Entrepreneurship and Financial Risk: What You Need to Know

Entrepreneurs tend to be natural risk-takers but this doesn't mean committing to uncompensated risk. A wise entrepreneur considers their potential exposure before leaping into a new business venture, moving forward only on those opportunities that present enough potential upside to make the risks worthwhile. Below, we discuss some financial risks an entrepreneur may face and how they may be mitigated.

Financial Risks Inherent to Entrepreneurship

Even the smallest new business may require something in the way of initial startup costs. This may include loans, savings, funds from family or friends, or an influx of cash from a prospective business partner. The ultimate risk of any startup venture is the loss of this initial capital, and the risk this actually poses depends on the source of this cash. For example, losing funds you've borrowed from family could strain relationships but is unlikely to appear on your credit report. Losing funds you've borrowed from a financial institution may risk denting your credit score but shouldn't harm your relationships.

Another financial risk that comes from launching your own business includes loss of earning potential. In other words, not only are you risking the funds you're putting toward your new business, but you're also committing to the loss of funds you could earn through a more traditional job during this period. If you've left a high-earning job to focus on your new business, this period of lost income represents a real financial cost.

Mitigating These Financial Risks

There are a few steps that entrepreneurs can take to mitigate the risks that are inherent in launching a new business.

Have a Financial Plan

Your financial plan should include income projections, cash requirements, and the expected return that investors may realize after 1 year, 5 years, and 10 years. Though it may be tempting to pour every additional bit of cash into your new venture, it's important to make sure you're fairly compensated for your efforts. A 10-year business plan that doesn't allow you to take any profits may not be sustainable.

Keep an Eye Toward the Future

With rapid changes in technology, even the most current business plan may look stale five years from now. It's important to focus on the future as well as the here and now and make sure your business is prepared to adapt and pivot to whatever market forces may come its way.

Watch Out for Competitors

A business with no competition could be the next Amazon—but it could also be the next Blockbuster. A complete lack of competition could indicate that the demand just isn't there. The sweet spot for many startup businesses involves a sector in which there is some competition but no direct duplicate of the product or service you provide. If you have a twist on a traditional business idea or operate in traditionally under-served or under-represented sectors, you may have hit on a winning long-term idea.