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Business Risk

Business Risk Factors

Revenue Volatility

Cyclical industries swing more with economic conditions.

Customer Concentration

Heavy reliance on a few customers magnifies risk.

Cost Structure

High fixed costs amplify earnings volatility (operating leverage).

Competitive Position

Moats and barriers protect against new entrants.

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Explore the factors that influence a company's business risk, including country risk, industry dynamics, company position, and profitability analysis.

Business risk refers to the company's ability to generate sufficient revenue to cover its operational expenses. To evaluate business risk we would look into:

  • Country risk
  • Industry dynamics
  • Company position
  • Profitability/peer group analysis

If the company’s operations are mainly located in one country the sovereign will normally be the ceiling rating.

Industry Dynamics:

  • Competition
  • Substitution risk—Porter’s threat of substitutes definition is the availability of a product that the consumer can purchase instead of the industry’s product. A substitute product is a product from another industry that offers similar benefits to the consumer as the product produced by the firms within the industry. According to Porter’s 5 Forces, the threat of substitutes shapes the competitive structure of an industry.
  • Technological change – especially no when the technology is improving with such a great speed and the companies have to keep up to be on top of it
  • Regulatory change may affect industry dynamics
  • Cyclicality—Cyclical risk is the risk of business cycles or other economic cycles adversely affecting an individual company's profits.
  • Barriers to entry—factors that can prevent newcomers into a market or industry sector, and so limit competition. These can include high start-up costs, regulatory hurdles, or other obstacles that prevent new competitors from easily entering a business sector.

Company Position:

  • Diversity of products is important, so clients have different options
  • The price setter reflects a company’s position as a luxury, premium, or mass-market brand. And also shows how competitive the prices are.
  • Product quality is also very important
  • Execution – how effective is the execution strategy of the company. It’s easy to come up with great ideas, the right implementation is the key
  • Management quality reflects the company position as it’s a part of the brand and execution strategy for the company.
  • The market share shows how penetrated the company is within its industry.

The combination of all factors mentioned above gives us a good idea of where the company stands in terms of business risk, and as a result – in terms of credit rating for the company.

Video Transcript6 sections

1Full Video Transcript

2Understanding Business Risk Fundamentals

Business risk refers to the company's ability to generate sufficient revenue to cover its operational expenses. To evaluate business risk, we should look into country risk, industry dynamics, company position, profitability, and peer group analysis.

If the company's operations are mainly located in one country, the sovereign will normally be the ceiling rating for the company. If I go to Moody's and put United States here, the Government of United States of America has a long-term rating of AAA. As we remember, it's the highest rating Moody's provides, which means extremely strong capacity to meet commitments. So for all companies located in the US, AAA would be a ceiling rating, and then depending on the industry and company financial situation, the rating would be assigned for a specific company.

If we go to Russia, where I'm from, we can see that the Government of Russia has a rating of Baa3. This rating means adequate capacity to meet financial commitments, but more subject to adverse economic conditions. So all the companies that are located in Russia will have the ceiling rating of Baa3, and it cannot be higher for those companies than this particular rating.