Applying an effective risk management approach can help you better understand and plan for the financial risks that can impact your business. Effective financial risk mitigation strategies help manage and minimize threats to your growth and success.
What is Financial Risk?
Cash flow – the money coming in via accounts receivable and going out via accounts payable – is the lifeblood of your business. Cash flow is affected by certain financial risks, which have the potential to create sudden losses that would make it difficult or impossible for you to manage your business’s financial obligations. Those risks can include clients not paying you, changing market conditions that could affect how you conduct your business, and mismanagement or technical failures that can affect your revenue, among others.
When you perform a company financial risk assessment, you can evaluate your financial risk level from multiple angles. Basing business decisions on those findings can help reduce the possibility of these risks impacting your business.
What Are the Different Types of Financial Risk?
Financial risks are those that affect your cash flow and how money is handled in the business. They can include these five major types of risk:
- Market risk refers to the ever-changing business environment and how that environment affects how you do business. Examples of market risk include how online shopping has affected traditional retail businesses and how the internet has affected print newspapers.
- Credit risk is the risk that comes from extending credit to a client who does not pay. This can disrupt your cash flow and reduce your profit.
- Liquidity risk refers to the inability of a company to quickly convert its assets to cash if a sudden need for cash exists. It also refers to a company’s inability to meet its financial obligations.
- Operational risk is the risk that operational failures – such as mismanagement, fraud, business model failure or technical issues – will affect the performance of the business.
- Currency risk is the risk of unfavorable changes to the exchange rate between the operating currency and the transactional currency. Businesses diversified into foreign markets or relying heavily on the import and export of goods are most at risk.