Financial risk management is as important to a business as fundraising is vital to a charity. Without a sound risk-management regime, the business may be unable to set itself up for future success. It could incur losses in its credit and market activities; a situation that ultimately could cripple its long-term financial profile.
Financial risk helps a company identify specific exposures in its operations, especially those that could make it lose money. Financial exposures include various types of risks, which run the gamut from credit and market exposures to foreign-exchange risk. Credit risk causes a business to lose money if a business partner, such as a customer, is unable to repay amounts owed. This may happen if the client files for bankruptcy or is facing a temporary cash crunch. Market risk is the loss expectation arising from negative movements in material prices, especially goods that go into the firm's production processes. Foreign-exchange risk deals with the loss that may result if a company sees its nondollar-denominated assets lose value because of changes in a foreign currency's value.
Financial Risk Management
Financial risk management helps an organization cope with factors that could derail its operations and bring its business to a halt. The practice enables the business to clearly identify areas where it could lose money, preventing the skewed view that often comes from looking into a single work stream or area. The goal is to make sense of what might cause failure by looking at all areas, regardless of exposure, and determine how the company would fare in specific scenarios -- such as the bankruptcy of a major customer.
By implementing sound financial risk management policies, companies understand they can't rely on luck to run their businesses and make money. For a company, the road to riches often goes through a series of operational adjustments. These relate to policies aimed at checking customers' credit scores and financial profiles, as well as monitoring the state of the economy to reviewing periods of uncertainty and slowdown. Financial risk management procedures also involve the continual evaluation of business partners' accounting statements along with profitability and solvency ratios.
Companies rely on various tools and state-of-the-art technology to track and remedy financial risks .The tools of the trade include risk management applications; credit adjudication and lending management system software, also known as CALMS; financial analysis software; and information retrieval or search applications. Other tools include mainframe computers, customer relationship management software and enterprise resource planning programs.
- American Stock Exchange; Dictionary of Financial Risk Management; Gary L. Gastineau, et al.; 1996
- New York Institute of Finance: Credit Risk
- Harvard University; Center of International Development -- A Structural Model for Sovereign Credit Risk; Alexandre Jeanneret; April 2008
- Country Metrics; Managing Risk in International Business; Ephraim Clark
- The Federal Reserve Board; International Financial Risk Management; Alan Greenspan; November 2002