“The first check you write is for the mortgage but the second is for the insurance.”
-The Blind Side
Risk Management is both a field of study and a practical application process. In short, the concept of risk management asks a business owner to identify risks, assess the potential costs associated with those risks, and take steps to lessen or eliminate those costs.
Car insurance is the classic example of traditional risk management. We know that car accidents happen (for statistics buffs, accidents typically follow a normal distribution), so it is fairly easy to identify that particular risk. Assessing the potential costs associated with a car accident can be harder. We know that some accidents will be mild and some may be severe. We know that accidents will happen, but we do not know where on the continuum of “zero accidents” to “catastrophic accidents” they will fall. Because we know catastrophic accidents are possible, we “shift the risk” to a third-party (in this example, the insurance carrier); and, by doing so, we lessen the cost of accidents.
Risk management, however, is more than just buying insurance. In fact, insurance is just one tool used to mitigate risk. You can also reduce or avoid threats (this is the business equivalent of getting anti-lock brakes on your car); and you can take steps to minimize or limit the cost of potential threats to you or your business (this is the business equivalent of installing an airbag in your car).
The left tackle in football, financial planners, well-drafted contracts, real estate agents, wills, and employee handbooks are all examples of alternative forms of insurance that help manage future risk.
Alternative forms of insurance are designed to identify future risk and allow you to put down “cheap money” before a catastrophic event occurs and guard against much higher costs in the future should something go wrong.
A good attorney can help companies craft risk management plans that not only protect the business but actually add value over time. Most often, this process begins with a company’s operating agreement. A well-written operating agreement sets clear expectations for everyone in the company. It allocates responsibility and, in so doing, it allocates risk (and risk management).
Whether you’re launching a new business venture or looking to improve your current business, there is no shortage of “consultants” looking to squeeze one more dime out of your business budget. You will face the persistent temptation to “go it alone, and in many ways, you can.” Risk management, though, may be one of those places where you take the help. Properly identifying risks, assessing the costs, mitigating risk, and reducing cost can mean the difference between success and failure.