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Risk perception and risk managementin the Middle East market: theory andpractice of multinational enterprises inSaudi ArabiaSebastian Hain aa Chair of Business Mathematics , Goethe University , Frankfurt,GermanyPublished online: 13 May 2011.

To cite this article: Sebastian Hain (2011) Risk perception and risk management in the Middle Eastmarket: theory and practice of multinational enterprises in Saudi Arabia, Journal of Risk Research,14:7, 819-835, DOI: 10.1080/13669877.2011.571777

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Journal of Risk Research

ISSN 1366-9877 print/ISSN 1466-4461 online© 2011 Taylor & FrancisDOI: 10.1080/13669877.2011.571777http://www.informaworld.com

Risk perception and risk management in the Middle East market: theory and practice of multinational enterprises in Saudi Arabia

Sebastian Hain*

Chair of Business Mathematics, Goethe University, Frankfurt, GermanyTaylor and FrancisRJRR_A_571777.sgm(Received 14 June 2010; final version received 18 February 2011)10.1080/Journal of Risk Research1366-9877 (print)/1466-4461 (online)Article2011Taylor & Francis0000000002011

This exploratory study investigates the risk perception and risk managementstrategies of Western multinational enterprises in the Middle East. A sample of 49German companies operating in Saudi Arabia provides the empirical setting forthis research. The study reveals that cultural risk is assessed as more important inthe business environment than political, financial, and economic risk. The mostcritical risk factors are not sufficiently included in the methodology of country riskmeasures, which are often used as a source for country-specific risk information.In terms of risk management strategies, participating firms use mostly informalapproaches rather than structured hedging or insurance products. Furthermore, wefind that firm size has implications on the perception of some risk factors and forthe level of risk management sophistication.

Keywords: risk perception; risk management; risk reduction measures; countryrisk; Middle East

Introduction

All kinds of organizations face risk due to unexpected changes in their business envi-ronments. Those corporations that reach for new opportunities in distant and unfamiliarcountries have to deal with additional and different kinds of risks, which can varyconsiderably from country to country. Identifying and managing potential hazards isa main strategic objective of firms operating across national boundaries (Ghoshal 1987).

Because of globalization, more and more multinational enterprises (MNEs) trade,invest, and compete outside their home markets. Aside from the export of goods andservices, the foreign direct investment (FDI) of MNEs is an important element of theseinternational business activities. After six years of consecutive increase, FDI to theWest Asia region decreased by 24% to $68 billion in 2009 (UNCTAD 2010). SaudiArabia remained the region’s largest recipient of FDI, with total inflows reaching$36 billion. According to the IMF (Chan and Gemayel 2004), the level of risk forinvesting in the Middle East and North Africa region has historically been higher thanin developed countries.

Although the relevance of the Middle East and Saudi Arabian markets is growingfor FDI and the associated risk seems to be important, there is no particular researchon the risk perception of multinationals in the region. Various empirical studies haveinvestigated the effect of risk on FDI in general with most analysis in the field of political

*Email: shain@stud.uni-frankfurt.de

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risk. A large proportion of this research has applied statistical techniques to secondarydata to understand the association between the flow of FDI and risk (e.g., Fatehi andSafizade 1994; Busse and Hefeker 2007). Other studies have collected primary databy contacting MNEs and inquiring about their foreign investment practices (e.g., Kobrin1978; Mortanges and Allers 1996). Although these empirical studies have not producedconsistent results, they have revealed that various political risk factors (e.g., bureau-cracy), economic risk factors (e.g., business conditions), and financial risk factors (e.g.,exchange rates) influence foreign investment inflows. However, these empirical studieshave largely ignored cultural factors. Hofstede (2001), a pioneer of cross-cultural stud-ies in international business, stated that culture is more often a source of conflict thanof synergy. As Deresky (2008) pointed out, companies and their management oftenseriously underestimate the impact of cultural factors because of a lack of knowledgeregarding cultural variables. In fact, some empirical studies have indicated that culturaldifferences lower the performance of MNEs (Luo and Peng 1999; Palich and Gomez-Mejia 1999). The theoretical argument underlying this assumption is that high culturaldifferences tend to provoke conflicts between the international divisions of MNEs,which can lead to the poor implementation of organizational actions. Moreover, theperformance might be negatively affected because of increased training, monitoring,and control costs.

It should be noted that a part of the risk literature has studied cultural differencesrelated to individuals’ risk perception. This area of research is known as the culturaltheory of risk perception and originated in the work of Douglas and Wildavsky (1982).The theory seeks to explain political conflict over risk regulation and is thereforedifferent from our analysis of cultural differences as a risk for MNEs.

Much of the existing literature relating to possible risk management strategies forMNEs highlights particular uncertainties, but omits uncertainties that are difficult toquantify. A lot of research in the international management field has focused on themanagement of either political risk or foreign exchange uncertainties. Finance andinsurance literature emphasizes the risk factors for which hedging or insurance instru-ments can be developed to mitigate or transfer a firm’s risk exposure (Shapiro 2006;Crouhy, Galai, and Mark 2008). This has already been criticized by Miller (1992),who stated that treating uncertainties in isolation from one another is suboptimal forsound risk management.

Our exploratory study seeks to fill part of the stated research gaps by providingempirical knowledge about the risk perception of Western MNEs and their manage-ment strategies at the firm level in the Middle East. We chose Saudi Arabia as the objectof our investigation, as the country represents the largest economy and the largest recip-ient of FDI in the region. A total of 49 German-based MNEs participated. Besides polit-ical, economic, and financial risk, we will investigate the importance of cultural risk.By means of a preliminary study with 16 MNEs operating in the Middle East, we iden-tified particular cultural risk factors such as working morale or religious tradition,which could be important to consider when conducting business in the Arab world.The findings on the critical risk factors will be compared with the methodology ofexternal providers of country risk analysis to investigate their usefulness for research-ers and practitioners in the Middle East market. Similarly, we study how firms copewith their critical risks at the micro level and thereby assess the usefulness of typicalrisk management approaches. Possible differences due to firm size will be explored.

The next section defines the risk categories used in the empirical study and brieflydiscusses different country risk measures. The third section describes the risk

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management process, explains the approach to measure its sophistication and success,before focusing on typical suggestions to manage risk in international business. Thefourth section provides background on Saudi Arabia and its economy. The paper thendescribes the methodology of the empirical study in the fifth section. The sixth andseventh sections present the findings on risk perception and risk management ofGerman-based MNEs in Saudi Arabia, respectively. The paper concludes with adetailed analysis of the empirical findings and a discussion on possible limitations andgeneralizations.

Risk in international business

In general, risk can be defined as the combination of the probability of an event andits associated consequences (ISO Guide 73, 2002). For the purpose of our researchproject, we consider risk as the variance of a firm’s expected profits in conjunctionwith its foreign operations. Although we focus on the negative aspects of risk as athreat to success (i.e., downside risk), it should be noted that risk constitutes opportu-nities for benefit (i.e., upside risk).

The study analyzes the importance of externally driven risk factors, which arecategorized into political risk, economic risk, financial risk, and cultural risk. Politicalrisk refers to discontinuities in the business environment resulting from unanticipatedpolitical changes that alter the expected outcome or value of a given investment(Robock 1971). Economic risk is defined as the likelihood that unanticipated changesin a country’s business environment affect the goals of the enterprise (Hill 2007).Financial risk is defined as unexpected changes in cash flows or financial scope thatmight change the company’s profit goals or prevent it from meeting its financial obli-gations. Cultural risk stems from cultural distance, i.e. gaps between nationalcultures. The term culture can be defined as ‘the collective programming of the mindthat distinguishes the members of one group or category of people from another’(Hofstede 2001, 9). The associated risk refers, on the one hand, to problems in copingwith differences in culture, which can be caused by difficulties in imitating localroutines. On the other hand, the risk might be caused by a lack of sensitivity andknowledge of the host country’s socio-cultural values and environment, which influ-ence business performance. For example, ignorance of the common practice of howpeople negotiate business deals in the host country can seriously affect a company’ssales figures.

When searching for ways to minimize uncertainty in the global market, firmsfrequently rely on country risk analysis as one of the few sources for continuous coun-try-specific risk information (Collier and Pattillo 2000). This economic or industry-specific information on risk in different countries is used by MNEs as a screening deviceto assess potential threats for new or existing foreign business activities. To evaluatetheir effectiveness, some studies have investigated country risk measures in conjunctionwith predicting different kinds of risk (Cosset and Roy 1991; Howell and Chaddick1994; Erb, Harvey, and Viskanta 1996). These studies have revealed that there arevariations among the measures in their ability to accurately forecast risk events.

Covering Saudi Arabia in their assessments, six well-known commercial analystsof country risk are Business Environment Risk Intelligence (BERI), Economist Intelli-gence Unit, Euromoney, Institutional Investor, Political Risk Services, and Interna-tional Country Risk Guide. The risk measures are based on alternative methods ofassessing political, economic, and financial risk. Besides their quantitative rating

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system, most providers offer qualitative descriptions and backgrounds on the moni-tored countries. The two measures Political Risk Services and Economist IntelligenceUnit are even primarily concerned with a qualitative analysis of political andeconomic developments backed by data and statistical trends.

Risk management in international business

To ensure that a business organization manages its threats in a proactive, coordinated,cost-effective, and prioritized way, it requires the support of sound risk management.The process is based on a firm’s policy toward risk, in which senior management stip-ulates the acceptable level of risk. The activity of risk management itself entails theidentification, estimation and evaluation, treatment, and monitoring of potentiallynegative influences on performance.

To define a firm’s degree of risk management sophistication, Smallman (1996)suggested three aspects of a sound risk management approach. The first aspect is acontinuous risk analysis as well as risk monitoring to ensure that hazards are effec-tively identified and estimated and that appropriate controls and responses are put inplace. The second aspect is the application of both quantitative and qualitative tech-niques for risk analysis and risk monitoring, since not every risk assessment can besupported by a sufficient amount of data. The third aspect is a supportive risk culture,where the knowledge on risk is accurately managed and the firm learns from pasterrors.

Assessing the benefits of risk management in conjunction with downside risk canbe challenging because the process is mostly used to avoid or minimize the probabilityor impact of unfortunate events. Nevertheless, comparisons can provide valuable indi-cators of the success of certain risk management strategies. Such comparisons mightinclude contrasting the company’s performance before and after the implementationof certain processes or tools or comparing the success of similar companies operatingin the same country.

The financial and international management literature emphasizes certain riskmanagement approaches for trans-border businesses, which are briefly describedbelow. The principal risk reduction technique for political risk is the purchase of insur-ance. Insurance products are available for a wide range of hazards, such as politicalviolence, government expropriation, or business interruption. A firm can also applyinformal risk management tools. For instance, to minimize the risk of expropriation,a company might engage in unofficial negotiations with the host country. Another risklimitation measure is to form partnerships. Recruiting local investors as joint venturepartners can provide a degree of protection from expropriation (Bradley 1977). MNEsmight also involve influential international parties in its foreign investment activities,including other governments and major banks. Any expropriation threat is likely toupset relationships with those stakeholders, which makes it more difficult for the hostgovernment to act arbitrarily.

In terms of foreign currency exposure, the literature suggests two generalapproaches to hedge against exchange risk. One alternative is to use forwards, futures,swaps, options, or combinations of these financial instruments. The other more infor-mal risk management approach is to incorporate financial tactics by borrowing orlending money inside the host country, which also reduces vulnerability to exchangecontrols. The basic idea is that generated foreign currency cash flows do not have tobe converted to another currency.

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Background about Saudi Arabia

Saudi Arabia’s population is estimated to exceed 25 million, with about 33% of inhab-itants younger than 15 years old. The population is characterized by a rapid growth of3.4% annually. More than five million foreigners reside in Saudi Arabia for work andreligious reasons. The majority of the people adhere to a theological interpretation ofIslam most commonly known as Salafism or Wahhabism.

Saudi Arabia is an absolute monarchy that has been ruled by the Saud dynastysince 1932 without elected representative institutions or political parties (Maisel2009). The government’s power is limited by the basic law, religious law, tradition,and the need to retain a consensus among the royal family and religious leaders.Although the legal system is by resolution independent and administered by theMinistry of Justice, judges are bound by Sharia. Saudi Arabia is party to multinationaltreaties, including the New York Arbitration Convention, which provides for therecognition of foreign arbitration awards.

Saudi Arabia’s economy is petroleum-based, with the country owning about one-quarter of the world’s oil reserves. The government employs the oil revenues from itsstate-owned enterprises to fund the creation of a modern economy that engages in inter-national trade, finance, and manufacturing. There are more Saudis employed by thestate than by the private sector. However, the country imports a large number of work-ers from other Muslim nations in Asia. It is estimated that about 60% of the privateworkforce is foreign. Although oil revenue has made this possible, the governmentregards the resulting unemployment among young citizens as a problem. It haslaunched a program of Saudization to replace white collar foreign workers with localemployees. According to Saudi Labor Law, 75% of employees in private sector compa-nies must be Saudi. In fact, the Labor Office applies a weakened form of this law andinstead requires corporations employing 20 persons or more to target a quota of 35%.

Recently, Saudi Arabia experienced an average GDP growth rate of approximately3% and a fluctuating inflation rate (see Table 1). Owing to an investment law knownas the ‘Foreign Investment Regulations’ signed in 2000 and its entry into the WTO,the Saudi economy is becoming more and more open to foreign investment. Foreigninvestors are allowed to invest in all parts of the economy, except for specificprotected sectors appearing on a so-called ‘negative list’. For instance, the listcomprises the upstream sector of the oil industry, including oil exploration, drilling,and production. Foreign investors are no longer required to make local joint venturepartnerships and thereby can own plants and associated real estate up to 100% in an

Table 1. Economic data on Saudi Arabia, in US$ (IMF 2010).

2006 2007 2008 2009

GDP (current prices) 357 billion 386 billion 476 billion 370 billionGDP per capita (current prices) 15,050 15,825 19,105 14,486Real growth in GDP 3.16 3.31 4.45 0.15GDP production (2006) Crude oil and mining 40.8%; services 20.6%; manufacturing

industry incl. oil refining 11.7%; construction 6.9%; and agriculture 4.9%

FDI inflows 18.29 billion 22.82 billion 38.15 billion 35.51 billionFDI outflows 1.26 billion 12.73 billion 1.45 billion 6.53 billionInflation rate 2.31 4.11 9.87 5.10

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increasing number of sectors. Recently, the insurance market, banking sector, whole-sale sector, and retail trade sector were further liberalized by a reduction in the uppercapital limits for foreign investors.

Methodology and procedure

The primary data sample consisted of 49 German companies operating in SaudiArabia as standalone operations or as part of joint ventures. It was gathered from atotal population of 337 German companies compiled on a list by the German SaudiArabian Liaison Office for Economic Affairs (GESALO 2008). The list represents theonly complete register available of German firms in Saudi Arabia. From the 337German companies approximately 160 qualified as the relevant target group, i.e.direct investing firms. Exporting firms were not part of the target group since theirmarket entry mode does not require an investment in the foreign country. Assuggested by a preliminary inquiry with 10 exporting firms, this circumstance leads todifferent risk perceptions and risk management strategies compared with directinvesting firms.

Although a response rate of 31% was not completely satisfactory, it was highenough to obtain some interesting results. Moreover, we found few deviationsbetween answers for many of the questions, making it easier to accept the presentedconclusions. Naturally, surveys on risk management at the firm level should alwaysbe interpreted with care since risk perceptions by decision-makers are subjective(Yasai-Ardekani 1986) as well as influenced by socio-psychological variables and thecultural context (Rohrmann and Chen 1999).

To administer the survey, we used either direct interviews or an online surveybased on an identical questionnaire, depending on the preference of each company.The branch offices in Saudi Arabia were contacted by email and phone. A total of21 companies chose the direct interview mode and 28 companies chose to participatein the online survey. The respondents were non-native executives, risk managers, ormanagerial accountants who worked for their companies in Saudi Arabia.

Based on the risk management process, the questionnaire was designed accordingto a review of the literature, the preliminary study, and our own experience in MiddleEast countries. The questionnaire consisted of questions related to: (1) company char-acteristics (size, market entry mode, and type of business); (2) risk analysis based onrisk perceptions of the MNEs; and (3) risk management approach including degree ofsophistication, risk assessment tools, and risk treatment strategies for most critical riskfactors. The respondents were asked to state their company’s view on risk issues ratherthan their own assessments or general perceptions.

As for the method, we used closed questions in the form of a nine-point Likertscale ranging from −2 to +2 with a step size of 0.5. The results were analyzed mainlyusing descriptive and inferential statistical methods. However, participants also hadthe opportunity to add their own risk management experience and provide in-depthremarks. In particular, the interviews enabled us to gain substantive details on differ-ent risk-related issues. For the purpose of evaluating these data, we applied a methodof content analysis (Krippendorff 2004).

The respondents formed a heterogeneous group of companies, both in terms ofsize, market entry mode, and type of business. Most companies had already beenactive in the Saudi and Middle East market for several years and were well experi-enced in the business environment there.

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The size of the affiliate was defined according to the number of employees in SaudiArabia: small and medium-sized enterprises (SMEs) employed less than 99 employees,and large companies employed 100 or more employees. From the 49 participatingcompanies, 29 were small and medium-sized, and 20 were large. Moreover, we askedfor the number of employees in the company worldwide. Not surprisingly, it turnedout that the size of the affiliate and the size of the company were positively correlated.

Regarding the market entry mode, 63% of the participating firms operated in SaudiArabia as part of a joint venture and 37% as a standalone operation. The choice ofentry mode was mostly justified by legal issues (71%) rather than speed of entry(48%), risk mitigation (44%), or financial issues (31%).

The companies were classified according to the type of their economic activity inconsulting, financial, and insurance activities (25%); construction (19%); manufactur-ing (16%); transport, storage, and communications (12%); information and communi-cation (10%); public administration, defense, health, and social work activities (8%);real estate activities (6%); and accommodation and food service activities (4%).

Findings on the risk perception of MNEs in Saudi Arabia

Participants were asked to rate six political, five economic, seven financial, and sevencultural risk factors. The items listed under the categories were not exhaustive but wereintended to capture the major dimensions that are important to firms operating in theSaudi Arabian market. A nine-point Likert scale was used, with −2 indicating ‘riskfactor is not important at all’, −1 indicating ‘risk factor is of little importance’, 0 indi-cating ‘risk factor is of moderate importance’, +1 indicating ‘risk factor is of impor-tance’, and +2 indicating ‘risk factor is very important’. With 0 as the center scale,scores equal or below the scale median indicated a limited risk importance, and scoresabove the center scale indicated a higher importance. Table 2 presents the companies’perceptions of the importance of the different risk factors. To check consistency, weadditionally asked them to specify the five most important sources and provide furtherdetails. The five risk factors with the highest scores and therefore those perceived asmost critical were bureaucracy (political risk), terms of payment (financial risk),corruption, working morale, and relationship orientation (cultural risks).

Table 3 presents the correlation matrix for the risk ratings. The correlation coeffi-cients can be interpreted as the statistical relationships between the perceived impor-tance of the risk factors. Relating to the most critical risk factors, significantcorrelations were found between bureaucracy and legal system (r = 0.28, p < 0.05),state involvement in economy (r = 0.53, p < 0.01), and corruption (r = 0.34, p < 0.05).Terms of payment was significantly correlated with sales cycle (r = 0.34, p < 0.05),corruption (r = 0.29, p < 0.05), and payment morale (r = 0.45, p < 0.01). Corruptionwas furthermore significantly correlated with relationship orientation (r = 0.29, p <0.05). Working morale showed a significant correlation with educational level (r =0.33, p < 0.05). Relationship orientation showed a significant correlation with familyorientation (r = 0.38, p < 0.01).

It should be noted that the ratings of the 25 risk factors were not generally corre-lated. This fact suggests that ‘anchoring’, i.e. the tendency to rate later risk factorsbased on the rating of the first risk factor (Tversky and Kahneman 1974), does notplay an important role. Moreover, respondents seemed to be not commonly riskaverse, no risk seeking, because high risk aversion would lead to high risk ratings andvice versa.

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The correlations matrix and the details provided by participants allowed for an in-depth analysis of the critical risk factors. Bureaucracy was described as a risk becauseof the ambiguity of government decisions, problems with applications processed bySaudi authorities, and at times unreliable personnel. It seemed that the risk is relatedto the state’s high involvement in the business environment, the legal system, andcorruption. Therefore, dealing with government institutions and officials in conjunc-tion with administrative decisions or government orders involved uncertainty forforeign firms.

The risk factor terms of payment referred to unreliable payment schedules ordefaults of payment by customers for delivered goods or services, which impede thecalculation of future cash flows. The high correlation of this risk factor with culturalfactors suggested that they are more important for payment insecurities than other polit-ical or financial issues, such as government policies or domestic economic conditions.

Corruption was reported as a risk because of the resulting distortion in theeconomic and financial environment for foreign firms. In both the private and publicsectors corruption creates unreliability and discrimination for those foreign firms thatrefuse to become involved in this practice. However, by contrast, companies that

Table 2. Perceived importance of risk factors by MNEs in Saudi Arabia and number ofrespondents (N = 49) rating each factor in the top five.

Risk category Risk factor Mean SDRated in the

top five

Political risk Bureaucracy 1.03 0.76 27Legal system 0.62 0.97 14State involvement in economy 0.49 1.01 8Saudization policy 0.34 1.13 12Instability and social unrest 0.19 0.93 11Expropriation −0.11 0.98 2

Economic risk Competition 0.36 0.90 10Technological level 0.29 0.86 2Government deficits −0.09 1.12 0Inflation −0.18 1.01 3Economic growth −0.40 0.90 0

Financial risk Terms of payment 0.99 0.90 24Sales cycle 0.71 0.77 11Capital requirements 0.08 1.00 2Currency convertibility 0.04 1.15 3FDI restrictions −0.04 1.19 2Capital availability −0.20 0.91 0Taxation −0.30 0.93 2

Cultural risk Corruption 0.91 0.90 17Working morale 0.88 0.88 23Relationship orientation 0.84 0.90 20Payment morale 0.74 0.31 13Educational level 0.71 0.95 18Religious tradition 0.64 0.93 10Family orientation 0.34 1.16 6

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Tabl

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Tabl

e 3.

(Con

tinu

ed).

Ris

k fa

ctor

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1.

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Journal of Risk Research

choose to use monetary incentives can damage their reputations or run the risk ofbeing sued.

The main risk associated with working morale was the uncertainty of laborproductivity when employing Saudi citizens. This is due to the fact that the Saudieducational system is currently facing difficulties in providing a modern workforce.

The risk of relationship orientation appeared to be a major concern for Westernenterprises by realizing that trust is highly important for Arabs in the business world.This creates uncertainty for foreign firms because most are inexperienced in thiscultural habit. Therefore, trust-building between Western enterprises and Saudi partiesis reported to be a difficult and long-lasting process. The risk is related to the strongfamily orientation in Arab societies, which means that decisions are often triggered byfamily rather than business concerns.

To test the effect of company size on the perception of risk factors, we performeda one-way analysis of variance (ANOVA). The ANOVA results suggested thatcompany size significantly affected the mean scores of some risk factors: the riskperceptions increased with company size in the case of Saudization policy, F(1,47) =4.27, p < 0.05, and relationship orientation, F(1,47) = 8.12, p < 0.01. The risk percep-tions decreased with company size in the case of FDI restrictions, F(1,47) = 5.51,p < 0.05, terms of payment, F(1,47) = 6.08, p < 0.05, and payment morale, F(1,47) =10.36, p < 0.01.

To gain an idea about the relative importance of each risk category, we calculatedthe mean per company. Figure 1 presents the five-number summaries for distributionsin a box plot of the mean political risk (mean PR), mean economic risk (mean ER),mean financial risk (mean FR), and mean cultural risk (mean CR). When directly

Figure 1. Perceived importance of political risk, economic risk, financial risk, and culturalrisk by MNEs in Saudi Arabia.

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asked to rank the four risk categories on a scale from 1 to 4 in order of importance,cultural risk was assessed as the most important and political risk as the second mostimportant risk category. Financial risk and economic risk were ranked third andfourth, respectively, but with no great difference between them. Moreover, no signif-icant correlation was found between company size and assessments of the differentrisk categories or the overall risk level assessment of the companies.Figure 1. Perceived importance of political risk, economic risk, financial risk, and cultural risk by MNEs in Saudi Arabia.Respondents were asked to state if the risk categories were perceived as more orless critical in Saudi Arabia than in Germany. A nine-point Likert scale was used with−2 indicating ‘risk category is less critical’, 0 indicating ‘risk category is equallycritical’, and +2 indicating ‘risk factor is more critical’. Table 4 shows that culturalrisk, political risk, and financial risk were perceived as more critical and economicrisk as less critical.

Findings on the risk management of MNEs in Saudi Arabia

Participants were asked to rate their level of risk management sophistication for SaudiArabia on a nine-point Likert scale ranging from −2 for ‘very low level of riskmanagement sophistication’ to +2 for ‘very high level of risk management sophistica-tion’. Furthermore, we asked for the perceived success of the risk managementapproach in Saudi Arabia on a nine-point Likert scale ranging from −2 for ‘no successof risk management approach’ to +2 for ‘high success of risk management approach’.Table 5 presents the results along with the overall risk level assessment of the compa-nies, the size of the companies, and the correlations between responses to the differentrisk management-related questions. The findings for the risk management sophistica-tion showed no clear tendency because the mean of 0.26 was near the middle option

Table 4. Risk category assessment by MNEs as more or less critical compared with homecountry.

Statement Mean SD

Political risk more/less critical compared with home country 0.47 0.92Economic risk more/less critical compared with home country −0.30 1.12Financial risk more/less critical compared with home country 0.29 1.02Cultural risk more/less critical compared with home country 0.65 0.99

Table 5. Scores and correlation matrix for responses to different risk management-relatedquestions and company size.

Variable (domain) Mean SD 1 2 3 4

1 Level of risk management sophistication (−2 to +2)

0.26 0.93 1

2 Success of risk management approach (−2 to +2)

0.53 0.90 .17 1

3 Overall risk level assessment of company (−2 to +2)

0.33 0.29 −.14 −.04 1

4 Size of company (1 = small and medium and 2 = large)

1.41 0.50 .38** .11 −.04 1

**p < 0.01.

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of 0. By contrast, with a mean of 0.53, the MNEs perceived the success of their riskmanagement approach as rather successful.

A significant correlation can be found between company size and level of riskmanagement sophistication. A one-way ANOVA with these two variables indicatedthat larger companies tended to have a much more sophisticated risk managementapproach than SMEs, F(1,47) = 7.87, p < 0.01. Most notably, no significant correla-tion was found between the level of risk management sophistication and success of therisk management approach or between the level of risk management sophisticationand overall risk level assessment of the company.

An inquiry on risk management tools revealed that nearly half of the companiesemployed SWOT analyses to perform risk evaluation (Figure 2). This approach isused to evaluate the strengths, weaknesses, opportunities, and threats of an investmentproject. To gather information on the Saudi Arabian business environment and theassociated risks, 51% of the MNEs conducted site visits, 40% sought advice fromcountry experts such as commercial analysts of country risk, and 36% appointed dedi-cated staff for risk assessments.Figure 2. Risk management tools used by participating MNEs.With respect to the stated critical risk factors, we asked participating firms toprovide information on their risk treatment strategies. Only 8% of the respondents hadpurchased commercial political risk insurance to transfer parts of their political riskexposure. However, most firms had applied informal risk treatment strategies for thecritical risk factors.

As for the risk of bureaucracy, great emphasis was placed on advanced planningand the availability of broad time buffers when dealing with ministries. Enterprisestried to establish good relations and to extend their networks to influential local stake-holders in order to simplify official processes. Joint venture companies oftenemployed their local Saudi partners to deal with public authorities.

The approaches among enterprises to the terms of payment risk were numerous.The risk was mainly retained by those companies trying to establish business in SaudiArabia. This means that they delivered products or services without advancedpayment. However, most firms avoided or mitigated the payment risk by, for example,

Figure 2. Risk management tools used by participating MNEs.

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employing a policy of withholding delivery until payment had been fully processed.Some companies used their relationships with influential Saudi citizens to collectoverdue payments.

The firms attempted to avoid the risk associated with corruption by staying awayfrom critical business deals where money or gifts are necessary or beneficial to stepinto business. However, we were told that some companies accepted the associatedrisk to a degree which is socially acceptable in Saudi Arabia.

To mitigate the working morale risk, most firms transferred senior managementand employees from abroad to Saudi Arabia. MNEs tried to attract well-educatedlocals by offering higher benefits than other companies. Some firms conducted a widerange of training and seminars to educate employees on job-related issues.

Either the risk of relationship orientation was accepted by the companies or theytried to actively become part of the relationship system. The latter approach sought tobuild a diversified and manifold network in Saudi Arabia while trying to imitate localroutines and cultural habits.

Discussion and conclusion

This exploratory study has revealed some interesting insights into the risk perceptionand risk management of German-based MNEs in Saudi Arabia. The risk associatedwith foreign investments is obviously much more multifaceted than the frequentlystudied factors of political risk and exchange rate exposure. In fact, cultural risk isperceived as more important than political risk, financial risk, and economic risk.Although aspects of Arab culture are reported to have a strong influence on the businessenvironment, most firms struggle to adapt to local routines and customs. Therefore,more emphasis should be placed upon cultural risk factors in future research.

In terms of individual risks, firms assessed the political risk bureaucracy, thefinancial risk terms of payment, and the cultural risks corruption, working morale, andrelationship orientation as the most critical in Saudi Arabia. The correlations togetherwith the comprehensive information provided by participants showed different rela-tionships among the risk factors and supported an understanding of the specific busi-ness environment. Although it is easier for researchers and decision-makers to focuson risks that are more concrete and easier to model, one primary conclusion is theimportance of firm-level data when analyzing risk in conjunction with FDI becausethe vague and hard-to-model risk factors are difficult to capture with macro-levelanalysis.

When comparing our findings with the methodology of the popular measures ofcountry risk, it seems that some are more capable of indicating the risk exposure forforeign investors in the Middle East than others. Euromoney and Institutional Inves-tor, who focus on sovereign risk and creditworthiness, exclude nearly all of the riskfactors that are perceived as the most important by the MNEs in our sample. The Inter-national Country Risk Guide has the ability to cover the political risk bureaucracy, butlacks the cultural risks of working morale and relationship orientation. Risks associ-ated with delays in payment are only covered as part of a widely defined variable.Similarly, the BERI measure seems to be able to cover some of the critical risksincluding working morale, but bureaucracy, corruption, and relationship orientationare only part of a widely defined variable. This makes it nearly impossible to identifythe importance of a single risk factor. Moreover, the measure lacks risks associatedwith delays in payment. The descriptive country risk reports of Political Risk Services

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and Economist Intelligence Unit focus on political and economic developments andmight be generally capable of covering the risk exposure in Saudi Arabia. Similar tothe quantitative ratings, however, the reports identify and interpret obvious changes atthe macro level.

Therefore, the information value of risk measures is questionable if they are notable to capture and comprehend important micro-level hazards. The lack of criticalrisk factors can bias country risk assessments, which can distort the investment deci-sions and risk management strategies of MNEs. This result supports the view ofMeldrum (2000), who stated that country risk measures should be recombined in asystem that better relates to a company’s specific investment needs.

There are reasons to expect differences in risk perceptions between larger andsmaller firms. However, instead of a general relationship between firm size and risklevel assessment, we found significant countervailing trends for some single riskfactors. Larger firms perceived the Saudization policy and relationship orientation asmore critical than SMEs. This finding is reasonable for the first risk factor because theSaudization policy requires only larger MNEs to employ Saudi manpower. However,it is somewhat surprising that larger MNEs perceive relationship orientation as morecritical. Hence, SMEs seem to be more successful at building trusted relationshipswith Saudi parties by adapting to local habits. This finding suggests that larger firmsshould invest more resources in lowering the cultural distance by educating theiremployees on local habits.

To the contrary, risk perceptions decrease with company size in the case of FDIrestrictions, terms of payment, and payment morale. Therefore, smaller firms seem tobe more vulnerable to delays in customer payment, which might be because of lowercapital reserves. Moreover, some respondents reported that larger firms can imposemore pressure on their customers. This result suggests that smaller MNEs might bene-fit from a more sophisticated risk management approach in dealing with paymentdelays.

The level of risk management sophistication is related to firm size, but not to theperceived risk exposure or the success of the risk management approach. The correla-tion with firm size might be because besides skills and knowledge formal riskmanagement requires infrastructure, data acquisition, and data processing. Smallercompanies might lack the skills, resources, and time to engage in such activities.Moreover, in major industrial countries such as Germany, legislators have establishedbinding rules for risk management, which mostly apply to larger firms. The resultcorroborates the observations of Henschel (2009), who found that company size is anessential factor to distinguish the quality of the risk management system for SMEs.

The missing correlation between risk management success and perceived riskexposure might indicate that certain critical risks can hardly be handled by a sophisti-cated risk management process. In fact, most of the reported risk treatment strategiesby MNEs in Saudi Arabia are rather informal. We found little utilization of riskmanagement solutions in the financial market since no hedging or insurance instru-ments exist to reduce exposures to many of the uncertainties reported as important bythe firms in our sample. Those firms using futures to mitigate the foreign exchangerisk reported that they face difficulties because of the unreliable payment schedules oftheir customers. Most MNEs rely on strategic decisions, networks, and financialtactics. This finding points out the need for the financial and international manage-ment literature focusing on financial instruments and insurance products to incorpo-rate other risk management tactics into their research. In addition to this implication

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for researchers, the reported risk treatment strategies should be of interest to foreignbusiness ventures in the country.

These findings are limited to German-based MNEs in Saudi Arabia, and moreempirical research is necessary to make any additional scientifically founded state-ments. However, because Arab culture is predominant in the Middle East, our findingsmight also hold true for risk management in other countries of the region. Moreover,we believe that risk perceptions and risk management strategies might be generaliz-able to all Western companies.

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