What is risk financing?
It determines how a business will pay for unforeseen or unexpected losses in the most cost effective way possible. It entails identifying potential risks, establishing how those risks would be financed if they happen, and keeping track of the chosen financing technique's effectiveness.
Where have you heard about risk financing?
It's an old business practice. In China in the 1400's, when shipping goods across the treacherous Yangtze River, the merchants would distribute their cargo among several ships. If one ship sank, the merchant suffered a partial loss, rather than a crippling total loss.
What you need to know about risk financing.
It's about aligning a business' growth ambitions with its capacity to cover the costs of risks involved. It's a balance between the possible cost of an action against how that action can move the business towards its objectives.
Businesses have several options for risk financing including various insurance policies and alternative risk transfer schemes. How effective each method is depends upon various factors including;
- the business' size
- the risks it faces
- its overall objectives
The goal of risk financing is to find the cheapest option and ensure its effectiveness.