How to Assess Risks for New Business Ventures

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Analysis of risk must include possibility of reward.
Analysis of risk must include possibility of reward. (Image: Jupiterimages/Photos.com/Getty Images)

Whether you are thinking of investing in a new venture, working there or building a new venture yourself, an analysis of the risks involved will save you from a potential mistake. Risk to a business comes in just a few basic forms: industry risk, market risk, product risk that affects earnings, interest rate and economic risk and decision risk. Look at each of these elements with a skeptical eye, noting whether there are contingency plans to mitigate risk or whether there is vulnerability.

Evaluate the industry risk. The more complex and over-served the industry, the greater the chance that the new venture will never achieve market share. A failing industry, such as the typewriter industry that failed when personal computers came on the scene, presents a significant risk of slow loss over time until each company goes out of business or transitions to a new product mix.

Evaluate the market risk, including competition and the effectiveness of the marketing model. A new venture runs the risk that its products and services will be outmoded by offerings from financially stronger and more diverse industry competitors. Lack of sufficient marketing money will result in slow growth that may keep the company lagging its competition.

Determine the future earning potential and the downside liabilities of the product or service. This involves a combination of the health of the industry, the quality of the product, whether the product is expensive or reasonable in price, and the capability of management.

Evaluate economic and interest rate risk. A company that depends heavily on funding for its operations will be sensitive to changes in interest rates. Economic downturns will harm a company that relies on sales of durable goods, apparel, and consumer electronics. Food and alcoholic beverages, on the other hand, do well during a recession.

Evaluate the management. If you are building your own venture, your management's skill level should be augmented by an experienced advisory board. If you are intending to invest in or work for a new venture, determine how experienced management is in the industry and the quality of past decisions.

Tips & Warnings

  • Perform financial analysis to see if your identified areas of risk have affected the performance of the company, or whether the company is financially strong enough to overcome times when the risk is realized in negative events.
  • Risk can swing both negative and positive. Do not overlook a venture that has risk exposure because high risk often produces high rewards. The trick is in controlling the effect of the risk.

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