Commercial Risk

Commercial risk
Commercial Risk can be defined as Financial Risk taken by a seller while

extending credit without securing any collateral or recourse. It generally includes
all risks other than the Political Risk.
It refers to probable losses arising from the business partners or from the market. In
order to reduce Commercial Risk, It is very important to ensure that the trading
partners are reliable. It is also important to take into consideration the trading
partner's possible insolvency or indisposition to payback. The method of payment
is of high importance.
The term commercial risk means there's a potential for loss with a trading
partner. What kind of loss? Basically it can happen one of three ways:
1. Your customer can't pay for the products or services you provided
according to the terms of your agreement.
2. Your trading partner doesn't live up to their obligations within the
agreement (i.e., not meeting delivery dates).
3. You and your trading partner may have differences in interpreting the
agreement.
If you and your trading partner are in different countries, the degree of
difficulty is magnified. Think about dealing with different laws, languages,
cultures, currencies, and customs policies, and you can see where the
complexity comes in. Let's look at some areas of concern.
Types of Commercial risks
1. Market Risk
Market risk involves the risk of changing conditions in the specific marketplace in
which a company competes for business. One example of market risk is the
increasing tendency of consumers to shop online. This aspect of market risk has
presented significant challenges to traditional retail businesses.
Risk arises from trading of assets because of change in asset prices and exchange
rates is classified as market risk. Market risk is the possibility of an investor
experiencing losses due to factors that affect the overall performance of the
financial markets in which he or she is involved. Market risk, also called
"systematic risk," cannot be eliminated through diversification, though it can be
hedged against in other ways.
a. Interest Rate Risk
Interest rate risk arises when the value of security might fall because of the
increase and a decrease in the prevailing and long-term interest rates. It is a broader
term and comprises multiple components like basis risk, yield curve risk, options
risk, and repricing risk.
b. Foreign Exchange Risk
Foreign exchange risk arises because of the fluctuations in the exchange rates
between the domestic currency and the foreign currency. The most affected by this
risk is the MNCs that operate across geographies and have their payments in
different currencies.
c. Commodity Price Risk
Like foreign exchange risk, commodity price risk arises because of fluctuations in
commodities like crude, gold, silver, etc. However, unlike foreign exchange risk,
commodity risks affect not only the multinational companies but also ordinary
people like farmers, small business enterprises, commercial traders, exporters, and
governments.
d. Equity Price Risk
The last component of market risk is the equity price risk, which refers to the
change in the stock prices in the financial products. As equity is most sensitive to
any change in the economy, equity price risk is one of the most significant parts of
the market risk.
4. Operational Risk
Operational risks refer to the various risks that can arise from a company's ordinary
business activities. The operational risk category includes lawsuits, fraud risk,
personnel problems, and business model risk, which is the risk that a company's
models of marketing and growth plans may prove to be inaccurate or inadequate.
“Operational Risks” is a risk that includes errors because of the system, human
intervention, incorrect data, or because of other technical problems. Every firm or
individual has to deal with such an operational risk in completing any
task/delivery.
The Basel Committee defines the operational risk as the "risk of loss resulting
from inadequate or failed internal processes, people and systems or from
external events".
This definition includes human error, fraud and malice, failures of information
systems, problems related to personnel management, commercial disputes,
accidents, fires, floods... In other words, its scope seems so wide you do not
immediately perceive the practical application.
Types
1. Internal Fraud – misappropriation of assets, tax evasion,

intentional mismarking of positions, bribery[10]
2. External Fraud – theft of information, hacking damage, third-party theft and
forgery
3. Employment Practices and Workplace Safety – discrimination, workers
compensation, employee health and safety
4. Clients, Products, and Business Practice – market manipulation, antitrust,
improper trade, product defects, fiduciary breaches, account churning
5. Damage to Physical Assets – natural disasters, terrorism, vandalism
6. Business Disruption and Systems Failures – utility disruptions, software
failures, hardware failures
7. Execution, Delivery, and Process Management – data entry errors,
accounting errors, failed mandatory reporting, negligent loss of client assets
Difference between financial risk and commercial risk
Basis for
Commercial Risk Financial Risk
Comparison
Meaning Business risk is the risk of not being able Financial risk is the risk of
to make the operations profitable so that not being able to pay off
the debt that the company
the company can meet its expenses
has taken to get financial
easily.
leverage.
What it’s all Financial risk is related to

Business risk is purely operational.
about? the payment of a debt.
Yes. If the firm doesn’t

Avoidable? No. take debt, there would be
no financial risk.
The financial risk would be

The business risk will be there as long as there until the equity
Duration
the company operates. financing is increased
drastically.
To generate better returns

Every business wants to perpetuate and and to tap into the lure of
Why? expand, and with continuation comes the financial leverage, the
risk of not being able to do it. company gets into debt and
takes the financial risk.
By systemizing the process of

How to handle production and operation and by By reducing debt financing
it? minimizing the cost of and by increasing equity
production/operation. financing;
Measurement When there’s variability in EBIT; We can look at the debt-

asset ratio and financial
leverage multiplier.

Commercial Risk

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Commercial Risk

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Commercial risk

Commercial Risk can be defined as Financial Risk taken by a seller while

b. Foreign Exchange Risk

c. Commodity Price Risk

d. Equity Price Risk

1. Internal Fraud – misappropriation of assets, tax evasion,

Difference between financial risk and commercial risk

What it’s all Financial risk is related to

Yes. If the firm doesn’t

The financial risk would be

To generate better returns

By systemizing the process of

Measurement When there’s variability in EBIT; We can look at the debt-

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