Every business faces risk, no matter its size, products or geographic location. Unmitigated risks can result in lost opportunity, financial losses, loss of reputation, or loss of the right to operate in a jurisdiction. Understanding the types of risk your business faces is important; it can help you determine how to protect your business investment. Business Link, a UK government resource for businesses, identifies four business risk types: strategic, operational, financial and compliance.
Strategic risk is the broadest category of risk your business will face. Strategic risks are future oriented, according to The Institute of Risk Management (IRM), and can arise when a new competitor enters your industry, when two businesses merge to create an industry powerhouse, or when you face decisions about creating new products or entering new markets.
Your business will also face strategic risks when it considers operational matters, such as how far away from your main center of operations to locate a disaster recovery site. If you choose a site too close to your existing operations, both sites could go down in the event of a major disaster such as an earthquake or hurricane, allowing your competitors to gain market share while your business is disabled. If you choose a site farther away, the expense of communications and travel may be prohibitive.
Operational risks are also broad, but they are short term in nature, impacting the activities your business undertakes on a daily basis. The Office of the Comptroller of the Currency (OCC) defines operational risk as “the risk of loss resulting from failed processes, people and systems, or from external events.” Essentially, operational risk is the possibility that transactions or processes will fail due to poor design, inadequately trained personnel or external business disruptions such as a fire. It also covers the risk of fraud and the possibility that your business will fail to meet a contractual obligation due to operational reasons.
Financial risk is the possibility that a business will not have adequate liquidity to meet its ongoing obligations, and this has both short- and long-term implications. Financial obligations include debt repayment, payroll requirements, dividend payments, government licenses and taxes. Obligations can also include more complex transactions, such as the ability to settle financial transactions in the capital or debt markets. Financial risk encompasses the possibility that external sources of finance, such as debt or the ability to access the capital markets, may not be available when needed. This lack of availability could be due to poor credit ratings or operations in remote locations that are too risky for financial institutions to fund.
Compliance risk is the possibility that the business will not comply with laws and regulations in the jurisdictions where it operates or that the organization will violate a legally binding contract. Noncompliance can be willful, or it can result from being unaware or local legal requirements.
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