Jurisdiction risk definition
/What is Jurisdiction Risk?
Jurisdiction risk occurs when a business operates in a foreign location. This situation could arise when a business has physical locations in another country, or when it transacts business there, such as by lending money to borrowers in another country. Or, the laws may change in one of these locations, thereby interfering with a firm’s business model. This risk is more likely to be associated with financial institutions that deal with the movement of large sums that may be associated with dodgy transactions, such as money laundering. Since these institutions can be heavily fined for any involvement in money laundering, they need to impose special controls to mitigate their jurisdiction risk. This risk tends to result in greater foreign exchange rate volatility, so there is a possibility that an organization’s investment in a country could suddenly decline; this issue can be mitigated with a well-structured hedging strategy.
A high level of jurisdiction risk typically generates more volatile returns for a business, so investors and lenders will demand a higher return before they will be willing to invest in it.
Examples of Jurisdiction Risk
There are many situations in which jurisdiction risk can arise. Here are several examples:
A business may be fined for its use of customer information in Europe, where customer privacy is sacrosanct, even though that is not the case in the United States.
A business may be fined for any adverse references to the King in Thailand, where such comments are strictly forbidden, even though adverse references to the political leadership in the United States are quite common and protected by law.
A business may need to pull out of a country in which it has operations if that country’s leadership runs afoul of the United States government, which may sanction any companies that continue to do business there.