What is risk management: all you need to know for your business

From inventory to payroll to marketing strategy, there are many facets to running a business. Though it may feel impossible to pinpoint the most critical responsibility on your never-ending list of to-dos, risk management deserves a spot at the top.

Knowing how to manage risk allows you to make decisions rooted in strategy and planning rather than simply relying on your gut. The result? A stronger business that’s more resilient in the face of uncertainty.

This article will cover the basics of business risk management, including the importance of risk management, common types of risk, and essential risk management techniques to add to your toolkit.

What is risk management in business?

Risk management involves identifying potential risks and developing strategies to both address and minimize their effects.

In the business world, risks can be categorized as any event that may negatively impact your organization, such as fraudulent transactions, phishing, and more.

By implementing the proper protections and measures, businesses can help reduce their likelihood and/or impact.

Why is risk management important?

Without mitigating risks, businesses of all sizes are in danger of suffering serious, far-reaching consequences, from financial and data losses to decreased consumer trust and loyalty. Even worse, if you receive a fraudulent payment, you could be held financially responsible for the loss.

For instance, 2.4 million consumers filed fraud reports in 2022, with online shopping scams as the second most-reported fraud type. In total, consumers lost nearly $8.8 billion to fraud in 2022, an increase of more than 30 percent from 2021, according to the Federal Trade Commission.¹

Risk management can help anticipate and prepare for these potential risks, helping to reduce the likelihood of financial losses, reputation damage, or operational disruptions.

For example, emerging tools, data-driven protocols, and adaptive risk management solutions can help prevent risks, protect your business and buyers, and create a positive, trustworthy customer experience from search to checkout.

Types of risk for a business

Before we discuss how to identify, minimize, and prevent payment fraud risks, it’s helpful to understand common risk types that may affect your business, including phishing, chargebacks, and reversals.

Credit card fraud

Credit card fraud involves using an unauthorized credit card or credit card information to make a purchase. This can occur both when a fraudster steals a physical credit card or simply obtains the card information via phishing or data breach.

On a positive note, there are proven ways you can reduce the chances of credit card fraud, including signature, billing, and photo ID verification.

Learn more about how to protect against credit card fraud.

Phishing

What are phishing scams and spoofing attempts? On a basic level, phishing or spoofing is when a scammer impersonates or disguises themselves as a reputable brand. Think of it as an attempt to gain access to your sensitive data via fake emails, websites, text messages, or voicemails.

Get more strategies on how to avoid common e-commerce scams.

Chargebacks

What is a chargeback? As the name suggests, a chargeback is a transaction reversal. It occurs when a customer contacts their debit or credit issuer and requests a refund after a completed transaction.

Learn more about chargebacks and how to prevent them.

Reversals

What is a payment reversal? Similar to what is a chargeback, a payment reversal (sometimes called an ACH return or bank reversal) arises when a request is made for a merchant to reverse a transaction and return the funds to the method of payment. This request may come from the customer or the bank and is usually filed because of suspected unauthorized use of a bank account.

Learn more about bank reversals and how to prevent them.

Risk management process

The risk management process typically involves four steps:

• Risk identification
• Analysis
• Treatment
• Monitoring and reporting

Having a well-established risk management system in place provides a structured framework for responding proactively to various risks.

Risk identification

As a business owner, it’s important to not only be aware of the potential for fraud but also take steps to prevent and mitigate risk. In the online payments world, red flags to watch for include unusual or large orders, mismatched billing and shipping addresses, and suspicious email addresses.

Staying vigilant and taking preventive measures can help protect your business.

The following are common signs of unusual or scammer activity that may suggest fraud and indicate you should investigate further:

• The shipping address is in a high-risk country or location known for fraud.
• You receive an unusually large number of orders during an unusual time of day or within a short period.
• An order consists of multiple requests for the same item.
• Several orders from different customers are shipped to the same address.
• The billing and shipping address don’t match.
• A customer asks you to change the shipping address after the order has been paid for.

Learn more about signs of unusual buyer activity.

Risk analysis

Once you’ve identified the risk, it’s time to evaluate potential consequences. One approach is risk quantification, where you assign a numerical value to the risk based on probability, severity, or financial impact.

Why is risk analysis important? By having a number at hand, you can prioritize the risks that require your attention and allocate the appropriate resources to the most critical ones. Using this data, you can also identify any emerging patterns or trends related to the overall risk picture.

Risk treatment

The next risk management step is to develop and implement strategies that address the risks you’ve identified and prioritized, as well as reduce your business’s overall exposure to risks.

When it comes to payment fraud, some risk treatment examples include the following:

• Adding authentication protocols to the checkout process.
• Leveraging secure payment gateways.
• Training team members to recognize common fraud indicators and other phishing attempts.
• Developing clear policies regarding customer protection to build trust and provide recourse for affected customers.

Risk monitoring and reporting

Risk management isn’t a one-and-done exercise. It’s vital to continuously monitor risks by tracking key risk indicators and implementing tools that detect emerging risks.

Similarly, risk reporting is another critical component of your business’s risk management system. This involves communicating risk-related information to stakeholders, such as your management team or investors, which facilitates informed decision-making and ensures accountability in managing risks.

Risk management techniques

Whether it comes to managing risks related to health or your business, there are some universal basic risk management techniques to take note of:

• Avoidance: Avoiding certain situations that pose significant risks reduces exposure to potential harm. For example, you might decide not to enter an unpredictable market to avoid its potential financial risks.
• Retention: If the cost of mitigating a risk outweighs the impact, you might decide to assume the potential risk and its consequences without implementing risk mitigation tactics.
• Sharing: One way to reduce the impact of risks is to obtain financial support from a pool of investors, rather than a single one.
• Transferring: Similar to sharing, transferring involves shifting potential risks to a third party, such as a vendor or an insurance company.
• Loss prevention and reduction: Rather than seeking to eliminate risk, this approach involves finding opportunities to minimize losses.

Risk management examples

Here’s a quick example to illustrate risk management: Harry’s Hats is a small e-commerce business that sells bespoke hats straight off the runway. Unfortunately, the company has recently noticed an uptick in fraudulent credit card transactions.

To address this risk, Harry's Hats implements several risk management strategies. First, rather than handling the payment infrastructure in-house, they decide to transfer the risk by hiring a third-party IT firm that will now be responsible for ensuring the security of customer data and payments.

Next, Harry's Hats invests in a comprehensive fraud prevention and detection system that analyzes transaction data and customer behavior to identify and alert team members of suspicious orders.

By leveraging these risk management strategies, Harry's Hats successfully reduces the financial impact of fraudulent transactions, protecting the business’s bottom line and reputation.

Risk prevention for businesses

Among the 2.4 million fraud reports in 2022, a majority involved credit and debit cards as well as payment apps or services, amounting to more than $578 million in losses.² While it may feel inevitable to businesses, there are steps you can take to minimize the risk of fraud in your operation.

• Monitor your accounts, transactions, and orders for suspicious activity, such as mismatched billing and shipping information or anonymous email addresses.
• Regularly review financial statements.
• Set purchase limits on the number of orders you accept from customers.
• Use the address verification system (AVS) as part of your payment processing solution.
• Require card verification value (CVV) as part of your checkout process.
• Implement other advanced identity and billing verification practices.
• Keep all software and systems updated and use business-grade anti-malware and anti-spyware software.
• Make a record of transactions that you suspect may be fraudulent or risky.
• Include your company name prominently on invoices to help customers easily recognize legitimate charges or transactions and reduce chargebacks.
• Contact customers before their orders ship to confirm order details and allow them to catch any mistakes or errors.
• Train employees on how to identify and prevent fraud.
• Consider using advanced fraud prevention tools.

Discover more about fraud management tools and strategies.

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