Advanced Credit Risk Analysis and Management

5

External Risks

Almost everyone knows why the Titanic sank, in the cold waters of Atlantic on a starlit night in 1912. The tragedy of the Titanic, which was immortalized in a late 1990s Hollywood film, was the result of ignoring external threats. The ship was claimed to be the strongest and most unsinkable built to date, which led to certain unconscious decisions on the part of the people responsible for steering the ship to ignore external threats from sea and weather factors. The information on an external risk – icebergs – was taken too lightly. The confidence reposed in the strength of the ship – the best ship in 1912 – was excessive.

Similarly, in business even strong enterprises and companies have floundered because of inadequate attention to external threats. The business history of several nations tells us stories about the mighty companies that disappeared all of a sudden due to changes in the external environment. For example, the downturn in US real estate during 2007–09 wiped out several reputed business institutions in the US such as Lehman Brothers, Wachovia Bank and Washington Mutual.

In this chapter we will cover external risks, first among the three major operating or business risks. It refers to all those non-industry and non-entity factors that impact the operational and financial aspects of a business. Businesses do not operate in a vacuum. Many external factors do influence the results, actions and decisions of businesses, although diverse businesses are ...