Commercial risks and external forces

What could go wrong and how news affects businesses

What are the main categories of commercial risk?

• Commercial - customers, demand, competition, pricing, strategy

• Financial - debt, cash flow, interest rates, funding, currency

• Operational - supply chains, staff, systems, production

• Legal/regulatory - regulation, litigation, competition approval, sanctions

• Reputational - damage to trust with customers, investors, or the public

• Political/geopolitical - war, government changes, trade restrictions, instability

When identifying a risk, what should I ask?

Risk to whom:

• Company

• Shareholders

• Lender

• Customer

• Investor

• Employees

Then, how does it actually hurt them?

What makes a commercial risk important?

• How likely it is?

• How severe would the impact be?

• How quickly could it happen?

• Can the company control it?

• Can the risk be reduced or transferred?

• Would it materially affect revenue, costs, cash flow, or valuation?

What are common risks when acquiring another company?

• Commercial - the buyer overpays, expected growth fails, customers leave, synergies do not materialise

• Financial - excessive debt, financing becomes more expensive, the target performs worse than forecast

• Operational - businesses are difficult to integrate, key employees leave, systems/cultures clash

• Legal/regulatory - competition approval fails, unexpected liabilities, IP problems, litigation

What can cause an M&A deal to fail before completion?

• Buyer and seller cannot agree price

• Due diligence uncovers a major problem

• Financing falls through

• Shareholders reject the offer

• Competition regulators intervene

• Foreign-investment approval is refused

• Market conditions deteriorate

• Significant new liability emerges

• One party loses confidence in the commercial rationale

What risks remain after an acquisition completes?

• Integration takes longer/costs more than expected

• Employees leave

• Customers leave

• Technology systems are incompatible

• Synergies fail

• Debt burden becomes difficult to service

• Company culture clashes

• Management becomes distracted

What are the main risks for a lender?

A lender mainly cares whether they will get their money back

• Borrower revenue/profits fall

• Weak cash flow

• Too much debt

• Interest costs rise

• Valuable customers disappear

• Borrower breaches covenants

• Geopolitical or sanctions issues

• Refinancing becomes difficult

If repayment fails, what protection does the lender have?

What does a lender consider before lending?

• Borrower’s existing debt

• Reliable cash flow

• Business model

• Major customers

• Industry outlook

• Value of assets

• Management

• Political/regulatory environment

• Ability to repay interest and principal

What are common risks for a private equity investor?

• Paying too much

• Company fails to grow as expected

• Debt becomes too expensive

• Cash flow cannot support leverage

• Exit market deteriorates

• Regulation changes

• Bolt-on acquisitions fail

What are common risks when expanding into another country?

• Unfamiliar regulation

• Political instability

• Exchange-rate movements

• Taxation

• Local competitors

• Different consumer preferences

• Employment rules

• Trade restrictions

• Sanctions

Why is customer concentration a risk?

Customer concentration = a large proportion of a company’s revenue comes from a small number of customers

Losing one customer could materially reduce revenue - this is why major customer contracts matter in due diligence

Why is supplier concentration a risk?

Supplier concentration = a company may depend heavily on one or a few suppliers

Risks:

• Supplies increases prices

• Supplier fails

• Delivery is disrupted

• Quality problems occur

Production can be disrupted even if customer demand remains strong

Why can key employees create commercial risk?

If key employees leave:

• Customers may follow them

• Important knowledge may be lost

• Projects may stall

• Investor confidence may fall

This is particularly important in technology, professional services, and founder-led businesses

How can supply-chain disruption affect a business?

Supply-chain problems can cause:

• Shortages

• Higher input costs

• Production delays

• Inability to meet customer demand

• Lost revenue

• Reputational damage

Possible causes

• War

• Natural disasters

• Strikes

• Shipping disruption

• Supplier failure

• Trade restrictions

How can sanctions affect businesses?

Sanctions = legal rules with very direct commercial consequences

• Company loses access to a market

• Supply chains change

• Assets become inaccessible

• Transactions cannot legally proceed

• Compliance costs increase (money a business must spend to follow government rules and industry regulations)

How can war or geopolitical instability affect businesses?

• Supply chain disruption

• Energy/commodity prices rise

• Sanctions

• Assets become difficult to access

• Tourism/demand falls

• Insurance becomes more expensive

• Investor confidence falls

• Currencies move

• Governments increase defence spending (government spending may cause severe shortages and higher costs, this leads to inflation and rising interest rates)

The same event can create both risks and opportunities e.g. war may hurt airlines but increase demand for defence manufacturers

How can a change of government affect businesses?

A new government may change:

• Taxation

• Regulation

• Public spending

• Employment law

• Infrastructure policy (how the government plans to build and fix public systems e.g. better infratsructure may make it cheaper and faster for businesses to move goods)

• Investment incentives (the rewards the government offers businesses to spend money)

• Trade policy

Even before policies change, uncertainty can matter because businesses may delay investments while waiting for clarity

Why is regulatory uncertainty itself a commercial risk?

Regulatory uncertainty = business do not know what future laws or government rules will be, or how existing rules will be enforced

If future regulation is unclear:

• Investment may be delayed

• Compliance costs are difficult to estimate

• Business models may need changing

• Investors may demand a higher return for taking the risk

Lawyers are often involved not in predicting the future perfectly, but to help the client plan for different possible outcomes

How can new regulation create both risk and opportunity?

Risk:

• Higher compliance costs

• Products restricted

• Fines/liability

• Business model becomes less profitable

Opportunity:

• Weaker competitors may struggle to comply

• Demand for compliant products rises

• New markets/services emerge

• Established companies may gain advantage

Regulation is not automatically bad for business

How can AI/technological change affect an established company?

Possible opportunities:

• Automate work

• Reduce costs

• Improve products

• Increase productivity

• Enter new markets

Possible risks”

• Existing products become obsolete

• New competitors emerge

• Large investment is needed

• Employees need retraining

• Data/IP concerns

• Regulation

• Cyber risk

How can a cyberattack/data breach affect a company?

• Operational - systems unavailable

• Financial - lost revenue and remediation costs

• Legal/regulatory - investigations, fines, litigation

• Reputational - customers lose trust

How can energy or commodity price changes affect businesses?

A rise in prices may increase costs for companies that rely heavily on:

• Fuel

• Electricity

• Metals

• Food commodities

• Chemicals

This can:

• Squeeze margins

• Force price increases

• Reduce demand

• Change investment decisions

How can a commercial risk create an opportunity for another business?

Bad news for one company can be good news for another

• Tougher regulation hurts smaller competitors - large established firm gains market share

• Supply shortage - producers can charge higher prices

• Competitor exits market - remaining firms gain customers

• Geopolitical instability - defence spending rises

• Falling property prices - investors with cash can buy assets cheaply

Ask both ‘who loses’ and ‘who benefits’

What can a company do about risk?

• Avoid

• Reduce - change behaviour/structure to make the risk smaller

• Transfer - shift some consequences elsewhere e.g. through insurance or contractual protection

• Accept - take the risk because the expected commercial benefit justifies it

Lawyers rarely make a transaction completely risk-free, they help clients understand and manage risk so the client can make an informed decision