Types of Business Risks and Ideas for Managing Them

Companies face a variety of business risks that can threaten their ability to achieve their goals if these risks are not monitored and navigated properly. Business risks include everything from financial and reputational risks to compliance and cybersecurity risks, all of which can seriously impact a company’s strategic plans if business leaders don’t take action to mitigate them.

Yet successful business owners can’t reasonably tip-toe around every risk. Attempting to avoid all risks at all costs can hinder a company’s growth. A certain amount of calculated risk is necessary for a company to take chances that allow it to stand out in the marketplace, outperform competitors, win over customers, and earn profits.

What’s most important is that business owners are aware of the typical risks that could shake up their operations. That way, they can aim to prevent them and minimize their impact if they occur. Here’s a look at common business risks for business leaders to consider as they protect the health of their companies.

Financial Risks

Companies must generate sufficient cash flow to make interest payments on loans and to meet other debt-related obligations on time. Financial risk refers to the flow of money in the business and the possibility of a sudden financial loss. A company may be at financial risk if it doesn’t have enough cash to properly manage its debt payments and becomes delinquent on its loans.

Businesses with relatively higher levels of debt financing are considered at higher financial risk, since lenders often see them as having a greater chance of not meeting payment obligations and becoming insolvent. Types of financial risk include:

Credit risk: When a company extends credit to customers, there is the possibility that those customers may stop making payments, which reduces revenue and earnings. A company also faces credit risk when a lender extends business credit to make purchases. If the company doesn’t have enough money to pay back those loans, it will default.
Currency risk: Currency risk, also known as exchange-rate risk, can arise from the change in price of one currency in relation to another. For example, if a U.S. company agrees to sell its products to a German company for a certain amount of euros, but the value of the euro rises suddenly at the time of delivery and payment, the U.S. business loses money because it takes more dollars to buy euros.
Liquidity risk: A company faces liquidity risk when it cannot convert its assets into cash. This type of business risk often occurs when a company suddenly needs a substantial amount of cash to meet its short-term debt obligations. A manufacturing company may not be able to sell outdated machines to generate cash, for example, if no buyers come forward.

Ideas for managing financial risks:

Aim to operate on a lean budget with a low overhead and minimal debts, saving as much money as possible to maintain a steady cash flow.
When seeking loans, look for those with the lowest interest rates possible.
Pay attention to fluctuations in foreign currency rates.
Make regular debt payments on time.

If a company relies on just one or a handful clients for most of its revenue, its financial risk could be significant if one or a few stop using its services. Businesses may want to diversify their customer base so the loss of one client wouldn’t devastate their bottom line.

Compliance and Legal Risks

A company faces compliance or legal risks if it violates government laws or regulatory standards. A business may face compliance risk, for example, if it fails to follow environmental regulations, such as meeting certain pollution and hazardous waste standards.

In certain industries, such as financial services, laws were enacted to protect consumers, so

both small and large banks must comply with a variety of lending and financial disclosure regulations. Companies can also expose themselves to legal risks by breaking contracts with suppliers and other partners, which could subject them to lawsuits.

Employers are also legally responsible for providing safe and healthy working conditions for their employees, and different industries may need to follow a variety of safety requirements. Plus, companies need to comply with equal opportunity laws that make it illegal for them to discriminate against a job applicant or employee.

Companies that violate laws and regulatory standards are subject to a variety of punishments, including fines against the company, prison time for executives, and reputation damage with customers and other stakeholders.

Ideas for managing compliance and legal risks:

Consider hiring legal professionals and human resources personnel who are aware of relevant laws and can defend the company against lawsuits or other disputes that may arise between the company and its employees, customers, suppliers, and other partners.
Invest in technology solutions that help ensure automatic compliance with certain regulations. For example, timekeeping software that ensures employees are paid correctly and are working the hours they are assigned.

Cybersecurity Risks

As more businesses use online and mobile channels for sales and e-commerce payments, as well as for collecting and storing customer data, they are exposed to greater opportunities for hacking, creating security risks for companies and their stakeholders. Both employees and customers expect companies to protect their personal and financial information, but despite ongoing efforts to keep this information safe, companies have experienced data breaches, identity theft, and payment fraud incidents.

When these incidents do happen, consumer confidence and trust in companies can take a dive. Not only do security breaches threaten a company’s reputation, but the company is sometimes financially liable for damages.

Ideas for managing security risks:

Invest in fraud detection tools and software security solutions.
Educate employees about how they can do their part to keep the company’s data safe. Basic guidance includes not clicking suspicious links in emails or sharing sensitive data without encrypting it first.

Operational Risks

A business is considered to have operational risk when its day-to-day activities threaten to decrease profits. Operational risks can result from employee errors, such as undercharging customers. Additionally, a natural disaster like a tornado, hurricane, or flood might damage a company’s buildings or other physical assets, disrupting its daily operations.

Of course, one of the starkest examples of negative impacts to companies’ production and supply chain operations is the Coronavirus pandemic. In an April 2022 Small Business Pulse Survey conducted by the U.S. Census Bureau, roughly 65 percent respondents reported that the pandemic had either a moderate negative effect or a large negative effect on their business.

Ideas for managing operational risks:

Make time for necessary employee training to minimize internal mistakes.
Develop contingency plans to shield against external events that may impact operations. For example, a restaurant impacted by a natural disaster might be able to partner with another local restaurant, bar, or coffee shop to use their kitchen and sell to-go items.

Reputational Risks

Reputational risk can include a lawsuit against a company, a product safety recall, negative publicity, and negative reviews online from customers. Companies that suffer reputation damage can even see an immediate loss of revenue, as customers take their business elsewhere. Companies may experience additional impacts, including losing employees, suppliers, and other partners.

Ideas for managing reputational risks:

Pay attention to what customers and employees say about the company both online and offline.
Commit not only to providing a quality product or service, but also to ensuring that workers are trained to deliver excellent customer service and to resolve customer complaints, offer refunds, and issue apologies when necessary.

The Takeaway

Business owners face a variety of business risks, including financial, compliance, cybersecurity, operational, and reputational. No company can avoid all risks, but they can take proactive measures to prepare without letting that stop them from seizing opportunities for growth.

Photo: Getty Images

Frequently Asked Questions

1. What are the main types of business risks?

There are five main types of business risks:
• Financial Risks
• Compliance/ Legal Risks
• Cybersecurity Risks
• Operational Risks
• Reputational Risks

There are five main types of business risks:• Financial Risks• Compliance/ Legal Risks• Cybersecurity Risks• Operational Risks• Reputational Risks

2. What are common examples of business risks?

• Financial risks can include cash flow problems, inability to meet financial obligations, or taking on too much debt.
• Compliance and legal risks can arise from non-compliance with regulations, changes in legislation, or legal action against the company.
• Cybersecurity risks are risks associated with data breaches, hacks, or cyber-attacks.
• Operational risks include supply chain disruptions, natural disasters, or IT failures.
• Reputational risks can occur when a company’s reputation is damaged by negative publicity, scandal, or other events.

• Financial risks can include cash flow problems, inability to meet financial obligations, or taking on too much debt.• Compliance and legal risks can arise from non-compliance with regulations, changes in legislation, or legal action against the company.• Cybersecurity risks are risks associated with data breaches, hacks, or cyber-attacks.• Operational risks include supply chain disruptions, natural disasters, or IT failures.• Reputational risks can occur when a company’s reputation is damaged by negative publicity, scandal, or other events.

3. How can you identify a business risk?

There are a few key ways to identify business risks:
• Reviewing financial statements and performance indicators: This can help you identify risks related to cash flow, profitability, or solvency.
• Conducting a SWOT analysis: A SWOT analysis (Strengths, Weaknesses, Opportunities, Threats) can also be a helpful tool for identifying risks and brainstorming ways to mitigate them.
• Identifying key dependencies: Key dependencies are things that your business relies on to function, and if they were to fail or be disrupted, it could have a serious impact on your business.
• Carrying out root cause analysis: Conducting root cause analysis can help you to identify what underlying factors could lead to a problem or issue.

There are a few key ways to identify business risks:• Reviewing financial statements and performance indicators: This can help you identify risks related to cash flow, profitability, or solvency.• Conducting a SWOT analysis: A SWOT analysis (Strengths, Weaknesses, Opportunities, Threats) can also be a helpful tool for identifying risks and brainstorming ways to mitigate them.• Identifying key dependencies: Key dependencies are things that your business relies on to function, and if they were to fail or be disrupted, it could have a serious impact on your business.• Carrying out root cause analysis: Conducting root cause analysis can help you to identify what underlying factors could lead to a problem or issue.