One of the areas constantly dismissed by business owners in their business plan is an articulation of the risks in the business.
This either suggests you don’t believe there to be any risks in your business (not true), or are intentionally avoiding disclosing them.
Either way, it is not the best start to have with a potential funding partner. In fact, by dismissing the risks in your business, you actually make the job of a lender or investor that much more difficult.
Why a funder needs to understand your business’s risks:
Funding businesses is all about risk and reward.
Whether it’s a lender or an investor, their key concern will be trying to balance the risks inherent in your business, versus the likelihood of a reward, typically increasing business value. An imbalance occurs when entrepreneurs talk extensively about the opportunities inherent in their business, but ignore the risks.
The fact is, all funders understand that risks exist in every business. This is just a fact of running a business. There are risks that exist with your products, customers, suppliers, and your team. From a funder’s perspective, it is important to understand the nature and size of risks that exist.
There are two main reasons why funders want to understand business risks:
Firstly, they want to understand whether or not the key risks in your business are so fundamental to the investment proposition that it would prevent them from funding you.
Some businesses are not at the right stage to receive external funding and placate funder concerns. These businesses are best off dealing with key risk factors prior to seeking funding.
The second reason why lenders and investors want to understand the risk in your business is so that they can structure a funding package that works best overall, despite the risk.
In my experience, this is an opportunity that many business owners are wasting, as they are not giving funders an opportunity to structure deals suitable for them.
Here’s an example:
Assume your business is seeking equity funding, but has a key management role that needs to be filled. This could be a key business risk for a funder.
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Highlighting this risk shows that you are aware of the appointment need, and are putting plans in place to help with this key recruit. An investor may reasonably decide to proceed with funding, but the funding will be released in stages. Some will be released immediately and the remainder will be after the key position has been filled.
The benefit of highlighting your risks is that it demonstrates to investors that you understand the danger the risks pose to your company, and are aware that it needs to be dealt with. This allows for a frank discussion to take place, which is more difficult to do if you don’t acknowledge this as a problem in the first place.
Ultimately, the starting point for most funders is that they want to invest in you, and want to validate their initial interest in you.
Highlighting your business risks will allow the funder to get to the nub of the problem, and give them a better idea of how they may structure their investment in order to make it work for both parties. If they are unsure of the risks or cannot get clear explanations from the team, it is unlikely they will be forthcoming when it comes to finding ways to make a potential deal work.
The right way to address business risks:
The main reason many business owners don’t talk about business risks with potential funders is because they don’t want to highlight the weaknesses in their business.
This is a fair concern to have. However, there is a right way to address business risk with funders, without turning lenders and investors off.
The solution is to focus on how you mitigate the risks.
In other words, what are the steps you are taking in your business as a direct reaction to the risks that you have identified? This is very powerful in easing funder fears, and in positioning you as someone who has a handle on their business.
For example, if a business risk you had identified was a high level of customer concentration, then a suitable mitigation plan would be to market your products or services targeting new clients, as opposed to focusing all efforts on one client.
Having net profit margins that are lower than average for your market would raise eyebrows and be considered a risk. In this instance, you could demonstrate to funders the steps you are putting in place over a period of time to help increase those margins to at least market norms for your niche.
The process of highlighting risks—and, more importantly, outlining key mitigating actions—not only demonstrates honesty, but also a leadership quality in solving the problems in your business. Lenders and investors want to see both traits.
The impact on your credibility:
Any lender or investor backs the leadership team of a business first, and the business itself second.
This is because they realize that it is you, the management team, who will ultimately deliver value and grow the business for the benefit for all. As such, it is imperative that they have the right impression about you.
The consequence of highlighting business risks in your business plan with mitigations is that it provides funders a real insight into you as a business leader. It demonstrates that not only do you have an understanding of their need to understand risk in your business, but you also appreciate that minimizing that risk is your job.
This will have a massive impact on your credibility as a business owner and management team. This impact is more acute when compared to the hundreds of businesses they will meet that omit discussing the risks in their business.
The fact is, funders have seen enough businesses and business plans in all sectors to instinctively know what risks to expect. It’s just more telling if they hear it from you first.
What does this mean for you going forward?
Funders rely on you to deliver on your inherent promise to add value to your business for all stakeholders. The weight of this promise becomes much stronger if they can believe in the character of the team, and that comes from your credibility.
A business plan that discusses business risks and mitigations is a much more complete plan, and will increase your chances of securing funding.
Not only that, but highlighting the risks your business faces also has a long-term impact on your character and credibility as a business leader.