Small businesses are exposed differently when it comes to financial risks compared to bigger and more established companies. For starters, they don’t have the same financial capacity as large organizations have at their disposal. As a result, small businesses are more defenseless to closure much faster than bigger companies can survive while having a poor bottom line. Small lending business, for instance, are more vulnerable to financial risks since they are directly dealing with the financial wellbeing of their clients as well as their ability to repay the obligation. Taking those things into consideration, below are four types of financial risks that small business is likely to encounter in its existence than its larger counterparts.
- Credit risk
Credit risk is the potential that a borrower will fail to pay up their financial obligation on the date and terms agreed when the loan was issued. Any instances or factors that make it uncertain for the borrower to pay back its creditor can be considered as credit risk and this could include death, unwillingness to pay and a drastic change in income. To minimize the credit risk, small lending business usually offers loans at a higher interest rate especially if the target market is prone to high risk. They may also consider the credit history, income, and other financial transactions of the borrower to determine how much they interest rate they will give to them. In most cases, borrowers who apply for loans to pay other loans are usually considered as a high-risk account.
- Transactional risk
In situations where there has been a cash has been disbursed but the transaction on the receiving end has been invalid, the problem lies on the part of the liability. So, who is responsible for paying the money to the borrower? Does the borrower have to pay back the money if the lender records show that he was paid but the transacting company did not confirm such payment transaction? When things like this arise, chances are the error could be due to a faulty system. To avoid them from happening, it’s better to use SMEs loan software to minimize the likelihood of having conflicting records. Manual records are much susceptible to errors and delays compared to digital software solutions.
- Settlement risk
If a lending small business has to deal with sending other currency to its borrower from another country, then there may be some limitations in the kind of currencies that can be accepted for payment. For the most part, the lending business charges a different commission rate for the currency conversions. Settlement risk varies from credit risk because of the fluctuating exchange rate that the latter does not have.
- Risks of deliberate fraud
Similar to the mentioned risks above that is caused by a failed system or a change in the economic conditions, risks of deliberate fraud can come in many forms. Small businesses run the risk of being the receiving ends of deliberate fraud since they have some information about the borrower but may not be able to immediately verify the information. Deliberate frauds usually happen when people falsify their income to have a better chance of getting loans. In some cases, non-deliberate but still fraudulent activity from employees may still be considered as a deliberate fraud by stockholders. Examples of this are the non-compliance with legal requirements or data manipulation by an irresponsible employee.