Ruritanian Financial Aspect of Its Operations - Essay Example

?The Ruritanian Project Introduction After the generation of a promising idea and recognition of the plan to enter into another country, environmental scanning becomes the next important step that helps in revealing the prospective threats, opportunities, weaknesses and strengths for the business enterprise. Therefore, after judging these fine details, it is advisable to conduct an evaluation of the business environment of the country in which the organization is planning to operate. The various variables that need to be scanned are social, economic, demographic, governmental, technological and cultural. Organizations can choose to conduct environmental scanning of varying level such as, multinational, regional and national. In case of multinational, a wide range of aspects are assessed to identify, forecast and monitor the trends. These trends include the political and economic trends of the countries (Deresky, 2006; Lall and Sahai, 2008). In this case, the company, which is headquartered at United Kingdom, is planning to open its new manufacturing unit in Ruritania. Ruritania is a developing Eastern European country with a stable political and economic condition. This report focuses on providing an analysis of the impact on financial aspect of the organization owing to its operation in this country. The analysis is based on the data provided in the case. Figure 1: Environmental forces affecting the organization (Source: Kerin, Hartley and Rudelius, 2010) Market growth For Foreign Direct Investment, decision making of the multinational enterprise in the host country, market size, per capita income, degree of development and changes of market growth, play an important role. The host countries with higher degree of economic development, increasing market size and rapid economic growth are seen to provide better opportunities to the MNEs to exploit the ownership advantages and accomplish economies of scale. It has been suggested that market growth and market size are some of the driving forces that helps the foreign firms with location specific decision making. The market growth plays a leading role in the developing economies to decide on the development of the country from two perspectives such as, increasing domestic market and higher amount of industrial growth. Per capita income, market growth and market size are the traditional economic variables that attract the FDI. From the perspective of the company, they are more likely to invest in the countries with larger market size, higher purchasing power and higher growth potential, rather than the countries with smaller market size, lower purchasing power and dawdling economic growth. Market related variables such as, GDP growth, GDP per capita and GDP are also used by the FDIs as important determinants. The level of GDP is seen to capture prospective economies of large scale production and specifically helps in measuring the size of the market. FDI is nothing but a unit of the foreign organization that is trying to establish one of its units in the host country. The absolute and relative sizes of the market are used for estimation. The absolute size of the market is captured by the level of GDP, whereas the growth rate of the GDP is represented by the relative size. A higher amount of GDP per capita generates similar results as the lower balance of payment deficit. The FDIs are seen to be attracted to the host country if they have greater size of potential market and higher amount of GDP (Buxheli, 2011). In the Ruritanian case, the GDP of the country has shown an average growth of 6 percent for the past five years, but in the current year, it has shown growth rate of only 0.07 percent, which is poor. This clearly indicates that the GDP growth rate has decreased and the economy is not in a healthy state. A higher growth rate of the GDP implies a robust economy, thereby simultaneously suggesting that the level of unemployment is low and wage increases. On the contrary, if the GDP growth rate is low or negative, then it implies that the economy is in an unhealthy state. This further implies that the profit of the companies will decrease, which in turn will also impact the stock price. Considering these constraints, it can be suggested that the organization might face difficulties from the financial perspective, if it enters into Ruritania. Inflation Apart from the Gross Domestic Product, the rate of inflation prevalent in the country is also taken as an indicator of the economic growth. Research have shown that there a long run non-linear relationship between economic growth and inflation. Inflation is seen to have a negative impact on the economic growth, if it exceeds a certain threshold point; otherwise, inflation accelerates the economic growth. Inflation distorts the tax system and makes the investors uncomfortable. A higher amount of inflation rate leads to greater volatility in the inflation, which in turn discourages long-term investment and uncertainty increases (Eesti Pank, n.d.). In this case, the country shows a stable rate of inflation, averaging around 5.2 percent over the past five years. This implies that the inflation is stable, which also enhances the stability of the economy. A rapid change in the inflation is considered to create negative results as it complicates the decision-making process regarding the economy and slows down the rate of economic growth simultaneously. Stability in the price inflation will contribute towards the high level of economic activity and employment of Ruritania. As the company is aiming to open its manufacturing unit in that country, employment becomes a crucial aspect for them. Moreover, due to this stability in the price inflation, the relative changes in the price will be well-recognised by the organization, without any confusion regarding overall level of price. This in turn will help them in well-informed decision making regarding investment, consumption and allocation of resources, in a more efficient manner. Thus, this depicts that stability of the economy is beneficial from financial perspective of the company. Political stability and Taxation policy For the FDI, the general, social, economic and political stability of the host country is very important. A well-functioning and transparent legal framework as well as business environment is the first priority for the organization. This is due to the fact that stability lowers the amount of risk involved in conducting the business, in an unknown and unfamiliar environment. In this respect, the rules and regulations that guide the entry and operations of the foreign firm as well as the standard of treatment are highly relevant. Fair business practices and high corporate governance framework are important too. Restrictive and bureaucratic administrative practices along with pervasiveness of bribery are seen to give rise to additional costs. This is not only seen to adversely impact the initial FDI decision, but also, the successive reinvestment plans of the organization. The policies that affect the structure and functioning of the market are also important such as, privatisation, merger and acquisition, competition, trade policies and coherence of other policies. Finally, the FDI before investment also checks the reliable investment protection that is of minimum requirement (OECD, 2002). A FDI feels less attracted if the dispute-settlement policy is not transparent. In this case study, even though the country does not show a long tradition of democracy, yet the government is elected democratically for the last two decades. Ruritania currently has two major parties, who will participate in the election that is due within the next nine months. The present government is seen to be enjoying a majority of 7 percent of the other party by the recent opinion poll. The other party is committed towards the market-based economy and democratic principle. If they are elected as the next ruling party of Ruritania, then both personal and corporate taxes are expected to increase, thereby creating a hike in the social expenditure. Research has provided huge evidences regarding significant adverse effects of corporate tax rates on entrepreneurship and corporate investment. The effect is more robust if the other tax rates are controlled such as, the sales tax, VAT and personal income tax, in order to measure the inflation, seignorage, openness of foreign trade, economic development, regulations, property protection right, tax compliance and administrative burden. A lower amount of investment in the manufacturing sector is noticed, if the corporate income tax increases. However, in case of services, the scenario is not the same. Therefore, it can be said that corporate tax holds high importance, while considering opening new manufacturing unit in the country, where there are possibilities of corporate tax to increase (Djankov, et al., 2008). Increase in the corporate and other taxes may lead the organization to incur larger amount of cost than they would have otherwise. Though the country is politically stable, however, the change in the ruling party may affect the profitability of the organization by increasing the tax burden. Membership of European Union The case suggested that Ruritania is planning to gain the membership of European Union. The membership is expected to create positive impact on the Ruritanian economy and provide competitive advantage to several foreign companies, planning to conduct their business in that country. The country will gain access to the European Structural and Cohesion Funds of the European Union. This fund can be distributed in various enterprises and government institutions, such that planning can be made regarding allocating the funds in different developmental initiatives. The influx of cash can be of huge advantage to the economy. The membership to the community can bring prosperity, security, democracy and stability in the economy too. This will also accelerate the GDP growth, which in turn will create more jobs and boost the wages. Moreover, the business confidence will increase and the FDIs will feel attracted. The mobility of the workforce will increase which will decrease the risk. The competition will increase to drive the innovation. The state subsidy system will be harmonised by the EU regulations. This membership will bring specific advantages for the company, in form of transparency in the taxation, proper accounting rules, no restrictions while trading within the EU and simplified procedure while trading with other EU member states. Moreover, the Eastern European countries by entering into the membership of European Union are seen derive specific advantages such as, political stability, increasing trade (which will lower the price for the consumers) and large number of exports for industries with comparative advantages as well as increasing the inflow of investments. Thus, if Ruritania gets the membership for the EU, then it will be highly beneficial for the organization (Hungarian Chamber Of Commerce and Industry, n.d.; Johnston, 2011). Currency Crown is the presently used currency in Ruritania, which is managed centrally and allowed to float freely by the government. In the initial years of adapting Crown, the currency had experienced significant amount of fall in the value, but now it experiences higher amount of stability. However, as Ruritania is planning to get the membership of European Union, it will be of great advantage to the country, as it will then deal in Euros. Euro had been created as a single currency in which the member states will operate. This currency will not only eliminate the exchange cost, fluctuation risk and strengthen the single market, but will also incorporate better cooperation among the member states by establishing stability in the currency. Apart from these cross-border trades, investments will also be encouraged by bringing stability in the economy (European Commission, 2013; Stastna, 2011). Conclusion The whole discussion suggested that though maximum factors linked with the economic development of the country are expected to positively impact the organization’s financial aspect, yet some of these require more attention. Firstly, the GDP growth rate of the country has decreased which is a matter of concern for the company. Secondly, changes in the ruling party will make the company suffer from significant tax burden and therefore, increase the cost. Thirdly, if the country does not get the membership of EU and changes its currency in Euro, then it will give rise to concerns, as they will deal in Crown and the organization will incur exchange cost. Thus, these are some of the financial issues that the company must consider. Reference List Buxheli, B., 2011. What is the attractiveness of Albania for Foreign Direct Investment (FDI) flows? Munich: GRIN Verlag. Deresky, H., 2006. International management: Managing across borders and cultures. 5th Ed. New Delhi: Pearson Education India. Djankov, S., Ganser, T., McLiesh, C., Ramalho, R. and Shleifer, A., 2008. The Effect of Corporate Taxes on Investment and Entrepreneurship [pdf] National Bureau of Economic Research. Available at: [Accessed 26 December 2013]. Eesti Pank, n.d. Importance of price stability [online] Available at: [Accessed 26 December 2013]. European Commission, 2013. Economic and Financial Affair [online] Available at: [Accessed 26 December 2013]. Hungarian Chamber Of Commerce and Industry, n.d. Benefits of EU Membership [online] Available at: [Accessed 26 December 2013]. Johnston, P., 2011. What are the benefits of staying in the European Union? The Telegraph [online] Available at: [Accessed 26 December 2013]. Kerin, R., Hartley, S. and Rudelius, W., 2010. Scanning the Marketing Environment [pdf] McGraw Hills. Available at: [Accessed 26 December 2013]. Lall, M. and Sahai, S., 2008. Entrepreneurship. New Delhi: Excel Books India. OECD, 2002. Foreign Direct Investment for Development Maximising benefits, minimising costs: Maximising benefits, minimising costs. Paris: OECD Publishing. Stastna, K., 2011. Euro: the common currency explained: How Europe's currency came to be and how it's used today. CBC News [online] Available at: [Accessed 26 December 2013]. Read More