Risk Management – Some Practical Ideas on How to Minimise Risk in a Business

Risk Management – Some Practical Ideas on How to Minimise Risk in a Business

Introduction

Risk is a given in any business and it can be damaging to a business and even threatens its survival. It is therefore essential to be aware of the various risks, to understand its potential impact on a business and to know how to manage it effectively. This article gives some practical guidelines on how to minimise risk. The discussion is done under the following headings:

  • Planning;
  • Relationships;
  • Hedging;
  • Discipline.

Planning

Detail planning goes a long way in reducing risk. Planning should include the following:

  • Feasibility studies. It is important to ascertain the viability of a new venture through a proper feasibility study.
  • Business planning. A business plan gives the detail of how, when and by whom the strategic goals will be achieved.
  • Cashflow projections. Too many businesses go under due to cashflow problems that could have been prevented. It is essential to plan for anticipated cash in- and outflows and the timings thereof.
  • Financial planning. Good financial planning covers many things including projected management accounts and the underlying ratios. Pre-emptive observation and correction of any potential profitability-, liquidity and solvency problems reduce the risk of running into financial troubles.
  • Project planning. Any substantial ad-hoc project in a company is normally handled more efficiently through proper project management. This includes mergers and acquisitions, new product launches and expansion into new territories.

Relationships

When companies evaluate risks they often forget about the human element. This is potentially one of the most fatal risk factors. Relationships should be nurtured. Specific relationships that are important include the following:

  • Suppliers. Good relationships with suppliers are just as important as with any other stakeholder in a business. It makes business sense to negotiate good credit terms with suppliers and to pay them as late as possible, but once an agreement is in place commitments need to be honoured.
  • Customers. Customers should always receive excellent service and be handled fairly and with respect. A large proportion of business normally emanates from existing clients. A specific bad practice is to try and make a quick buck out of a client through very high margins.
  • Employees. Companies often pay lip service as far as the importance of their employees are concerned. Confidentiality agreements and restraints of trade can reduce some risk of unhappy or dishonest personnel, but it can never be as effective as a team of loyal and motivated employees.
  • Financiers. Transparency and information is essential for investors and bankers. Nobody likes to be blindsided or to get unpleasant surprises. To deliver more than what is promised is also a good practice. In difficult times financing can mean survival.
  • Other Stakeholders. Relationships with all other stakeholders should also be kept in place. This can be the local government, governing bodies in the industry, service providers and others.

Hedging

The essence of hedging is to circumvent a potential negative effect in business through an action, product, etc. Hedging is typical in the financial domain, but by working cleverly it can also be achieved (to a certain extent) on an operational level. Some of the ways to hedge the operations of a business are given below:

  • Suppliers. To have back-up suppliers (especially for critical products, raw material and services) is a good practice. This keeps a company from being held ransom by an un-cooperative or out-of-stock supplier.
  • Products. Any company should continually add new products to its offering. To rely on only a few good products can be very risky.
  • Manufacturing. It is worthwhile to consider different manufacturing plants (if the size of the business justify it). The risk on the business due to factors such as natural disasters and labour disputes is thereby reduced.
  • Distribution. Back-up warehousing facilities and distribution channels are advisable.
  • Customers. We have seen successful companies that had serious problems when they lost their biggest customers. Customer risk can substantially be reduced through having many (and loyal) customers.
  • Geography. Political or economic instability in a country can be very dangerous for the businesses that operate there. Wherever possible it is advisable to spread the risk over many geographical areas.
  • Seasonality. Product- and service offerings that cater for various seasons have a very positive effect on cashflows and minimise the potential risks associated with it.
  • ICT. Very few companies can survive without proper information and communication technology. Back-up procedures and of-site facilities reduce the potential risk.
  • Financial. Financial risk management is very prevalent in large international businesses. If you sell your products in the international arena there are many products available to hedge the various risks. Risks that need to be catered for include currency, interest rate and commodity price risks.

Discipline

Discipline can reduce risks in all aspect of business. Discipline should apply to all aspects discussed above as well as to the following:

  • Expenditure. Expenses should be kept under control -especially in times of affluence.
  • Debt. Debt assists a business to grow. A business with too much debt is, however, very vulnerable for liquidation in adverse conditions.
  • Cashflow. A lack of sufficient cashflow is a potentially fatal business risk. Cashflows should be managed diligently.
  • Growth. Business growth requires additional working capital. Uncontrolled growth can lead to financial distress and even bankruptcy and should be avoided.

Summary

Risk in business is a reality. When these risks are successfully managed the rewards can be substantial. If not, a business can run into serious problems and even collapse. It is unnecessary (and stupid) to ignore risks. By adhering to a few basic principles these risks can be reduced drastically.

Copyright© 2008 – Wim Venter

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