When the Next Katrina Blows into Town … Will You Be Ready?

A good risk-management system for your business comprises a three-step process. First, recognize the risks you face. Second, devise a plan to mitigate these risks. And third, execute this plan.

The recent horrific catastrophes caused by Hurricanes Katrina and Rita provide powerful case studies of the importance of a good risk-management system. Most businesses that had prepared with this three-step process survived in some form. However, the businesses that had not properly considered risk-management issues generally suffered devastating losses. Now, with the official start of the 2006 hurricane season beginning this month, it’s worth taking a close look at these areas of emergency preparedness.

For textile service company owners, nearly all risk-management decisions can be broken down into six key elements: operational, reputation, disaster, regulatory, legal and liquidity.

Operational risk is concentrated in three areas: equipment, information and human. If your equipment is older and tends to need costly maintenance and repairs, then your operational risk is high. Frequent equipment problems can lead to high levels of downtime and waste, both of which can be very expensive for your textile service business. If you have had significant problems with your equipment, you should consider replacing it. While the initial cost may seem prohibitive, you might actually find in putting a pencil to the issue that the improved productivity and efficiency would more than cover the new equipment purchase price.

Information risk pertains primarily to your computer system. If your system is antiquated and slow, then you are taking undue risk in the quality and availability of your information. For instance, your system should be able to provide up-to-date inventory records, without which you might underestimate the availability of certain items. Your system also should provide you with frequent profit-and-loss information, so you know how your business is performing.

Information risk also involves frequent backups of your data to ensure its protection in the event of a fire or power outage. To mitigate this aspect of information risk, you should back up your data on a regular basis (a state-of-the-art computer system should be able to back up the information daily) and store the backed-up data at a different site, or in a fireproof safe or vault.

The third area of operational risk is human risk, which can manifest itself in the form of human error, fraud or excessive reliance on one or two key employees. Human error risk can be mitigated by well-defined policies and procedures, good training and targeted hiring practices. Employee fraud can be minimized or prevented by thorough and targeted hiring practices, and good checks and balances in your cash-control system. And you can avoid excessive reliance on one or two employees by cross-training and through well-documented policies and procedures.

Reputation risk

Reputation risk, while often overlooked, can have a significant impact on the viability of a textile service company. A good reputation is hard to obtain, but easy to lose. The best way to keep up a good reputation is by striving to underpromise and overdeliver. For instance, if you are out of a certain inventory item and must order it for a customer, don’t promise it will be there in three days when it normally takes five.

You also can significantly enhance your reputation via advertising. Since your advertising dollars are limited, use them to emphasize the trait(s) that differentiate you from the competition. For instance, if you are the only company in town with a certain line of inventory mats or napkins, advertise that. Or, if your plant location is superior to your competitor’s, focus your advertising on this point.

Here are some other steps that you can take to mitigate reputation risk:

The devastating hurricanes in Florida in 2004 and in the Gulf region in 2005 certainly highlighted the critical importance of disaster risk management, which is not just about maintaining a comprehensive insurance plan. Here are some tips on mitigating the various disaster risks in the textile service industry:

With all the corporate governance issues that have taken center stage following the scandals involving Enron, Arthur Andersen and others, publicly traded companies have experienced a full dose of regulatory risk in recent years. But public companies are not the only ones that must manage regulatory risk.

In an online advice column for small businesses found at CCH Business Owner’s Toolkit (www.toolkit.cch.com) Alice Magos, certified financial planner and author of “Ask Alice,” writes, “The minute you become an employer, you become subject to a host of federal labor laws, not to mention OSHA (Occupational Safety and Health Administration) regulations and an assortment of other federal agency rules.”

For example, all employers must comply with federal laws such as the Fair Labor Standards Act (FLSA), the Federal Insurance Contributions Act (FICA), the Federal Unemployment Tax Act (FUTA), Employee Retirement Income Security Act (ERISA) and the Equal Pay Act. And depending on the number of employees in your business, you may have to comply with laws such as the continuation of health coverage under COBRA (Consolidated Omnibus Budget Reconciliation Act of 1985, as amended) for businesses employing 20 or more, and the Family and Medical Leave Act, for those employing 50 or more. These laws cover issues such as payroll withholdings, overtime pay, the display of posters for the U.S. Equal Employment Opportunity Commission (EEOC), the Federal Minimum Wage Notice and others. The penalty for noncompliance with these regulations can be stiff fines or even jail.

The bottom line with regulatory risk is to stay informed. Keep up with industry-specific and general regulatory issues by reading Textile Rental and other business publications and by staying in touch with your certified public accountant (CPA) and attorney.

The laws governing U.S. commerce are vast and complex, and apply to numerous businesses, regardless of size or industry. While many of these legal risks can be mitigated, the best mitigation method is choosing one’s associates wisely, according to Magos.

“Check out everyone you do business with: employees, vendors, suppliers, customers, advisors and investors,” advises Magos. “Dealing with honest and nonlitigious folk is a good beginning.”

In addition to dealing with the right people, Magos offers the following practical ways to mitigate legal risk:

Simply stated, liquidity risk is the risk that you will run out of the cash necessary to sustain your textile service company. And while a number of complicated factors can affect your company’s ability to remain solvent, three scenarios typically cause a financial crisis: 1) excessive losses, 2) a mismatch of assets and financing sources, and 3) rapid sales growth.

If you are starting a new business or if your existing business is expanding with new locations or new lines of business, run your projections based on conservative assumptions. You should be able to estimate potential sales with the input of industry consultants, your CPA and banker. Keep operating expenses in check during your start-up or expansion period by watching every dollar that goes out the door.

A mismatch on the balance sheet can be equally devastating to a textile service business. For instance, you should not use operating cash or a short-term line of credit to finance fixed assets such as real estate, equipment and vehicles. These assets should be financed by permanent equity or long-term debt, or even a lease. Fixed assets will not generate cash flow quickly enough to replenish operating cash or to pay back short-term debt when it comes due, and a liquidity crisis will surely follow.

A frequently overlooked threat to liquidity is rapid sales growth. While generally a good thing, sales growth in excess can sink a business. If not properly planned for, a business can quickly run out of cash and line of credit availability to pay for the rapid increase in inventory. And if you are caught off guard by substantial growth, then your banker will be as well, which may well lead to a crisis if the lender is unwilling to increase the line availability. The other risk you run with unchecked sales growth is shortages of inventory, which will certainly hurt your reputation in the market (see the second of six major risks covered in this article).

In summary, risk management is all about putting together a well-developed plan and then executing it. If you subject most areas of your business to a risk assessment, and then develop and implement a corresponding risk-management plan, you will find that your textile service company will run far more smoothly on a day-to-day basis. A smoother-running business means fewer crises, more profitability and more sleep at night for you. TR

J. Tol Broome Jr. is a freelance writer based in Greensboro, NC.