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Startups: A Guide To Risk Management

Startups: A Guide To Risk Management

Startups and medium-sized businesses are known to be critical aspects of any economy. However, these are vulnerable to risks because they are innovative by nature, meaning they are exposed to high levels of dynamicity and uncertainty.

Unforeseen situations in the enterprise industry can open avenues for severe loss exposure, including the financial crisis, bankruptcy and interrupted operational activities, especially where capital is not sufficiently strong.

To beat these odds, a disciplined approach must be used to identify the risks. Statistics show that only half of the startups stick around for five years or more. The key reason many fail is due to poor risk management.

Understanding Risk Management

Risk management in an enterprise is defined as the science and art applied in foreseeing what could go wrong and what might be done to mitigate the anticipated risks. The first strategy is based on designing a framework to classify the risks.

Risks are approached in two dimensions, including the severity expected and the likelihood of occurrence. In other words, threats in a business present a state of uncertainty where possibilities of loss and negative results exist.

It means that an organization must create a repeatable and scalable model that addresses these variables to achieve success.

Identifying Business Killers

With the startup economy presenting innovation, opportunities, and high potential, starting a business can be exciting. However, this sector is fraught with risks, requiring you to identify them early and determine the best ways of approaching them. Here, we group company killers into eight categories.

1. Market Risk

Also known as systematic risk, market risk is the possibility that an enterprise is experiencing a loss resulting from factors affecting the performance of the financial market. The sources of this risk could include political crisis, terrorist attacks, and recessions.

In this risk, the entire market is affected at the same time, meaning it cannot be eliminated through diversification. It is the contrast of unsystematic risk, unique to a particular company.

Unsystematic risk is specific and is diversifiable. The most common types of both risks include equity, interest rate, commodity, and currency risk. To protect market risks, a company can utilize hedging strategies.

2. Competitive Risk

Businesses fail when they do not respond to competitive threats. In a competitive market, a new entrant can severely damage an established brand financially.

As such, an enterprise must accurately calculate a threat and respond appropriately. A significant threat needs to be approached quickly and with a convincing defensive strategy.

For instance, an established company could launch a campaign to create doubt about the new entrant, or invest in promotions on their products. Begin by evaluating the threats.

3. Operational Risks

These are the uncertainties faced by an enterprise. This can be a result of a breakdown of systems and internal procedures and not necessarily resulting from external forces. These could be classified as unsystematic risks, unique to a specific company.

They can also be defined as human risks since operations can fail from human error. Decisions made by an enterprise on how internal functions should be managed to affect priorities, translating into operational risks can contribute to this failure.

A good example is the maintenance of equipment and systems necessary for daily operations. If the company can only afford one, operational risk is altered depending on the system that is ignored.

4. Financial Risks

In every business, financial risk is a high priority type of risk. Market movements mostly cause it. At some point, a company may need capital from different bodies to grow.

This is what creates financial risk. In other words, this risk is linked to the utilization of debt and financial leverage. It focuses on the ability of an enterprise to generate a sufficient flow of cash to meet debt obligations.

The higher the percentage of debt financing, the higher the financial risk. This is because a higher possibility of default is created. A good debt/equity ratio means that an enterprise is in a better place to handle a debt burden.

5. Cyber Security

In the information-driven age, where malware and hackers have become more sophisticated, cybersecurity is becoming a significant concern to many businesses.

Regardless of size, enterprises are now being targeted by hackers who are focusing on infrastructure and cloud-based systems.

In that case, data must be protected, and employees educated on safe ways of using the internet. Measures that meet the ISO/IEC 27001 standards of international security must be met. You can ensure this by periodically auditing your ISO 27001/27002 implementation.

6. People Risks

People are the most critical assets, yet the most significant risk in any enterprise. People risks can involve risky decision making to an enterprise failing to quantify retirement. Critical skills gap and debt are also faced at a socio-economic level. Some unpredictable and uncontrollable events such as the death of a manager can also occur, leaving a significant impact on an enterprise.

In progressive organizations, job roles and skill sets need to be structured to move the strategy forward and fill critical skill gaps.

7. Systemic Risks

Systemic risks focus on the combination of natural events caused by human activity, such as social and economic changes. Risk, in this case, needs to be addressed at an integrated level. An increase in fuel prices at a global scale, for instance, would directly impact a company’s logistics.

This would also mean that should competitor lower the prices of their commodities; you also should consider decreasing the costs of your products.

8. Legal and Regulatory Risks

Hefty fines and penalties resulting from tax complications and legal risks can cause a company to go bankrupt. For an enterprise to reduce the legal and regulatory risks, it is crucial to leverage the help of a business consultant.

Risk management is the mitigation of market uncertainties. While enterprises should take stringent measures of preventing and avoiding certain risks, it is crucial to remember that some risks are inevitable but can be beneficial when managed well. It means an enterprise must develop a risk management mindset.

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by Harvey Carr // Harvey Carr is a contributor to Businessing Magazine.

Opinions expressed by contributors are their own.