What Is Obsolescence Risk?
Let me explain obsolescence risk directly: it's the risk that a process, product, or technology your company uses or produces for profit will become obsolete, making it no longer competitive in the marketplace. This directly cuts into your company's profitability.
You see this risk most prominently in technology-based companies or those with products or services relying on technological edges.
Understanding Obsolescence Risk
Obsolescence risk affects all companies to some extent, and it's an inevitable part of a thriving, innovative economy. Consider this when deciding investments in new technology: will it stay superior long enough to justify the cost, or will it obsolete quickly, leading to losses?
To stay competitive and profitable, companies need to be ready for major capital expenditures whenever a key product, service, or production factor becomes obsolete.
Important Note on Budgeting
Budgeting for obsolescence risk is tough because predicting obsolescence and the pace of technological innovation is inherently difficult.
Example of Obsolescence Risk
Take a publishing company as a clear example facing obsolescence risk. With computers, tablets, and smartphones becoming more popular and affordable, consumers are shifting to reading magazines, newspapers, and books digitally instead of in print.
For that publishing company to stay competitive, it has to cut investments in old paper publications and pour resources into new technologies. Even then, it must watch for emerging, unforeseen technologies that could replace current digital methods and demand further investment.
Look at the stock market's history—it's full of companies that died because their products or technologies became obsolete. Think of tech firms like Control Data and Digital Equipment, which were on Morgan Stanley's 1982 'recommended' buy list but didn't survive.
Key Takeaways
- Obsolescence risk occurs when a product or process risks becoming obsolete, often from technological innovations.
- To reduce this risk, be prepared to make capital expenditures and invest in new technology and processes.
- Companies based on technology or relying on technological advantages are the most vulnerable to obsolescence risk.
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