Make The Case For Concentrating On Concentration Risk
Unless you’re a floppy disk aficionado, Tom Persky isn’t likely to be a familiar name. Tom is what you’d call a “last man standing,” as he’s the only bulk seller of floppy disks left, and his business of recycling, stripping, and reselling floppy disks is booming. You may be thinking, so what? Do they still make floppy disks? Who even uses floppy disks anymore? No, floppy disks are no longer manufactured, but they’re still very much in demand to run many industrial machines.
As it turns out, airlines still use floppy disks to update their software and load navigational data for aircrafts built over 20 years ago, which makes up 30–50% of their entire fleet. Think canceled flights during the 2022/23 holiday season was problematic for the airline industry? Now imagine the mayhem that could ensue if the sole seller of floppy disks suddenly couldn’t supply them. Tom and his floppy disks are a classic example of concentration risk, but they’re not the only example.
My new report, Don’t Wait For The Next Global Crisis To Respond To Concentration Risk, makes the case for firms to consider concentration risk in their overall enterprise risk management strategies before it is too late.
Concentration Risk Doesn’t Require You To Understand It To Be Impacted By It — But It’s Far Better If You Did
Concentration risk isn’t just a term that financial planners use to get you to diversify your retirement plan — it’s so much more! If you felt frustration from the semiconductor chip shortage, were left flabbergasted from the price hike for a dozen eggs, or were inconvenienced by the Federal Aviation Administration’s total system outage that grounded thousands, you’ve experienced concentration risk firsthand.
Where points of concentration within a firm’s business, operating, or commercial model create a single point of failure that cascades throughout an organization, an industry, or has far-reaching global impact, you can bet concentration risk has gone unmitigated. Recent examples include a 15-hour national outage in July 2022 of Rogers Communications that cost the Canadian economy $142 million and losses from the war in Ukraine that topped $59 billion just in the first four months, highlighting global dependence on Ukraine and Russia for commerce, labor, and supply chain activities — a concentration risk that most didn’t realize existed until the losses started mounting. And who can forget the Taylor Swift-Ticketmaster fiasco, which cost millions of “Swifties” the opportunity to buy tickets for her long-awaited Eras tour when Ticketmaster’s platform crashed after being flooded with bots? Whether Ticketmaster and its parent company, Live Nation, is a monopoly or not is now the subject of US Senate hearings, but existing concentration risk in the live entertainment market is no longer deniable by artists or their fans.
Hunt For Concentration Risk In Five Common Areas
So how should firms ensure that concentration risk doesn’t take a back seat in their risk management strategies? In my report, I identify five common areas where concentration risk manifests, specifically:
- Concentration of labor, knowledge, and skills. It’s predicted that, by 2030, there will be a talent value chain shortage of up to 85.2 million. Organizations that don’t diversify the skills and knowledge of their employees may find themselves in a perpetual state of hiring or a lack of talent.
- Concentration of technology. Even just the shortest period of downtime of single-sourced technology can lead to millions of dollars in lost revenue. Also, the proliferation of “free” technology (think WordPress, Log4j) becomes ubiquitous and creates concentration that’s often overlooked until it’s exploited.
- Concentration in AI-based decisions. The more AI is used as a sole means of decision-making, the greater the margin for error, bias, and the potential for brand reputation damage.
- Concentration of data sources. When firms have a concentration of data sources, they create a higher risk for individual customers and businesses, especially if the data turns out to be inaccurate.
- Concentration by monopolies and oligopolies. When only a few big players dominate a market, customers can suffer if a disruption causes major shortages, such as what happened with the US infant formula market, in which the shutdown of a single production facility in February 2022 triggered a nationwide shortage that’s still ongoing today.
Read the full report, Don’t Wait For The Next Global Crisis To Respond To Concentration Risk, for a deeper dive into these five common areas and the mitigation strategies for each. Schedule an inquiry with me to prepare your firm for the unexpected consequences of concentration risk.
(written with Danielle Chittem, research associate)