Risk and OpportunityTogether as Always!

Engineering Tech is a large, national engineering partnership in Australia, with expertise in largescale infrastructure projects, including public-private partnership (PPP) projects involving government departments and agencies. It has been a major player in various parts of Australia and has ventured into consulting activities in Japan and other parts of Asia.

A senior partner of the firm was recently approached about executing a major infrastructure project in Addis Ababa, Ethiopia, 100 kilometres beyond the Bole International Airport. The country has a proud history of never being colonized. Recent history has not been kind to the nation, with it facing war, drought, starvation and the growing threat of Islamic extremist groups operating in the region. Those harsh realities aside, the country has benefited from foreign aid and some investment, and the partner at Engineering Tech perceives an opportunity to do some good, as well as to take on a complicated, profitable project in a region considered too risky by the firm's competitors.

Engineering Tech has an excellent relationship with EFIC, Australia's Export Finance and Insurance Corporation. The agency is viewed by many as a very progressive, dynamic and innovative export credit body which will go to great lengths to promote the success of Australian exports, including taking in significant country and bank risk to do so, when warranted.

While several partners at Engineering Tech are intrigued and willing to invest time to put a bid together, the company's board members are concerned about an endeavor in a nation beset by so many challenges. How, they wonder, will Engineering Tech protect its interests and ensure excellent results in a place where a major national language, Amharic, is spoken nowhere else in the world?

The Challenge

Several partners of Engineering Tech have been to Africa, including Nigeria, Ghana and Kenya, but none have traveled to Ethiopia, and the previous projects involved a consortium of partners to share both the project execution and the risks. This time, Engineering Tech is the lead executing firm under a World Bank development program, facilitated partially through the World Bank/International Finance Corporation (IFC) Global Trade Finance Program. Engineering Tech will work with a consortium of six local Ethiopian construction firms known as "LEC Ltd". Engineering Tech will be the prime contractor and must adequately address the various risks.

The partners supporting involvement in this projectnow known at Engineering Tech as the "Acacia Crew", in reference to the tree that often frames sunsets outside of Addishave engaged you to identify some risks and their mitigation options. You have been able to outline some preliminary risks to consider and must now present viable risk management options.

The Risks

A complex infrastructure/engineering project in a least developed country (LDC) environment automatically brings with it a complex set of risks, from the possibility of revolution (as was the case in Ethiopia in 1974) to unsatisfactory performance by one of more of the firms involved through to the risk of outright expropriation of the completed project. In the event that a project is only partially funded through development monies, assets associated to the project may not be usable to secure financing. Shortages of resources, staff and materials can cause significant delays and generate significant cost overruns; questionable business practices and outright corruption can be a serious risk, as can eruptions of violence due to political unrest.

It is expected that the infrastructure project would ideally take about 36 months to complete. The project financing will be denominated in U.S dollars.

The banking sector in Ethiopia has several challenges related to its development history, lack of a suitable regulatory framework and infrastructure issues. Several domestic and international banks have encountered financial difficulty and either collapsed or left the market. The bank that will be used by LEC for some aspects of financing the project has had some challenges in the past notably related to the Financial Crisis in 2007-2009.

Even in the ideal situation, there remains the risk of disagreement between Engineering Tech and the funding agencies, including the World Bank and the IFC. Such disagreements can occur and can be time-consuming to resolve. Projects funded through multilateral agencies are subject to significant due diligence and verification, including strict audit processes. This all adds risk and cost (both net new costs and the cost of funds on delayed payments) to Engineering Tech.

Some of the firms that are part of LEC have had varying degrees of experience and success in projects of this size historically. Engineering Tech has been unable to obtain adequate information on all of the firms to substantiate their creditworthiness, financial strength and reputation.

Some of the component parts and equipment to be used in the project will be sourced from around the world and will be transported at great lengths over sea, in the air and over land. The terrain near the project site can be tough and difficult to transport and there has been some recent incidents of piracy near the coast.

Environmental impact concerns are increasingly critical in projects of this type, and any government agency which might be engaged to support this projectincluding EFIChas committed to conduct environmental impact assessments on any projects funded. This includes assessment of impact on local populations. The World Bank has also published standards related to sustainability and environmental issues. Non-governmental organizations (NGOs) actively monitor and report on projects such as this one, and Engineering Tech has no desire to be dragged into a public relations nightmare.

Your general impression after having studied the proposed project is that nearly every business risk imaginable is represented, to some degree, in this opportunity.

Risk Mitigation Considerations

The "Acacia Crew" are experienced consultants and engineers with successes in numerous high-risk markets, and understand that while the risks are many, effective strategic planning can maximize the potential for success in this endeavor. The Engineering Tech board members are somewhat less familiar with dealing with the realities of developing market projects and will therefore require strong assurances. Your assessment indicates that this opportunity is primarily about risk management and ensuring adequate financing and cash flow over the term of the project. Engineering Tech and its board must take a holistic view of the situation and determine whether they have access to the necessary risk mitigation tools and whether the firm has the financial wherewithal to see the project through.

Learning Outcomes

This case study relates to the following learning outcomes from the course International Trade Finance:

Describe types of commercial, currency and other financial risks involved in international trade transactions and describe methods available to minimize them.

Describe bonds and types of guarantees and how banks and international financial institutions support international trade finance.

Explain the range of products and services provided by various models of export credit agencies and how they can support organizations in their international trade transactions.

Describe export credit insurance and how it can cover commercial and political risks.

Case study questions

1.Utilizing concepts from our class lectures, identify and describe the various risks faced by Engineering Tech in its project in Ethiopia.

a.5 marks for correct risk and for correct explanation

2.After identifying and describing the various risks, describe and analyze the pros and cons of the four primary payment methods Open Account, Payment in Advance, Documentary Collections and Letters of Credit that could be employed to mitigate the risks identified in Question 1.

a.8 marks 2 for each method

3.If Engineering Tech were to work with secure and reputable banks from both Australia and Ethiopia experienced in international trade, describe additional tools and instruments either party could include in the transaction to secure both its financial interests and the likelihood that the infrastructure project will be completed. Include any advantages or disadvantages as appropriate.

a.2 marks for identifying two option, and 2 for correct description

4.Consider the answers to Question 1, 2 and 3 and recommend an international trade payment method, any additional risk mitigation tools and explain how they best address the various risks.

a.5 marks

5.Describe how Australia's Export Development agency, EFIC, could provide support and assistance to Engineering Tech in its first foray into the Ethiopian market.