LESSON 2

ENTREPRENEUR MANAGES RISKS

TOPICS
1. Types of Risk and Risk Management Strategies on Environmental Decision
Making.
2. The Strategy for Dealing with Risk and Uncertainty and How to Finance with
Bad Credit to Start a Business.

LEARNING OUTCOMES
At the end of the lesson, you should be able to:
1. describe and discuss the risk and risk management strategies on
environmental decision making; and
2. determine the strategy of dealing with risk and uncertainty and identify
the ways on how to finance with bad credit to start a business.

TOPIC 1: TYPES OF RISK AND RISK MANAGEMENT STRATEGIES ON

ENVIRONMENTAL DECISION MAKING
Risk-taking is essential to capitalism.
Without risk, the free enterprise system
cannot function. Not all risks and challenges
can be anticipated, but once identified; they
can be managed by lead entrepreneurs,
executives, and boards working together.
We all have some kind of belief that
entrepreneurship is risky, but the facts are startling. Estimates from the SBA's database
suggest that of the 850,000 new businesses started each year, about 60 percent fail in the
first six years and more than 70 percent fail in the first eight years (Saidali & Manalda,
2015). Risks that are specific to entrepreneurial capitalism are listed here. Entrepreneurial
management knows how to manage these specific risks.

*TYPES OF RISK
1. Economic Risk. How is the business world today? What is the window of opportunity
for this venture? Includes geopolitical threats, economic cycles, interest rates, and
governmental regulations. Economics is all about the allocation of scarce resources,
investment resources. Mankiw cautions that increasing investment means that
societies must spend less and save more. A higher savings rate means the banking and
financial system has more resources to lend, enabling companies to accumulate more
capital for greater productivity and growth. Sacrificing present consumption frees
more money for investment, enabling tomorrow’s consumers to enjoy more
consumption in the future, Mankiw writes.
(http://www.ehow.com/info_10010620_investment-affect-productivity-economic-
growth.html)
2. People Risk. These are stealing pens and notepads, sustaining injuries on the job, not
showing up for work often, and aging – that’s right, growing older. These are just a few
examples of people risk – one of the hardest risk types to quantify and manage at any
organization. (http://www.ehow.com/how_6879551_manage-people-risk.html)

15
3. Market Risk. How are the dynamics of this industry sector? Is there going to be room
for growth in this market? What about the risks of other competitors?
In market economies, there are a variety of different market systems that exist,
depending on the industry and the companies within that industry. Small business owners
need to understand what type of market system they are operating in when making
pricing and production decisions, or when determining whether to enter or leave a
particular industry. (Leigh Richards, Entrepreneur)
Market System
a. Perfect Competition. It is a market system characterized by many different buyers
and sellers. In the classic theoretical definition of perfect competition, there is an
infinite number of buyers and sellers. With so many market players, no one
participant can alter the prevailing price in the market. If they attempt to do so,
buyers and sellers have infinite alternatives to pursue.
b. Monopoly. A monopoly is the exact opposite form of the market system as perfect
competition. In a pure monopoly, there is only one producer of a particular good
or service, and generally no reasonable substitute. In such a market system, the
monopolist can charge whatever price they wish due to the absence of
competition, but their overall revenue will be limited by the ability or willingness
of customers to pay their price.
c. Oligopoly. An oligopoly is similar in many ways to a monopoly. The primary
difference is that rather than having only one producer of a good or service, there
are a handful of producers, or at least a handful of producers that make up a
dominant majority of the production in the market system. While oligopolists do
not have the same pricing power as monopolists, it is possible, without diligent
government regulation that oligopolists will collide with one another to set prices
in the same way a monopolist would.
d. Monopolistic Competition. It is a type of market system combining elements of a
monopoly and perfect competition. Like a perfectly competitive market system,
there are numerous competitors in the market. The difference is that each
competitor is sufficiently differentiated from the others that some can charge
greater prices than a perfectly competitive firm. An example of monopolistic
competition is the music market. While there are many artists, each artist is
different and is not perfectly substitutable with another artist.
e. Monopsony. Market systems are not only differentiated according to the number
of suppliers in the market. They may also be differentiated according to the
number of buyers. Whereas a perfectly competitive market theoretically has an
infinite number of buyers and sellers, a monopsony has only one buyer for a
particular good or service, giving that buyer significant power in determining the
price of the products produced.
4. Technical Risk. Does the product work? What about some technology coming along in
the future that will make this product/technology worthless?
When introducing a new product, there are four primary risks: Product risk; Market
risk; Business risk; and financial risk. The nature of these risks differs from the stage of
product development organization is. Given below is an illustration of how these four
risks change with the product life cycle.
A. Investigation Stage
1. Product Risk. Product may not be feasible or lacks unique qualities and canoe
be protected.
2. Market risk. Limited understanding or knowledge of the market can cause a
misrepresentation of the growth and size of the market.
3. Business risk. Great product or technology, but a new product or technology
does not translate into a great business.
4. Finance Risk. Proof-of-concept funding for product/prototype is difficult to
identify.

16
 B. Feasibility Stage
1. Product Risk. The company is focused on product innovation rather than
business development. Intellectual property rights remain a concern.
2. Market Risk. Unrealistic market study results can cause misallocation of scarce
resources. The final product design is dependent on the successful outcome of
the market study.
3. Business Risk. Exploring business formation and the plan still lacks expertise and
business skills to commercialize.
4. Finance Risk. Cash flow is a problem due to lack of revenues and early proof-of-
concept funding is difficult to attract. Development Stage: Product Risk:
Advancing the product from prototype to manufacturing or production
environment requires new skill sets. No longer developing product revenue
features.
5. Market Risk. Field tests are not positive and/or competitors respond more
rapidly than planned.
6. Business Risk. If choosing business over licensing, an experienced professional
management team will need to be identified. The business needs to enter a
revenue mode as opposed to the R&D mode of the past.
7. Finance Risk. Significant expenses and no product revenue realized.
C. Introduction Stage
1. Product Risk. Demonstrating product features reveals a limited market-driven
functionality after scaling product production.
2. Market Risk. The reality of the market is rarely as planned. Market acceptance
and competitor response are different than anticipated. Limited repeat
business can cause uncertainty.
3. Business Risk. Lack of focus as the company moves from an emerging
environment to a true business mode of operations.
4. Finance Risk. The burn rate exceeds capital and management tends to focus on
safes rather than profits.
D. Growth Stage
1. Product Risk. It becomes necessary to refine product features to stay
competitive. The demand for new product features drains capital from the
growing business.
2. Market Risk. Poor distribution, customer satisfaction, and product features are
concerns as competitors respond to your initial product.
3. Business Risk. The focus becomes an issue as the business becomes more
formal with increased demands.
4. Finance Risk. Poor finance or investment strategy can limit the ability to grow
new personnel and execute new contracts.
E. Maturity Stage
1. Product Risk. Minor changes in the product features provide less of an impact.
The established product makes it difficult to accept innovations with the
existing structure.
2. Market Risk. Growth rates begin to decline as the existing line of products
becomes mature.
3. Business Risk. It becomes difficult to innovate as the need to focus on monthly,
quarterly, and annual results become the focus.
4. Finance Risk. Poor finance or investment strategy can limit the ability to grow
new personnel and execute new contracts.
5. Strategic Risk. Is there a sustainable competitive advantage? This includes sharing the
risk with strategic alliances and finding the right operations strategy with a viable
business model.
6. Financial Risk. If there were an absolute way to assess financial risk, then everyone
would make money in the financial market, however, there are always buyers and

17
 sellers in the market, proof that everyone is trying to assess financial risk, and only
some people are doing it successfully. Moreover, it is impossible to have a total grasp
on any particular part of the financial market as there is simply too much important
information that is constantly needed and changing. Nonetheless, there are some basic
ways to assess financial risk. (http://www.ehow.com/how_6755614_assess-financial-
risk.html)
a. Study financial markets to get a grasp of how they function. There are two aspects
of studying markets-the the qualitative and the quantitative.
b. Review the price of any given financial asset. A cheap financial asset may be
undervalued, nut it is more likely that the entire market just views the asset to be
of limited value. According to financial expert William J. Bernstein, the price of a
given financial asset reflects all of the information known by the market regarding
its value. Thus, if a stock depreciates quickly over time, it is likely because the
market is accurately assessing that the stock is of limited value; similarly, if a stock
appreciates quickly over time, then the market is accurately assessing that the
stock is of a higher or increasing value. A higher-priced financial asset is more likely
to be stable while a lower-priced one is riskier.
c. Calculate the leverage of any financial product. The “leverage” of a product refers
to how it was bought. Leverage is the asset to debt ratio underlying an investment
decision. For example, assume you buy a stock in Company X for $1, borrow money
against that $1 then invest in Company X with $6 ($5 borrowed and $1 owned).
That investment would be leveraged six to one. The more leverage an investment
decision has behind it, the riskier the investment decision is. Think about it: if
roughly 15 percent of the investment is based on the investor's capital, then what
happens if the investment depreciates by 15 percent? The investor would
immediately lose all of the actual money invested. thus, more leverage equates
with greater risk. (http://www.ehow.com/how_67556614_assess-financial-
risk.html)
7. Personal Risk. Can the lead entrepreneurs truly commit? There are many sacrifices, as
other priorities in life, like family, friends, and vacations that will have to come second.
Left unmanaged, these risks get tightly wound into a knot. When it is wound so tight,
management skills, expert advice, and even hope are passed up as humans go into the
survival mode. The human organisms can tolerate anything except uncertainty, which
causes so much stress that people are no longer capable of thinking in a cognitive,
creative manner. They focus on survival. What makes this “knot of uncertainty” so
difficult to deal with is that all the entrepreneurial risks interact with each other.
Fill in the Blanks

Task/Activity
Answer yes or no to these questions.
1. Do you ‘evangelize’ about your company and its products and services – both
internally and externally?_____.
2. Are you aroused to the extent of competitive paranoia by threats and actual
challenges from rivals new and old?____
3. Are you ‘brutally frank’ in your views and criticisms?____
4. Are you intensely focused on the key business and strategy of the
organization?____
5. Do you make decisions and act at a speed that's near to instantaneous?____
6. Do you like ambiguity and feel comfortable in unclear situations?____
7. Is your judgment good?______

18
Case Study
Terri’s Tempting Gifts has been in operator for 11 years. Terri and her late husband
Tom opened the small business investing most of their savings. Tom died suddenly a little
over one year ago. Terri, age 53, continues to operate the business. She plans to do so
until her retirement in about ten years. Terri has three grown children who live out of
safe. They visit several times a year but have no plans on taking over the family operation.
When the business first opened Tom and Terri prepared a lengthy business plan to secure
bank financing to accompany their savings. Tom managed the day-to-day operations of
the store while Terri selected merchandise and waited on most of the customers. Terri
continues to attend the market twice a year purchasing the most up-to-date merchandise
for the store.
Terri’s Tempting Gifts is located in a small community of approximately 5,800
people. The town has three major employers: a small manufacturing plant employing 125
people, a medium-security state-operated prison employing 115 people, and a meat
processing plan employing 80 people. The store is located along the downtown city
square across from the post office. The store is open from 9:00 a.m. to 5:00 p.m. six days
a week. Two big display windows face the post office. Terri is proud of the fact that she
changes the window displays promptly on the first of each month. The store offers a wide
selection of small, unique gifts along with an assortment of tasty candies and international
coffees. Terri recently added a small assortment of silk flowers and helium balloons. A
major retail chain store is located on the edge of the city next to the community's only
supermarket. The closest real competitor for Terri is located in a shopping mall
approximately 80 miles away. Two local florists offer a wide selection of silk flower
arrangements. They also deliver balloons with their floral arrangements upon request.
Regular customers know they can find the perfect gift if they shop at Terri’s Tempting
Gifts. As a service to her patrons, Terri will gift-wrap and deliver anywhere in town free
of charge. Local customers can charge their purchases. Currently, Terri has accounts
receivables of about $4,000. Customers are served promptly since seven part-time
employees rotate shifts in the store. Terri tries to keep four part-time employees working
each day. Lately, several people have commented that Terri spends a lot of time in the
local coffee shop about one block from the store. Terri visits the office shop three times
each day and always slips a few dollars out of the cash register before each trip to pay for
her coffee and snacks. Terri feels that advertising is very important to the image of the
store. Tom used to coordinate a promotion each month. Terri just takes the easy
approach now and buys advertising from either the local newspaper or radio station -
depending upon which salesperson walks through the door first each week.
As Terri opened the mail today, she received two notices from suppliers that she is behind
on her payments. Her bank of $450 is due next week. She only has eight more bank
payments to make and her loan will be paid off, leave the store debt-free except for
current obligations. Part-time employees must be paid at the end of the week. Terri looks
at the business checkbook and realizes that she barely has enough money to cover the
expenses this week. She starts to worry about next week.
Question
What recommendations do you have for Terri and the future operations of Terri's
Tempting Gifts?

ASSESSMENT
Rubric for Case Study
Your answer in the case study will be graded according to this rubric.

19
 TOPIC 2: THE STRATEGY FOR DEALING WITH RISK AND UNCERTAINTY
AND HOW TO FINANCE WITH BAD CREDIT TO START A
BUSINESS.
RISK MANAGEMENT STRATEGIES ON
ENVIRONMENTAL DECISION MAKING
To prevent an environmental or
ecological disaster, decision-makers must
provide cost-effective solutions, are easy to
implement and work quickly. However, the
question remains as to how decision-makers
should go about their task. Decision-makers have several risk management strategies at
their disposal, including using a holistic approach, being cautious, and revisiting previous
strategies to guide them. (htt://www.ehow.com/list_6962733_risk-strategies-
environmental-decision-making.html)
1. A Holistic Approach
Risk management involves solving problems before they start. However, the
problem in question might be deeply intertwined with another problem and may need a
different approach. Christopher Portier, former associate director of the National
Institute of Environmental Health Sciences, recommends using a holistic approach to risk
management. The holistic approach takes many factors into account that could affect the
situation, and by using this approach, decision-makers can make a more informed,
effective decision to prevent a disaster.
2. The Precautionary Principle
On occasion, the saying “An ounce of prevention is worth a pound of cure” can
apply to environmental decision-making. If a negative phenomenon poses a risk to the
environment or citizenry, policy-makers should begin taking precautions against it. Even
if no proven evidence shows a risk, environmental decision-makers should still take
precautions. The European Union has made the precautionary principle a key strategy in
their environmental decision making.
3. Monitoring Potential Risk
Another risk management strategy requires being less proactive and more
circumspect. Decision-makers also have the choice to simply monitor a phenomenon
before concluding as to whether it needs to be regulated. This approach means that
decision-makers accept a certain amount of risk. Decision-makers will abandon this tack
if the public protests.
4. Revisiting Previous Decisions
Sometimes, risk management involves revisiting previous decisions and examining
them to see if they are still relevant. Revisiting previous decisions allows environmental
decision-makers to change decisions that may no longer be relevant, and focus on current
issues.

20
Eight (8) Steps to Reduce Business Risk and Liability
(http://www.ehow.com/info_10020152_8-steps-entrepreneur-can-reduce-business-risk-
liability.html)
Business risks facing entrepreneurs include the risk of default, insufficient cash flow,
delinquent customers, and competitive pressures. Small businesses are especially
vulnerable because they usually do not have the financial cushion of larger competitors.
Entrepreneurs must take prudent steps to ensure survival, prepare for growth, and
demonstrate their risk management abilities to potential investors and lenders.
1. Operational Risk Management
Operational risk includes the effect of natural disasters on supply and logistics,
quality problems, and supply chain financial problems. Risk management options include
buying insurance protection, tightening credit control procedures, diligently following-up
on unpaid invoices, and rigorous cost controls.
2. Debt Reduction
Small business owners should reduce their reliance on short-term and long-term
debt. This reduces interest expenses and the risk posed by rising interest rates to cash
flow. Debt reduction strategies involve converting debt to equity, which means giving
investors a share of the company in exchange for funding; using cash flow from sales to
finance operations; and refinancing variable-rate debt to fixed-rate to make future
interest payments more predictable.
3. Diversification
Businesses that rely on one product are vulnerable to changes in customer
preferences and new product launches by customers. Similarly, relying on a few
customers for the majority of sales exposes a business to concentration risk.
Diversification in terms of products, customers, and geographic markets reduces the risk
posed by depending exclusively on one source of revenue.
4. Quality Control
Defective products may expose a business to expensive customer lawsuits,
product recalls, and regulatory action. Rigorous quality control and training are two ways
to preserve a company's reputation and protect against lost market share to competitors.
5. Human Resource Planning
Small businesses often hire contractors instead of full-time staff to manage their
staffing levels and compensation expenses. However, this introduces new risks because
contractors may leave for better paying full-time jobs, especially if the job market is good,
and companies would then have to allocate additional resources to hire replacements
and bring them up to speed.
6. Mentors
Entrepreneurs should bring on technical advisers and experienced management
consultants to serve as mentors and board members, who understand the growing pains
of new businesses. The involvement of senior credible mentors is particularly useful when
applying for venture capital funding or small business loans because it assures potential
investors and lenders that the company is in capable hands.
7. Partners
Collaborating with other small businesses, especially when bidding on large
contracts, is another useful risk management tool. However, management must choose
the partners with care because incapable or financially troubled partners might increase
risk and liability. Businesses with complementary skills and solid fundamentals make good
partners.
8. Walking Away
Entrepreneurs should not be afraid to walk away from customers who are
habitually late in making payments or whose requirements change frequently. Projects
that require high initial capital investments may also not be worth the risk for a resource-
constrained small business.

21
THE STRATEGY FOR DEALING WITH RISK AND UNCERTAINTY INCLUDES THREE KEY
COMPONENTS:
1. The business plan is the heading that provides guidance even the roughest seas.
2. Entrepreneurial knowledge knows where the rocks (or risks) are at sea.
3. Entrepreneurial management is the skill of steering from the rocks.

How to Finance With Bad Credit to Start a Business

(By John Stone. eHow Contributor)
Individual entrepreneurs face many challenges when starting a business, not the least of
which is securing start-up financing. Potential investors look at the financial viability of a
business, the history of the management team, the products offered, market share, and
potential competitors when deciding whether to invest in a business. These banks,
individuals, and other possible financiers are primarily interested in getting their money
back with an appropriate return on their investment. A future business owner's bad credit
poses a risk some financiers will not take-though tenacious entrepreneurs can overcome
this obstacle.
1. Write a Business Plan
If you have bad credit, you must try to keep the potential financiers' focus on the
viability and creditworthiness of the new business rather than your credit situation. Flesh
out the new business idea, discussing management, products, a business overview, the
competitive landscape, the projected market share, and financial projections. Convincing
investors the business will do well enough to make them money may negate the effects
of your bad credit.
2. Invest Your Own Money into the Business
Also known as owner’s equity, your own money invested in business shows other
potential financiers that you have confidence the business will succeed. Many banks and
government organizations will loosen lending standards as the ratio of owner's equity to
financing required increases.
3. Ask Family and Friends for Seed Capital
Hitting up family and friends for start-up financing provides alternatives to other
private lenders. Provide your business plan to your family and friends, explain your
thoughts on profitability and return on investment, and see if any will offer to help finance
the business. Treat family and friends as you would other third-party investors-
professionally.
4. Approach Angel Investors for Financing
Angel investors, typically high net-worth individuals, invest in small companies
during the start-up stage. In exchange for providing financing, angel investors seek an
equity piece of the business. Post your business plan to angel investor networks online to
see if any angel investors will provide financing.

Task/Activity
Identification
Answer the situations given below and explain each in your own words.
1. The strategy for dealing with risk and uncertainty includes three key components.
2. Individual entrepreneurs face many challenges when starting a business.
However, when inviting investors to join and invest in their business, investors
look for five significant factors, name the five.
3. Eight steps to reduce business risks and liability.
4. Type of market systems.

22
Case Study
Read carefully the given case and provide the following information:
• Identify the problem;
• Think about the underlying causes of the problem; and
• Formulate possible solutions to the problem and identify the pros and cons of each
proposed solution.
Please refer to the provided rubric upon answering the case.
The Altex Corporation was an organization, which was supplying war-related
material to the USA armed forces during WWII. It was the period when the US armed
force was confronting various challenges, and they were granting the armed force
contracts to various diverse builders, who were even down to the 4th or 5th number in the
rundown of suitable contractors. Because of this, various organizations like Altex
Corporation were making utilization of this circumstance, ad acquiring contracts without
legitimate planning, and a hefty portion of those organizations even could not satisfy the
necessities of the agreement and they were wanting to consent just at a level of 60-70%
of the total requirements. Altex Corporation had contrived any risk management plans
for anything, which may happen in the undertaking. The appraisal of risk is a need for any
kind of organization. If an organization does not admire the risk connected with a task or
anything, then the organizations are putting themselves and a client in great danger. The
companies have to look at all the activities that may have the potential to create any
harmful or dangerous situation, which would a dangerous situation. The risk management
plan is a part of the legal requirements in several projects these days. A risk management
plan aims to minimize the associated risks as much as possible.

ASSESSMENT
Rubric for Case Analysis
Your answer in the given case shall be graded based on this rubric.

KWL Chart
You do have to answer the given chart below to assess your knowledge on this topic.
Input your answers in the table as many as you can.
What I Know What I Want to Know What I Learned

23