In coming months we will be running an Article Series titled Risk Management. These articles are based on Risk Management Guide for Small to Medium Business, written by and reproduced here with permission by CPA Australia.
CPA Australia Ltd (‘CPA Australia’) is one of the world’s largest accounting bodies with more than 122,000 members of the financial, accounting and business profession in 100 countries. For information about CPA Australia, visit our website www.cpaaustralia.com.au The guide was produced by members of the CPA Australia Business and Management Centre of Excellence.
This guide is not exhaustive. You may need to seek external advice specific to your business circumstances. Not all risks listed in this guide apply to every business so readers can skip those sections.
Small to medium businesses are exposed to risks all the time. Such risks can directly affect day-to-day operations, decrease revenue or increase expenses. Their impact may be serious enough for the business to fail. Most business managers know instinctively that they should have insurance policies to cover risks to life and property. However, there are many other risks that all businesses face, some of which are overlooked or ignored.
Every business is subject to possible losses from unmanaged risks. Sound risk management should reduce the chance that a particular event will take place and, if it does take place, sound risk management should reduce its impact. Sound risk management also protects business wealth.
Risk management starts by identifying possible threats and then implements processes to minimise or negate them.
Sound risk management can produce the following benefits:
- lower insurance premiums
- reduced chance that the business may be the target of legal action
- reduced losses of cash or stock etc.
- reduced business down time
This guide identifies some of the risks and areas where risks may emerge and it provides some strategies to manage them. Readers should ask questions such as, ”What would happen if this was broken, or was not able to perform its role, or was unexpectedly taken away from the business?” This will help them to see any risks which could endanger the business’s viability.
Identifying risks and how to respond to them
Undesirable events, the probability of their occurring and their possible impact vary considerably from business to business and from industry to industry. How does a business identify and manage these particular risks?
- The first step is to identify the events which could cause a loss or disruption to the business.
- Those events should then be analysed to ascertain the likelihood of their occurring and how serious the result would be if they did occur. Start simply by assessing each event as ‘very likely’, ‘moderately likely’ or ‘very unlikely’. Prioritise them by putting a dollar value on each one (e.g. the replacement cost of a critical piece of machinery; or in the case of potential bad debts, the total value of amounts owed by customers).
- Attend to the most likely and the most expensive events first.
- For each possible event, develop procedures commensurate with the level of risk the business is willing to accept.
- Once a procedure is put in place, it should be monitored to ensure it is properly implemented and is effective.
For further information on developing policies and procedures, see A Guide for developing policies and procedures for your business www.cpaaustralia.com.au/986_32251 or seek expert external advice.
Risks posed by customers
Question: Is the business highly-dependent on a small number of major customers? For example, you could have one customer who generates 15 per cent or more of total revenue, or you could have a group five customers who collectively generate over 65 per cent of total revenue. Do you have customers that take up a lot of your time but are less profitable than other customers?
Risk: If the business relies on a small number of major customers, profit and cash flow may be affected in the short term (one to six months) if one of them stops yielding revenue.
Risk mitigation strategies include:
• locking in major customers through long-term service contracts, regularly visiting them, or continually asking their views about the business’s products and services
• spreading the risk by developing smaller, existing customers so that become larger customers
• seeking new, profitable customers
• finding lower-cost ways of servicing the less profitable customers
Risks posed by suppliers
Question: Is the business highly dependent on a small number of major suppliers? For example, do you have one supplier that provides 30 per cent or more of the total product requirements, or is there a supplier whose failure to supply could stop the business?
Risk: If the business depends on a small number of major suppliers, production, profits and cash flow could be affected one of them fails or stops dealing with the business.
Risk mitigation strategies include:
• locking in major suppliers through long-term service contracts
• seeking alternative suppliers capable of supplying similar items
In next month’s series: Risks Posed by Staff; Risks Posed by the Business Premises and it’s Location; and Risks Posed by Information Technology