9 Types of Business Risk You Need to Plan For

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.

Businesses, particularly SMEs, face constant external threats that can potentially damage their business

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. Although risk-taking encourages innovation, a fair balance should be established. Once you have identified potential business risks to your business, you can create a risk management plan to minimise the impact.

‘Learning to plan for and mitigate risk is vital to business wellbeing, capital and reputation’ - Anita Tweats, CEO of The Finance People.

The past 2 years alone, we've seen an 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...

Financial Risk

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 risk is when a business takes out a loan with greater interest than is affordable or when a business that trades internationally is negatively impacted by a foreign currency value depreciation.

A brilliant example of a company that has identified and overcome 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 is based. BMW faced a dilemma as they did not want to pass on exchange rate costs to consumers by raising their prices, so 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.

Competitive Risk

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 it 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.

Operational Risk

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.

Compliance Risk

A compliance risk arises when external regulations are violated, potentially resulting in penalties or a 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 dollars by the FTC for violating customers’ privacy.

Security Risk

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 victim of fraud, resulting in a loss of 70 million euros.

Strategic Risk

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 ‘90s and early 2000s. 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

Human risk refers to any risk that arises from human factors, including the decisions and actions of an organisation’s 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.

Reputational Risk

A reputational risk is the damage that can occur to an organisation’s 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 that 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 of Pret-A-Manger food, and the company lost the trust of many customers and damaged its reputation.

Physical Risk

Physical risks are threats to an organisation’s 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 can 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 part-time, interim or fractional CFO, then contact us today.