WHAT IS A RISK IN MANAGEMENT
In the ordinary sense, the risk is the outcome of an action taken or not taken, in a particular situation which may result in loss or gain. It is termed as a chance or loss or exposure to danger, arising out of internal or external factors that can be minimized through preventive measures.
In the financial glossary, the meaning of risk is not much different. It implies the uncertainty regarding the expected returns on the investments made i.e. the probability of actual returns may not be equal to the expected returns. Such a risk may include the probability of losing the part or whole investment. Although the higher the risk, the higher is the expectation of returns, because investors are paid off for the additional risk they take on their investments.
The major elements of risk are defined as below:
- Systematic Risk: Interest Risk, Inflation Risk, Market Risk,
- Unsystematic Risk: Business Risk and Financial
Sources of Risks are of External and Internal Risks. Internal Risks categorized into Decision related risk and Technical risk.
By the term uncertainty, we mean the absence of certainty or something which is not known. It refers to a situation where there are multiple alternatives resulting in a specific outcome, but the probability of the outcome is not certain. This is because of insufficient information or knowledge about the present condition. Hence, it is hard to define or predict the future outcome or events.
Uncertainty cannot be measured in quantitative terms through past models. Therefore, probabilities cannot be applied to the potential outcomes, because the probabilities are unknown.
Characteristics of Uncertainty are
- State of unknowing
- Lack of information
- Uncertainty is less susceptible to analysis, involving variability and ambiguity
- The consequences of uncertainty are project
- It is a subjective phenomenon
- Can be positive or negative
DIFFERENCE BETWEEN RISK AND UNCERTAINTY
|We do not know how many engineering resources will be made available to the project.||We may not have sufficient resources to deliver the project to plan|
|We do not know what changes the industry regulator may require to our proposed product design.||We may need to do significant product redesign, delaying the project delivery.|
|We do not know what the impact of an external industry report into a previous industrial accident on our project may be||We may need to incorporate new safety features into our project, again delaying the project delivery and increasing project cost.|
|We do not know what the end point of our project is.||We may not be able to deliver on time and to budget if the scope is not clearly defined|
Here are some of the most common risks that organizational and entrepreneur face.
Entrepreneurs face multiple risks such as bankruptcy, financial risk, competitive risks, environmental risks, reputational risks, and political and economic risks. They must plan wisely in terms of budgeting and show investors that they are considering risks by creating a realistic business plan. Entrepreneurs should also consider technology changes as a risk factor. Market demand is unpredictable as consumer trends can change rapidly, creating problems for entrepreneurs.
Organizational Risk — the business, treasury, and pure risks of an organization which collectively create uncertainty as to the financial outcome of an enterprise.
In business, it’s easy to focus on external risks. Watching what the competition is doing, new companies gaining traction, and changes in clients’ or customers’ expectations are all valuable and important pieces of knowledge for your business. However, many companies make the mistake of ignoring internal risks within the company that can be just as damaging. These organizational risks are often hidden and difficult to spot until it’s too late, unless you know what you’re looking for.
There are risks associated with predictions of all kinds. A budget is a prediction that carries immense consequences for a business.
Under budgeting can create corporate shortfalls and unexpected cuts. While over budgeting might sound like a good thing, it means capital has gone uninvested. In either scenario, the company has missed out on a competitive advantage. A company with better forecasting will have the advantages of higher market value and the creation of value-adding products and services.
The ultimate goal when integrating risk management into budget planning is to understand the assumptions your budget is based on.
- Identify the major line items of your budget and the personnel who contributed to them
- Ask key personnel to provide insight on major line items
- Engage subject matter experts to adjust low confidence line items
- Mitigate the risks in your budgeting
- Continuously monitor risks and efficacy of controls