[BETA] Fortnightly

What utilities ought to know
before doing business overseas.

Electric utilities and other power developers are re-configuring their formulas for measuring the host of dynamic risks associated with making large investments outside of their home countries. Even if there is a cyclical predictability to some of these risks-like the prices of basic commodities-other risks are largely unforeseen: that the United States would suffer a massive terrorist attack, that a company the size of Enron would fail, or that California regulators could get deregulation so wrong.

Foreign investments likely will be considered risky business as long as there are still projects to be done in a utility's home market that are considered to be economically viable. But as markets like the United States or the United Kingdom mature, and as regions like North America and the European Union exhibit slower electricity demand growth rates, higher growth-if more volatile-foreign markets seem appealing. In a good year, while gross domestic product is up 2 percent or 3 percent in the U.S., it may be up 7 percent or more in a fast-growing country in Asia or Latin America.

Still, for some companies, many of the risks abroad are no less challenging than some of the risks faced at home. "Political risk is everywhere, as opposed to the assumption by most investors who think it's safe to invest in the United States and not safe to invest outside the country," points out Ken Woodcock, a senior vice president and the head of investor relations for AES Corp., in Arlington, Va. With projects in more than 40 countries, AES has seen a number of the twists of risk in developing a project at home. For example, the company lost its environmental permit for its Cedar Bay, Fla., project due to "local opponents" after a year's work, he says. Other U.S. utilities that invested in the United Kingdom-a relatively mature market-were hit with an unexpected profit tax, which unilaterally changed the terms of deals done years earlier.

For some utilities, risk management is so natural that enumerating the variables may be a simplistic exercise. For others, new risks are emerging every day.

The Top 10 Risks of Foreign Investment

1) Diversification Risk

Part of the risk of investing overseas is determining what percentage of a utility's portfolio should be diversified geographically, outside of the country. Multilateral banks establish value ceilings for country lending based in part on the growth in those countries and the likelihood of repayment. But there is no hard and fast rule for such diversification for investor-owned utilities. Indeed, shareholders and other equity stakeholders may push a company overseas for higher returns, despite higher risk.

Regardless of the mandate to diversify, the quality of the country or regional risk has to be determined on a case-by-case basis. "If a utility has 20 percent of its investments in the United Kingdom, that's a lot different from 20 percent in Pakistan," says Susan Abbott, the managing director of project and infrastructure finance, at Moody's Investors Service, in New York."We haircut utilities' foreign investments, because when they say,