Risk management for small businesses

Managing the risks facing your small business helps increase the probability you’ll achieve long-term growth and success. Learning and applying the steps in the risk management process can help prepare your business for whatever it may encounter.

What is business risk?

Business risk is any threat, internal or external, that can lead to a loss of profits or to bankruptcy.¹ Some examples include:

• Inflation or financial risks outside of a company’s control
• Internal factors like work culture and management

What is risk management?

The International Risk Management Institute defines risk management as “the practice of identifying and analyzing loss exposures and taking steps to minimize the financial impact of the risks they impose.”

A risk management strategy, then, works to protect your business from internal, external, strategic, reputational or operational risks.

Creating a plan for mitigating those risks helps organizations prepare for the unexpected and minimize extra costs. But not all risks are negative. According to the Small Business Administration (SBA), risks can also arise from opportunities. For example, expansion and growth are exciting opportunities, but they can also pose additional risk if mishandled.

Risk management’s ultimate goal is to prevent or minimize any negative impact on your business.

Why is risk management important?

Risks are present in day-to-day life. This omnipresence means that, without considering the threats that may be involved in any given business activity, it’s difficult to keep planning under control.

Empowering your business to identify and mitigate future—and also inevitable—risks allows you to also make good business decisions in the present and tackle risks as they occur. It could well be that the viability of your business lies in your ability to tackle risks effectively and put structures in place to handle whatever is thrown at you.²

Risk management also:

• Increases the probability of business success by helping to prepare for the unexpected
• Saves time and guides decision-making because it gives a go-to framework for determining which business opportunities to pursue and which to avoid
• Helps make you a better business owner

6 common types of business risks

There are many threats to a business’s capacity to achieve its financial goals, and they generally fall into six categories.

1. Financial risk

While most risks can financially affect your business, this type of risk refers specifically to cash flow. For example, having a large portion of your revenue coming from just one customer, or incurring a lot of debt, can jeopardize your liquid assets.

There are several types of financial risks that businesses should look out for, including:

• Liquidity risks – This risk means that a company cannot quickly convert its assets to cash to fulfill short-term needs.³
• Credit and default risks – If a company extends too much credit to its customers, takes out too much credit from a lender, cannot afford to pay loans back or is not recouping enough on its loans to customers, this type of risk occurs.³

Financial risk management

When it comes to managing financial risk at the corporate level, there are a few helpful strategies:

• Risk avoidance Businesses may opt to shy away from operations and ideas that pose a high risk rate if they are unsure they could survive if something goes awry.⁴
• Risk transfer Transferring risk means shifting financial responsibility for losses or damages to another entity.¹² For example, purchasing insurance is a way to transfer risk to a third party and insulate your company against potential risks.⁴
• Risk spreading Taking steps like duplicating records, placing employees in different locations and generally dividing assets among people and places is spreading risk. This sort of risk management is helpful because it ensures one incident (such as a fire or local security threat) is not fatal to your company.¹²

2. Strategic risk

Strategy risks, according to Harvard Business Review, are those a company voluntarily assumes in order to generate greater returns. Every opportunity, even potentially lucrative ones, carries risk. Having a risk management plan in place beforehand helps you decide whether an opportunity is worth the leap, or whether the payoff doesn’t outweigh the exposure.

Strategic risk management

Below is a list that you can use to better manage strategic risks.⁵

• Identify your business’s strategic risks.

Is your goal growth? If so, you will encounter strategic risks along the way to reaching this goal, including incurring more costs to make more money. Think about if these risks are worth implementing that strategy.⁵

• Assess your risks.

Take the risks of all of your strategies and goals into account. Which risks can you live with taking, and which are not worth the chance? Low-risk, high-reward risks are definitely worth taking, but those with a higher chance of failure may need to be shelved or postponed.⁵

• Create a contingency plan.

What happens if the risks don’t pay off? Think about the strategies above for managing financial risk: do you have a plan in place, such as risk reduction or risk transfer, if something does not go to plan?⁵

• Solidify your guardrails for the future.

Once you decide to take, or to shelve, a strategic risk, it’s important to put a framework in place to manage it, and to help make similar decisions in the future.⁵

3. Reputational risk

Reputational risk is any risk associated with the image (i.e., the reputation) of your business. Unlike strategic risks, these are often unexpected and happen with little-to-no warning.⁶

One bad review or negative comment might not seem important at first, but if your reputation is tarnished, you risk losing customers, brand loyalty, sponsors, suppliers and even employee morale. For small businesses especially, this type of risk is related to online reviews, such as Glassdoor, Yelp and Facebook.

There are a few forms of reputational risk, which include:

• Direct Your company’s actions and mistakes⁷
• Indirect Actions taken by employees or mistakes made by employees⁷
• Peripheral Actions taken by your associated businesses⁷

Reputational risk management

There are several ways you can help protect your company and manage your reputational risk. Consider the strategies below:

• Monitor your online presence and reputation—this includes both what customers and employees are saying about your company.³
• Be transparent about any issues you see arising and fix them as soon as possible.
• Commit to great customer service and training from the start and throughout your business’s lifecycle.³ If a reputation risk occurs, it’ll be easy to pinpoint what went wrong if you have a robust training program and culture instilled.
• Track your reputation’s progress.⁷ Watch review scores (this could be number of stars, a number out of 10, etc.) and make sure this is going up. Keep track of what is causing any increases or decreases.

4. Hazard risk

When discussing risk, hazard is often the first to come to mind. It includes common threats such as property risk, legal liability and workers’ compensation. Examples include building fires, storm damage, and employee illness or injury.

Any type of situation or environment that creates a risk for employees is considered hazardous. For example, there are risks if machines are not handled properly, when schedules are strenuous or if a natural disaster occurs.⁸

Hazard risk management

To help limit hazardous risks, businesses should take actions to support their employees like performing regular safety audits and provide mental health support.8 Inspecting health hazards throughout the facility is beneficial for identifying any gasses or vapors that may be invisible, and can also help mitigate other types of risk, like legal or reputational. Think about it: if word gets out that your business is dangerous for employees, what effect could that have on your business?⁹

5. Operational risk

From technology to employees, operational risks involve anything that could impact internal, everyday activities. Some threats to operations include a server outage, incorrect data entry or lack of cash control among employees;³ and human error, such as incorrect data entry that leads to a product shortage.

Operational risk management

Here are some steps to consider when implementing operational risk management strategies:

• Develop a framework to analyze data and help identify risks.¹⁰
• Assess the likelihood of risk and measure the degree of impact on your business.¹⁰
• Use a scale to determine the magnitude of the risk.¹⁰
• Take time to properly train employees to mitigate human errors and help decrease internal risks.³
• Develop plans for operational risks outside of your control. What will you do if your computer system shuts down? What will you do in case of severe weather?³

6. Cybersecurity risk

Cybersecurity risks occur when a company’s private and financial information gets exposed because of hacking or fraud.³

These kinds of risks continue to be a growing problem, especially as we become more digital. Therefore, it’s important to take the necessary steps to protect your business and keep your data and systems safe.

Cybersecurity risk management

To manage cybersecurity risks, it could be helpful to:

• Invest in fraud protection tools and security software.³ Research best practices for passwords and stay educated on the latest in phishing and hacking attempts.
• Teach employees how to protect themselves by being aware of suspicious emails or links.³ What can they look out for to easily identify something as fraud?
• Consider investing in a cyber insurance policy to shift risk.¹¹

We’ve outlined more ways you can help protect yourselves against hackers by taking the right security measures and providing employees with training and education. Find out more and access other helpful resources and tips for increasing your security in our business solutions center online.

How to identify business risks

1. Identify the risk

Gather your team and brainstorm any potential risks, from customers to equipment. The SBA also recommends investing in a business plan to help you “look at anything that could halt, slow, or affect the profit of your business.” Once you have identified risks, categorize them by what may present the most threatening growth obstacles to your business.

2. Analyze the risk

Now consider the impact each risk has on business operations, continuity and future growth. Consider creating a strengths, weaknesses, opportunities and threats (SWOT) analysis with your team to uncover internal strengths and weaknesses as well as external opportunities and threats. Then, evaluate the probability and potential consequences of each risk on your list, and rank them as low, moderate or high so you can prioritize which risks to respond to first.

3. Evaluate risk management options

Start with your highest-ranked risks, and choose whether you will respond by avoiding, mitigating or transferring them. For example, as a customer-facing business, you couldn’t altogether avoid the risk of customers coming into your store. But you could mitigate the risk by controlling for the type of flooring you have to prevent a slip-and-fall incident. As a restaurant making deliveries, you could limit your driving risk by using a food delivery service. For some risks, you could transfer liability to an insurance company.

4. Select how to manage risk

Now it’s time to put your plan into action. In the above example about preventing customer slips and falls, your implementation plan could be to call a flooring contractor at 9 a.m. on Thursday to choose your flooring and then schedule the install date. Then, post clear signage to make sure customers do not go near the install location so everyone remains safe.

5. Monitor and review the risk

Set one or several check-in dates to assess how your plan is working and make adjustments. For example, is the food delivery service you chose successful, or do you need to try another service to help limit your road risk? Remember, don’t stop at the identifying stage. It’s important to lay out your next steps with accountability to ensure your business responds to each threat, and then continue to monitor and review the risk.

Insure against risks

As part of creating a solid risk management plan, it’s important to insure against the risks you’ve identified.

When it comes to finding the right insurance for your small business, you’ll want to partner with an insurance company that understands your industry and can customize a policy to meet your unique needs.

To find out how much business insurance will cost you, get a customized small business quote from Nationwide and discuss your risk management plan with your insurance agent.

For more small business resources, visit the Nationwide Business Solutions Center.

[1] “What is business risk?” mckinsey.com/featured-insights/mckinsey-explainers/what-is-business-risk (Accessed February 2024)
[2] “Risk Management” corporatefinanceinstitute.com/resources/career-map/sell-side/risk-management/risk-management/ (Accessed February 2024)
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[5] “What is Strategic Risk and How to Manage It: A Definitive Guide” Indeed Editorial Team, indeed.com/career-advice/career-development/strategy-risk (Accessed February 2024)
[6] “What Is Reputational Risk?” Flori Needle, blog.hubspot.com/service/reputational-risk (Accessed February 2024)
[7] “What Is Reputational Risk?” Mary Morgan, indeed.com/career-advice/career-development/reputation-risk (Accessed February 2024)
[8] “11 Business Risk Examples You Can Expect” Indeed Editorial Team, indeed.com/career-advice/career-development/business-risk-examples (Accessed February 2024)
[9] “10 Types of Business Risks and How to Manage Them” Indeed Editorial Team, indeed.com/career-advice/career-development/risks-business (Accessed February 2024)
[10] “What Is Operational Risk Management?” Indeed Editorial Team, indeed.com/career-advice/career-development/what-is-operational-risk-management (Accessed February 2024)
[11] “What is cyber risk management?”ibm.com/topics/cyber-risk-management (Accessed 2024)
[12] “What are the Essential Techniques of Risk Management” hr.fullerton.edu/risk-management/information-and-document-requests/information-management/essential-techniques-of-risk-management.php (Accessed February 2024)