Why Having a Risk Management Plan is Important for Small Businesses

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Taking the plunge and deciding to start your own small business isn’t something that’s for everyone. Have you ever wondered why that is? 

Why would some people prefer to work for others instead of themselves? One of the main reasons is security. If the business you are working for goes under, the worst thing that will happen is that you will be out of a job and looking for a new one. 

If the business you own and run fails, you stand to lose far more. Simply stated, starting a small business is a risky endeavor and one in which very few things are guaranteed.

All businesses, big and small, face a large variety of potential risks. However, one can say that every risk is amplified for small business owners, simply because every loss of money and financial pitfall can potentially cripple a small company, which can’t be said for large corporations. 

That’s why putting a risk management plan together should be one of the first steps that any would-be small business owner takes on their entrepreneurial road. 

What is risk management? 

Risk management is a process. This process includes identifying your business risks, evaluating them, and then deciding how to deal with them. 

Did you know that 42% of startups fail because there was no market demand for what they were trying to sell? This might sound like a risk that should have been identified in the earliest stages of the business, but you’d also be surprised at how many businesses don’t perform the proper market research that’s needed to identify such a risk. 

The process of putting together a risk management plan should result in the creation of a plan that your business will be able to follow in order to expose itself to the least amount of risk possible. This plan will enable your company to set up procedures that will help you avoid risks that are avoidable and minimize the impact of risks that are not. 

Risk management is also a cyclical process that never really ends. Risks need to be reevaluated continuously as your business changes and grows. Let’s take a more in-depth look at the process of putting together and implementing a good risk management plan. 

How to put together a strong risk management plan

If you want to boil it down to the most essential steps needed to put together a solid risk management plan for your small business, there are three main steps that need to be taken: identification, evaluation, and mitigation. 

Identification 

This part of the process asks business owners to put together a list, as exhaustive as possible, of the potential risks that can affect their businesses. These risks can be related to your business strategies and how effective they are, risks related to your business’s day-to-day operations, regulatory risks related to laws and compliance, reputational risks, financial risks, and more. 

Evaluation 

Once you have identified your risks, it’s time to analyze them. What’s most important to take into consideration during this phase of the process is how likely these risks are to occur and how severe the consequences will be if they do occur. Knowing the possible impact of your risks helps you make a decision on how to mitigate them. 

Mitigation 

This is the stage of your plan in which you’re recommending concrete actions that need to be taken in relation to each risk that you have identified. 

Risk management is an ongoing process

As mentioned earlier, this process never really ends as long as your business is running. Your risk management plan and the way in which you are implementing it needs to be continuously monitored and tweaked over time in order to make sure that you are always protecting your business as thoroughly as possible. 

Now that you know how to put together a risk management plan, let’s take a look at some of the most common ways businesses can face their risks in the mitigation process. 

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Common risk management tactics 

Once your small business has identified your risks and analyzed their potential impact, the mitigation part of the process requires you to make a decision on how to face and tackle each of the possible risks that you have identified and evaluated. 

Generally, there are four tactics that are most commonly employed:

Risk avoidance 

If you’ve evaluated a risk as being potentially volatile and you see a chance of it doing great financial damage to your business if you take the risk and it doesn’t pan out, then it’s probably a risk that is best avoided. For example, if you’re running an ice cream shop, you could be contemplating adding baked goods or other sweets to your menu. If you’ve done some research among customers and you haven’t seen much of an interest, it might be best to avoid taking that risk at this time. 

But as mentioned earlier, all risks should be periodically revisited. This means that while this idea might be an incredibly risky one at this time, it might not be as risky several years from now if your ice cream business is steadily growing and you’re seeing steady increases in revenue annually that make this type of decision to expand your offer less of a financial risk, simply because you have more money to spend on optimizing your business.  

Risk reduction

Reduction basically means doing everything you can to make a risk less risky. To use the same ice cream shop example, if you’re not ready to experiment and add other products that aren’t ice cream to your shop but you still want to take a certain amount of risk in the hopes of improving your sales, there are smaller risks that you can take to do that. 

For example, you could simply add new ice cream flavors and toppings to your offer. By doing so you have taken a risk by changing your menu, but you have not done anything drastic that could potentially put you into a disastrous financial hole if the move doesn’t pan out. 

Risk acceptance 

In the above example, you’ve reduced your risk by modifying your offer in a minor way, and by adding new flavors and topping to your menu, you’ve defined this risk as an acceptable one to take. Acceptance is the best way to deal with risks that can’t cause you much damage, even in worst-case scenarios.

Transference of risk

Whenever you hear someone talking about buying business insurance, they are talking about risk transference. When your small business purchases a policy from an insurer, they are essentially paying to transfer risk to a third party. No matter how big or small your business is, purchasing business insurance to mitigate various business risks is practically unavoidable. 

The role of insurance in risk management

Once you’ve identified and evaluated your risks, you’ll be able to better understand which risks should be transferred to an insurer. For starters, a majority of small businesses that are just starting out will usually buy a Business Owner’s Policy, known as a BOP. 

This is basically an insurance policy bundle that gives you three policies; general liability insurance, property insurance, and business interruption insurance. BOPs are popular because they give small businesses a good amount of basic coverage while paying significantly less than they would pay if they wanted to buy those three policies separately. 

Naturally, the price of your BOP depends on your business’s risk profile, but no matter what that price is, it’s still going to cost you less than having to buy general liability, property, and business interruption policies separately.  

Let’s take a look at some of the risks that a BOP would typically cover:

General liability 

Covers claims related to third-party property damage or bodily injury. If a customer injures themselves in your store and takes you to court as a result, this insurance policy would cover your legal costs and eventual settlements.

Commercial property insurance 

Weather damage, natural disasters, and fires are examples of unexpected and usually unavoidable risks that can cripple your business. If you purchase property coverage, your insurer will cover the cost of property, inventory, and equipment damage in the case of severe weather, vandalism, electrical fires, power outages, and other risks that are often out of your control.

Business interruption insurance

If your business burns down in an electrical fire, property insurance will help you rebuild and reopen. But what will you do until then? Business interruption insurance will cover expenses such as loss of income, wages, rent, and loans so that you can keep your business afloat while you’re getting back on your feet and not making any money. 

Insurance needs are different for every business

Just as there is an unlimited number of business risks, there is also a myriad of insurance products that were created to mitigate many of them. Obviously, no two businesses have the same risk profile. 

For example, a risk management plan for a law firm and one created for a real estate firm will be completely different. Even in the case of two retail businesses, for example,  the risks that these businesses face are dependant on how many employees they have, whether they sell online or in physical stores, what types of products they sell, and a slew of other factors.  

This is why it’s important to talk to an experienced broker that is familiar with your small business’s specific industry in order to get quality recommendations on coverage that will protect your business as holistically as possible from risks that are both severe and usually out of your control. 

The benefits of proper risk management

The most obvious benefit of putting together a good risk management plan is that it helps you to avoid risks that could negatively impact your business. However, another great thing about proper risk management is that it can result in positive effects on other aspects of your business as well, for example: 

Better finances 

When your business has a strong risk management plan and executes it well, you’re able to avoid some pitfalls that could have hurt your business’s bottom line if the risks hadn’t been identified and avoided or mitigated. Furthermore, banks and other financial institutions are much more likely and willing to offer loans to companies that are properly managing and transferring their risk. 

A stronger brand 

A business that manages its risks properly is often a successful, stable, and prosperous one. When a small business is proactive about managing its risk, it is sending a clear message to employees, partners, and customers that they are dealing with professionals who take its success and reputation seriously. 

Increased efficiency 

The risk evaluation process can also uncover areas of your business that are being run inefficiently. This then enables you to fix problems that might be leading to a decrease in the quality of the product or service you offer. Risk identification practices can often uncover inefficient financial processes as well and areas where you might be leaking money unnecessarily. 

A risk management plan is vital to the success of your business 

Performing risk analysis and putting together a risk management plan for your small business helps you to learn more about your business and also enables you to get to know yourself, your business partners, and your customers even better. 

These added benefits only amplify the importance of creating a plan for managing the many risks that can affect your business and most importantly, putting that plan into action and keeping it updated as your business grows and evolves over the years. 

AvatarDavid Galic

David Galic is the Senior Content Writer at Embroker, an industry-leading digital brokerage. Starting his career as a journalist, David has spent the last decade working with tech startups to provide small businesses with technology that makes their jobs and lives easier and more efficient.



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