Types of Non-Financial Risks

For companies and businesses, identifying and managing various types of risks are crucial. Mostly, companies use traditional financial risk management techniques to mitigate them. Due to their nature, financial risks are most prevalent for companies. Therefore, these companies often focus on financial risks compared to other types.

What are Non-Financial Risks?

Apart from financial risks, companies may also come across non-financial risks. These are risks that are not a part of the standard financial risks of a business. Therefore, traditional risk management techniques don't cover them. Despite that, companies must identify and mitigate these risks. While these risks may not be as prevalent, they can still harm a company and its business.

In its lifetime, a company will come across various types of non-financial risks. Identifying each of these non-financial risks allows the company to customize its responses accordingly. Most non-financial risks come from outside the company or due to external factors. However, there are still ways to mitigate these risks once a company identifies them.

What are the types of Non-Financial Risks?

Non-financial risks can come from various sources and can have different consequences. Given below are some of the most prevalent non-financial risks that companies often face.

Reputational Risk

Reputational risk is a risk that can threaten or endanger a company's goodwill. For most companies, developing a brand name or goodwill with customers is crucial to long-term success. However, some factors may impact them adversely. These factors result in reputational risk for the company. These risks can come from within or outside the company.

Reputational risks may come directly from a company's actions. These can stem from the decisions a company makes. Similarly, it may also come indirectly through an employee’s actions. Lastly, reputational risks may also generate tangentially through related or peripheral parties, such as suppliers, customers, or joint venture partners.

Legal Risk

Legal risk represents the risk that legal issues may impact a company's operations or reputation. For companies, legal risks may come directly as a consequence of their actions. For example, if a company sells faulty equipment to a customer that causes damage, it faces legal action. However, legal problems may also arise from external factors.

Legal risks may also come in the form of regulatory risk. Companies abide by various rules and regulations. However, there's always that non-compliance with any of those regulations can impact their reputation or business. Regulatory risks can result in penalties and can give rise to financial risks and business risks.

Model Risk

Model risk represents the type of risk that a company's financial model fails. Usually, companies use their financial model to measure quantitative information, including value transactions or market risks. Companies rely on the results produced from these models for various purposes, including decision-making.

Financial models have become prevalent in most companies. These models come with several calculation techniques or assumptions, which can be risky. Based on the information obtained from these models, companies make various estimates or forecasts. A small error in these models can lead to huge errors later when companies extrapolate the data.

Conclusion

Despite most companies focusing on financial risks, non-financial risks may also impact a company. Non-financial risks are risks that are not part of a company's traditional risk management techniques. There are various types of non-financial risks. Among these, companies most often face reputational, legal, and model risks.

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