Given a company\'s scenario, develop a plan (including the use of options contra

Question

Given a company's scenario, develop a plan (including the use of options contracts) to reduce the impact of various types of risk faced by the firm. TCO F: Given a company's current capital structure, evaluate the advantages and risks of using various types of derivatives (including preferred stocks, warrants, convertibles and/or options) to manage, control, minimize or prevent those risks. The discussion question this week is how can swaps be used to reduce the risks associated with debt contracts?
Please research, avoid investopedia and regurgitation, and provide in-text citations and references in the APA format.

Explanation / Answer

There are many different types of business risk.

Risks can be internal and external to your business. They can also directly or indirectly affect your business's ability to operate. Risks can be hazard-based (e.g. chemical spills), uncertainty-based (e.g. natural disasters) or associated with opportunities (e.g. taking them up or ignoring them). The Australian standard defines risk as 'the chance of something happening that will have an impact on objectives'.

Types of risk

The types of risk you face are specific to your business and its objectives. To effectively manage risk you should prepare for internal and external scenarios that may directly affect your business.
Direct risks to your business

Some common risk categories are:

    natural disasters, such as floods, storms, bushfires and drought
    pandemic, such as human influenza, swine flu or bird flu
    legal, such as insurance issues, resolving disputes, contractual breaches, non-compliance with regulations, and liabilities
    global events, such as pandemics and interruptions to air traffic
    technology, such as computer network failures and problems associated with using outdated equipment
    regulatory and government policy changes, such as water restrictions, quarantine restrictions, carbon emission restrictions and tax
    environmental, such as climate change, chemical spills and pollution
    workplace health and safety, such as accidents caused by materials, equipment, or location of your work
    property and equipment, such as damage from natural disasters, burst water pipes, robbery and vandalism
    security, such as theft, fraud, loss of intellectual property, terrorism, extortion and online security and fraud
    economic and financial, such as global financial events, interest rate increases, cash flow shortages, customers not paying, rapid growth and rising costs
    staffing, such as industrial relations issues, human error, conflict management and difficulty filling vacancies
    suppliers, such as issues within their business or industry resulting in failure or interruptions to the supply chain of products or raw materials
    market, such as changes in consumer preference and increased competition
    utilities and services, such as failures or interruptions to the delivery of your power, water, transport and telecommunications.

You should use this list as a starting point for thinking broadly about the types of risks that could impact your business. You may discover that you need to consider other important areas of risk that are not listed here.
Indirect risks to your business

People often make the mistake of overlooking things that don't directly impact their business and are therefore unprepared to deal with change. For example, while your business might not be directly affected by a natural disaster, you may still suffer if it affects your suppliers, customers or general location.

Consider how these scenarios could affect your business:

    If your suppliers are affected, you may run out of the products you sell, or the materials you need to make products.
    If your customers are personally affected their priorities may change and you could experience a reduced demand for your products or services.
    If your general location is affected, you and your customers may not be able to access your premises, or your utilities could be affected. For example, you could lose power, which could mean you:
        will not be able to operate your business
        may need to throw out any perishable goods and replace them, which can be costly.

Managing risk in your business

The process of identifying risks, assessing risks and developing strategies to manage risks is known as risk management. A risk management plan is an essential part of any business as it helps you to understand potential risks to your business and identify ways to minimise them or recover from their impacts.

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