How to reduce and manage business risk

Taking risks is a fundamental part of being an entrepreneur, but risks that harm your business should be avoided.

This guide outlines how to identify, reduce, and manage risks to your business.

Business risks are factors or events that could threaten your business.

Identifying and controlling all potentially harmful risks, such as increased competition, health and safety issues, third-party legal claims and supplier failure, is key to ensuring your business is resilient.

This is particularly important when economic conditions are challenging.

What are small business risks?

Risks are factors or events that have the potential to negatively impact a business's operations, objectives, or finances.

Risks can be divided into internal and external risks.

Internal risks – risks that you have more direct control over, such as data security, investment decisions, and employee safety.

External risks – factors outside your direct control, such as an economic downturn, natural disasters, and changes in regulations.

How to identify business risks

You should identify the types of risks your business faces.

To ensure all risks are covered, bring together your team and other appropriate stakeholders for a brainstorming session.

It may be helpful to group risks into similar types, such as financial or legal risks.

Financial risks

These are risks that affect your business's ability to pay its debts and manage its finances.

Example risks include:

• increases in interest rates and the cost of materials
• a business unable to repay its bank loans.

Strategic risks

Events and factors that prevent your business from achieving its strategic objectives are known as strategic risks.

Example risks include:

• increased competition from other businesses
• human resources issues such as low productivity and staff shortages
• poor relationships with suppliers
• increased or decreased customer demand
• damage to a business's reputation.

Legal and compliance risks

These are risks that result from changes in government regulations and businesses not complying with current laws.

Example risks include:

• business practices breaking the law due to changes in legislation
• increased business costs to deal with compliance
• a lack of employee training about new regulations
• legal penalties for non-compliance that impact cash flow
• damage to a business's reputation for not complying with regulations.

Operational risks

Businesses suffer operational risks when internal processes and systems are inefficient or fail, threatening day-to-day operations.

Example risks include:

• human error, such as over or undercharging customers
• criminal activity such as fraud, tax evasion, and cyber data theft
• technological failures such as IT system downtime and crashes
• damage to physical assets due to natural disasters, vandalism, and poor maintenance
• actions that violate employment law, including discrimination and health and safety.

Once all the potential risks have been identified, business owners should evaluate them.

This involves working out the likelihood of them occurring and how they could affect the business.

A helpful way to do this is with a risk register, which is also known as a risk log and risk map.

How to control business risks

A risk register is used to evaluate and record all business risks, detailing how they can be reduced or managed.

It will help you to focus on the highest risks affecting your business.

You can search online for a risk register template.

Creating a risk register

Once risks have been identified, write a description of each one.

Be as specific as possible to ensure everyone understands exactly what could happen.

You then need to estimate the likelihood of a risk occurring and what level of impact it could have on your business.

Score both the likelihood and impact on a range of 1-5.

A score of 1 is the lowest likelihood and impact, while a score of 5 is the highest likelihood and biggest impact.

Multiplying the likelihood score by the impact score will give you a risk value.

Risk value = Likelihood × impact

An example of likelihood and impact scoring is on the University of Manchester website.

Once you have calculated all risk values, record the risks in order of importance.

Create a risk response plan

The next step is deciding how you will respond to each risk.

With input from your team and other stakeholders, go into detail about how you will prevent the risk from happening or deal with it should it occur.

Your response plan could involve controlling risks by using the services of a third party, such as an insurance company, managing the impact of an inevitable risk by making process changes, or ruling out the risk entirely by taking specific actions.

Each risk should be assigned an owner whose role is to reduce or manage it.

Be clear on the responsibilities required and provide any necessary training.

How to monitor business risks

Your risk register needs to be regularly reviewed.

It should be updated when new risks occur, or existing ones change.

You should also check that the actions outlined in your response plan are being carried out effectively.

A new person should be identified if a risk owner leaves the business or another factor prevents them from carrying out the role.

Provide relevant training if it is needed.