What is a business risk?
A business risk is an event or threat that could lead to a loss in profits or even complete failure of a company. It can be an internal or external threat such as strikes, a new competitor or a natural disaster. Any factor that threatens a company's ability to achieve its objectives is considered a business risk.
Why is it so important to consider business risk?
Without risk there is little reward, therefore businesses strive for an acceptable level of risk that allows their company to thrive. Risk-taking encourages innovation, however a fair balance should be established. Once you have identified potential business risks to your business, you can create a risk management plan in order to minimise the impact.
‘Learning to plan for and mitigate risk is vital to business wellbeing, capital and reputation’ - Anita Tweats, CEO The Finance People.
The past 2 years alone, we've seen endless amount of risk come to fruition and hit businesses. The Covid-19 pandemic is an obvious one which springs to mind and the current cost-of-living crisis in the UK will bring a lot of financial risk for businesses. But what other types of business risk are there and what should you plan for? Here are 9 types of business risk to be aware of...
A financial risk is a situation that is directly caused by a company’s poor debt management or financial planning. An example of a common financial risks is when a business take out a loan with greater interest than is affordable, or when a business who trades internationally is negatively impacted by a foreign currency value depreciation.
A brilliant example of a company who have identified and overcome a financial risks is BMW. They were aware that their profits were being eroded by changes in exchange rates as only 17% of car sales were in Germany where BMW are based. BMW faced a dilemma as they did not want to pass on exchange rate costs to consumers by raising their prices, so in order to combat the risk they increased spending in the currencies where sales were taking place. They achieved this by opening factories in the markets where they sold their cars and they also set up regional treasure centres in the UK, US and Singapore.
A competitive risk is quite simply the risks associated with a competitor in the market. Competition is healthy as it drives cost reductions and quality improvements, but becomes a risk when the market competitor is preventing a business from achieving its goals. Steep discounts, innovation or a new competitor in the market are common types of competitive risk.
One example of a business that has failed due to competition is Blockbuster. Unable to compete with Netflix and other on-demand streaming, Blockbuster failed to innovate and change with the times.
When evaluating operational risk a business will be looking at both internal and external factors relating to the day-to-day operation of their business.
‘The risk of loss resulting from inadequate or failed internal processes, people and systems, or from external events.’ - Basel Committee on Banking Supervision, 2004
Examples of operational risk include unjustified large investments, deficient metric performance or managerial inefficiency.
A compliance risk arises when external regulations are violated, potentially resulting in penalties or negative impact on reputation. A compliance risk can arise from multiple situations including Health and Safety issues, corrupt or illegal practices or privacy breaches.
A well known example of a compliance risk is when in 2019 Meta Platforms (formerly Facebook) were fined a record-breaking $5 billion by the FTC for violating customers privacy.
A security risk is an incident involving physical or information security. Security risk differs from compliance as security is the physical controls such as business processes and authentication mechanisms, whereas compliance is regulatory frameworks and policies.
Phishing and other forms of scams are on the rise and one example of a security risk is when Belgium bank Crelan were the victims of fraud resulting in a loss of 70 million euro.
A strategic risk is when a company struggles to reach their strategic goals as a result of internal or external factors. Some examples of events which could be a strategic risk include; a new competitor entering the market, changes to supply or cost of raw materials or technological changes.
Just one example of a company that failed due to strategic risk is Nokia, who were the market-leaders in mobile phones in the 90’s and early 2000’s. However, they failed to keep up with developing technology and embracing the use of mobile data. They have since tried to return to the market with an android phone but many deem it a complete failure.
Human risk refers to any risk that arises from human factors including the decisions and actions of an organisations employees. A human risk usually involves staff failure to perform their essential duties, often caused by poor communication and people management. Human risks can also be the result of factors out of employees control, such as health issues or theft.
A reputational risk is the damage that can occur to an organisations good name and reputation when it fails to meet the expectations of its stakeholders. This could result in negative public opinion and significant financial loss.
A devastating example of a company who has fallen victim to reputational damage is Pret A Manger following the tragic death of 15 year old Natasha Ednan-Laperouse. Natasha suffered an allergic reaction as a direct result of improper labelling on Pret A Manger food, and the company has lost the trust of many customers and have damaged their reputation.
Physical risks are threats to an organisations physical assets such as property or equipment. An example of a physical risk is a natural disaster which would cause serious financial loss if it impacted property, equipment or staffing issues.
Hurricane Katrina is one of many natural disasters which have impacted hundreds if not thousands of businesses. According to a report from the Federal Emergency Management Agency, 25% of businesses do not reopen following a disaster.
How to prepare against risk
With a thorough risk management plan, organisations are able to identify, evaluate and mitigate risk. At The Finance People, we know it can be a daunting prospect to handle risk alone, that is where we can help. Our finance experts can assist you with analysing internal and external risks and help you prepare for the future.
If you need the help of a full or part time CFO then contact us today.