INTERNATIONAL BUSINESS FINANCE - Essay Example

Financial Risk Management at British Petroleum Financial Risk Management at British Petroleum Financial risks material to this paper are of two natures. The first one is known to be stemming from the probability of currency exchange rates’ fluctuations that may render the investment of the company in tangible assets to depreciate or appreciate over the passage of time. However, the multinationals have adopted to transfer this particular risk upon investors who buy their derivatives. The derivative is a contract in simple terms and it is called that because it derives value from organization’s real assets (Hull, 2008).

The companies take risk of losing derivative’s value as its corresponding asset’s worth lowers in the open market. The profit and loss on derivates are duly adjusted in profit and loss statement of the companies. The second peril is known as price risk which stems from the possibility of companies’ salable items to lose value in the market (Salameh, 1995). There are various techniques used for managing this risk but the most favored ones are statistical tools such multiple regression analysis that is particularly deployed in order to determine the affects of several variables on the value of an outcome value.

In this case, the outcome value is none other than price of a particular product. The estimates are usually made with the help of using historical mean values of the independent constructs. Additionally, it is very important to know that estimates can be wrong and erroneous and an entirely new set of realities can also emerge in the market that may defy all estimates and speculations and therefore, the management of an organization must remain open to experiencing the unexpected in the real world scenario.

The value of human error must also be incorporated in the estimation process. However, the reality does not differ from what had already happened in the past in major number of cases. Based on the above argument, it can be believed that the statistical predictions about future prices of a particular product remain accurate most of the times. The industries of the world also vary on the basis of their risk potential such as trading businesses have higher risk of growing competition than technological companies whereas, the technological companies have to continue to innovate than hotel chains.

Finally, the companies operating in the field of oil production have to keep a close eye on their transportation, investment and personnel costs because they are facing hefty difficulties in terms of acquiring raw oil as it is getting scarcer as time moves forwards. The processing costs are also on rise and the pressure on infrastructure is also mounting because it is required to process growing volumes of oil and therefore, it experiences wear and tear on a growing level as well. The oil processing companies are supposed to check market prices of their assets every now and then in order to remain sure about their actual value in the open market.

British Petroleum is a company that is using derivatives as means of hedging against the price fluctuations regarding international currencies. The company invites investors to invest in its assets that are reevaluated so that their reasonable market prices can be determined and income and trouncing in this regard are duly recorded in the profit and loss statement of the company (British Petrolium, 2012). The company is no doubt using conventional method of managing currency exchange risk. The British Petroleum’s product demand is fluctuating for the past number of years and that is why it has been forced to use extremely sophisticated methodology for predicting futuristic prices of its offerings in the open market.

The company generates value at risk tables and determines the level of danger of losing worth of its products in the market in different scenarios. The scenarios are formally known as simulations and then contingency plans are made in order to deal with each possible outcome (British Petrolium, 2012). The current market situation of the oil market is pointing out the presence of nearing singularity where companies will run out of contingency plans and risks will simply become unmanageable. The industry of alternative power sources will eventually emerge and the oil empire will have to fall sooner or later (Salameh, 1995).

The companies like British Petroleum have to find new oil resources in order to keep their product costs in check but the afore-stated goal is not an easy one to achieve. The exploration for new oil reserves is getting increasingly difficult because the governments are getting more and more concerned about controlling environmental costs of oil extraction processes. Additionally, they are also looking to manage the drainage of money from local economies. Furthermore, the governmental offices throughout the world are currently getting engaged in finding ways to fuel their systems with power generating sources other than the fossil oil.

The present times have been witnessing the rapid development of mechanical, hydro, solar and wind energy (Salameh, 1995). And now the process that will cause oil to become an outdated way of powering mechanics is entering into final stages where even the most sophisticated statistical models are not going to help the oil companies to determine and manage risks. Conclusively, it can be argued that BP is using methods of issuing derivatives in order to manage possibility of losing assets’ value and things are going adequately well in this area as well.

However, the real trouble exists in finding ways to minimize the costs and that cannot be done without finding new oil sites. The lucrative oil sites are presently in control of nations which are more than committed to make a fortune out of them. The industry of alternative energy sources is on the rise as well and people are significantly getting attached with the notion of saving the planet and therefore, it is only the matter of time before BP’s degree of risk exposure will become unmanageable.

References British Petrolium. 2012. Financial Statesments of BP plc. British Petrolium, London. Hull, J. C. 2008. Options, Futures and Other Derivatives 7th ed. Pearson Prentice-Hall, London. Salameh, M. G. 1995. China, oil and the risk of regional conflict. Survival: Global Politics and Strategy, 37 No. 4, 133-146.