Financial risk refers to the possibility that in various financial activities, due to unpredictable or uncontrollable factors, the actual income deviates from the expected income, thus causing the enterprise to suffer losses. Financial risk can be divided into broad sense and narrow sense. Financial risk in a narrow sense, also known as financing risk, refers to the risk that an enterprise faces financial crisis due to improper decision-making in financing activities, resulting in unreasonable financial structure or excessive liabilities. Financial risks in a broad sense include not only fund-raising risks, but also risks in various financial activities of enterprises such as investment activities, business activities and income distribution activities.
Financial risk classification
According to various financial activities that may produce financial risks, financial risks can be divided into four categories: financing risk, investment risk, capital recovery risk and income distribution risk.
1. Financing risk
Financing risk is the risk that the capital cost generated by debt financing leads to the change of shareholders' income. Most modern enterprises adopt equity financing or debt financing. The interest rate of debt financing is generally lower than the cost of equity capital, but it is necessary to repay the principal and interest on time, which reduces the flexibility of funds. If the enterprise is insolvent, it will go into bankruptcy liquidation. Comparatively speaking, the transfer of corporate equity can avoid the defects of debt financing. However, the low cost of debt financing will also bring tax shield effect to enterprises and enhance their value. Therefore, enterprises need both debt financing and equity financing. How to allocate the proportion between them, that is, to determine an appropriate capital structure, has always been a major problem in enterprise management.
2. Investment risk
Investment risk refers to the risk that the rate of return of the project invested by the enterprise is too low, which leads to the enterprise making ends meet. If the rate of return of investment projects is lower than the cost of capital, enterprises will suffer investment losses and cannot maintain their operations profitably.
3. Risk of capital recovery
Stable and healthy capital flow has injected vitality and vitality into enterprises. The process from purchasing raw materials, producing and processing goods or providing services to receiving payment is full of uncertainty. Whether the funds can be fully recovered in time is very important for the sustainable operation of enterprises, which is the risk of capital recovery.
4. Income distribution risk
The management of an enterprise will also be affected by its income distribution. As an essential part of enterprise financial cycle, the importance of income distribution to enterprises is self-evident. For listed companies that issue shares, how to distribute the net profit between dividends and retained earnings is a difficult problem, although there are financial risks.