for direct investment. The article then investigates how to make use of the adjusted present value and sensitivity analysis techniques to manage against political risk and evaluate overseas direct investments as well as to select countries.