ADDRESSING CRITICAL BUSINESS RISK IN A BUSINESS PLAN

Every business faces risks in the real world, so every business plan needs to spend some time addressing them.

The exact issues raised by business experts, bankers, lawyers, and investors are often specific to your plan, but the themes they consider in assessing risks are actually quite common.

Knowing these risk themes, you can go through your business plan, identify the risks, and determine how you want to handle them.

There are six risks that are common threats to businesses. These situations can cause investors, bankers, and other readers to evaluate a plan negatively? Each of the risks can be handled, but the best test is to have people in your target audiences give you feedback on your plan.

 

1.    Overstated Numbers

      Key numbers in your business plan that seem too good to be true, or are just large to begin with, tend to get a lot of attention, most of it negative. Sales or profits that are too optimistic, salaries that are too high for a firm of its age, and profitability are the three most likely culprits.

For salaries, it makes sense in start-up firms for owners to take out the minimum, with additional income derived from profits, if and when you get them. For sales and profits, always give the most likely number, not the most optimistic. Profits depend on your being able to meet sales projections and keep within your costs, so if either one is off, profits will be too.

2.    Uncertain Sales (especially conversion rates)

      The conversion rate is the percentage of people who buyout of the total population of people you approach. It is also called the hit rate. The best test of the conversion rate is through test marketing or pre-selling.

Test marketing is selling your product or service in a limited area, for a limited time. Often in test marketing efforts, you give buyers incentives in return for information that helps you profile your actual target customer.

Pre-selling involves introducing your product to potential customers and taking orders for later delivery. In either case, the key information is the number of customers approached and the percent who bought.

Knowing the conversion rate, a reader then takes your projected market size, applies the conversion rate (probably something like 50-75 percent of the claimed rate "just to play it safe"), and then estimates what the total sales might be.

 3.    Overlooked Competition

       You are supposed to be the expert on your product or service and part of that involves knowing every competitor. For example, a stu¬≠dent was developing a wireless cell phone headset.

At the time, the student claimed there were no competitors, but most people familiar with the industry knew there were several wireless headsets using the increasingly well-known Bluetooth wireless protocol.

Switching protocols would be a matter of a few weeks for the existing manufacturers, so the competition facing the student was much greater than he thought, and the plan kept getting rejected.

You need to know about your immediate competitors, as well as substitutes and potential competitors if you are going to prove your long-term vision for the company.

 

4.    Experience Deficits

A lot of the success in business comes from lack of experience. In a business, one critical risk is not knowing as much as your competition does. Four types of experience deficits include experience deficit in the line of business, in the industry, in the locality and in managing. Successful firms invariably possess or develop all four types. Some you should be able to supply. If there is any experience lacking, you need to get it yourself or hire it through partners, employees, or consultants working with you or for you.

5.    Inadequate Cushion

      According to the Dan & Bradstreet, Failure Record, the single most common reason for business closure is a lack of financial resources. In some cases, the firm ran out of money, many customers take too long to pay, unexpected expenses, accidents, and mistakes can be deadly to a firm if it does not have enough money saved for such rainy days. Having enough cash to survive three months goes a long way to avoiding this risk.

6.    Inadequate Payback

It is always important to think about what the reader of the plan is expecting. For bankers, it is the payback (note that this is NOT the payback criterion for investing) of the loan or line of credit, so cash flows and collateral issues are important.

For investors, growth rates and profit margins are important because these factors determine their earnings. For key employees, knowing the firm's operation and prospects helps them visualize their future in the firm.

When the plan does not clearly specify the key paybacks to readers, it fails to sell them on the idea.

 

Ideally, you should have a circle of advisers who can review the plan and help iden­tify the critical risks and your coverage of them.

This circle might include successful entrepreneurs you know, lawyers, or accountants. Other good sources include the free consultants from the Service Corps of Retired Executives (SCORE), available via www.score.org or your local Small Business Development Center. There are even Web sites that make it possible for you to get a preliminary analysis of your plan.

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