Running a company is no easy feat, and risk is an inherent part of any business venture. Some risks can be absorbed, while other risks could cause the slow decline or collapse of the business. Taking uncalculated risks can spell financial disaster. CEOs and risk management executives have to be keenly aware of risk and prepare for the consequences.
When a company identifies the risks it faces and enacts plans to prevent or mitigate them, the company is stronger as a whole. In this blog post, we’ll take a look at the different types of risk and how businesses can assess them.
Identifying and Assessing Risks
Effective risk management begins with identifying risks. Then, the risks can be ranked in order of severity.
The first step in doing this is to use some type of scale to rank various risks in terms of how likely they are to occur. Then, the risks should be ranked according to their potential impact. Some risks may be unlikely to occur—but they are potentially devastating if they do.
There are a variety of ways to assess the various risks your business faces, but analysis of past occurrences is one of the easiest ways to generate an effective model that accurately takes into account future risks. By doing this, it’s easier to see where things went wrong in the past, as well as which risks were worth taking. The highest priority risks should be examined very closely.
Types of Risks
The number of risks that businesses face varies depending on the industry and how broadly one construes the term “risk.” For example, there are business risks, like the risk that your new product does not sell well, and there are physical risks, like the risk your company headquarters could be destroyed in a flood. However, it’s still possible to categorize a handful of the most common types of risks. They include:
Strategic: Some strategic risks are natural to the business environment; there’s always the chance that a new competitor will enter your market and alter the playing field. Businesses also take strategic risks, of course, when they implement a new policy, launch a new product, or change growth tactics.
Compliance: Compliance risk is most relevant for companies in highly regulated industries. It refers to the risk that a company might fail to understand and follow government regulations, which could lead to fines or legal consequences.
Operational: This type of risk arises when a company’s daily operations lead to some failure—whether because the operational processes were inadequate, or an employee made a mistake or purposefully disregarded protocols.
Reputational: Businesses must consider their reputation in the eyes of the public and their customers. When something goes wrong, it could cause customers to lose trust and turn to competitors.
Physical/environmental: Disasters like floods, fire, hurricanes, and earthquakes are a risk to any company with property or other physical assets.
Technology: Failure of any critical IT system can be a costly nightmare for even the smallest company, and data breaches can cause significant damage. If customers’ information is compromised, the company’s reputation will suffer. Even power outages can cost time and money. In addition, there’s also the risk that the technology platforms you choose to invest in will become obsolete.
Health and safety: Workplace safety should be a priority for all companies, as a hazardous or unsafe working environment could cause harm or even death to anyone on the premises. Employee accidents are a huge liability for companies.
Economic: Downturns in the economy, or changes within a market, are risks that every business faces.
Insurance against Risk
Risk management executives must work hard to insure the company against any risk that could have a significant financial impact. Forms of insurance recommended by the US Small Business Administration—apart from compulsory forms of insurance, like workers’ compensation—include general liability insurance, property insurance, professional liability insurance for providers of professional services, and product insurance for manufacturers and retailers of physical products. Other forms of insurance to consider, depending on your industry and your company’s needs, are vehicle insurance for automobiles, data breach insurance policies, and medical malpractice insurance.
If you run a small business from your home, it’s prudent to carefully examine your current homeowner’s insurance and understand exactly what it covers—particularly if you keep expensive equipment on the premises. You may wish to purchase an add-on or “rider” to your current policy to secure additional coverage. Another option is an in-home business policy, which many insurance firms offer.
Risk and Control Management
Top companies take risk seriously and many have instituted risk and control management (R&CM) models in order to balance risks with business needs. The purpose of R&CM plans is to accurately portray risk in terms of how it could impact the business, so that management understands where risk is acceptable and where it needs to be mitigated or controlled.
R&CM models help ensure that risk management is something embedded within the entire organization, not limited to certain business units or the purview of C-level executives. In addition, R&CM models specify the controls that are currently in place or those that should be implemented, and the evidence that those controls are needed. The models also allow companies to clarify who is responsible for what in terms of “owning” a particular risk and the process of controlling it.
Risk and business practically go hand-in-hand, and in extreme cases, the consequences of poor risk management can destroy a company. While it’s true that in business, risk is inevitable, there are many ways to protect against the most harmful consequences. With proper planning, damage can be minimized or avoided altogether. Companies that lack a strong risk management team with a proven track record of success may do well to hire an outside risk management consultant.