Academic journal article Global Economic Observer

Risk Assesment: An Important Tool for Companies

Academic journal article Global Economic Observer

Risk Assesment: An Important Tool for Companies

Article excerpt

1. Introduction

Risk management is not an end in itself, but a key instrument supporting the management in achieving corporate objectives. This applies, in particular, to the risk management.

There is a close relation between a company's mission, its vision and general strategic orientation on the one hand, and its willingness to take risk (risk appetite, risk tolerance), risk policy and risk strategy, on the other hand. All these elements have a strong impact on corporate culture and, therefore, on values, opinions and attitudes of employees. It is decisive for the well-balanced interaction of those elements whether the focus is on formal compliance with regulatory requirements or expectations of the capital markets or whether operational risk management is fully embraced by the management and all employees in their day-to-day work. While the basic components of a risk management system are similar, companies often significantly differ by their culture.

The corporate culture of a listed, internationally active companies orientated to shareholder value, a multinational companies rooted in a region and committed to supporting its members or a savings companies focusing on public interests differ more than the basic components of their risk management systems which always include the identification, assessment, treatment and control of risks. It is the culture, mission and vision that shape the readiness of these companies to take risks, their risk tolerance and risk profile, and thereby the concrete form of risk management competences.

Using the relation between loss frequency and severity, a rough differentiation can also be made between the measures for managing the relevant risks (chart 1) in the case of infrequent vents involving low loss potentials, the most economical solution is to bear the risks, i.e. accepting them as a part of expected loss and including them in the calculated costs. As a rule, risk acceptance depends on a cost-benefit analysis or weighting of expected income versus risk. A rational reason for accepting risks would be that the expected loss is lower than the cost of management activities to mitigate the risks.

If the frequency of specific loss events exceeds a certain level, risk management methods pay off serving to actively avoid such loss events - their costs naturally have to be covered by the prices. As the impact increases and the frequency of the events decreases (unexpected loss, stress loss), there is a transition from these measures to crisis or disaster management (business contingency management); to cover the material damage, risk mitigating measures are frequently used, e.g. insurance contracts.

2. Risk Identification and Assessment

After laying the organizational basis and establishing the framework, the next step frequently is to build a loss event collection and risk inventory (self-assessment).

The management of risks can be described as a cycle comprised of the following steps:

- risk identification;

- risk assessment;

- risk treatment;

- risk monitoring.

In order to control and limit its risks, a company first has to become aware of the potential risks. By identifying risk sources and risk drivers, a sound "health check" - in line with the saying that "prevention is better than cure" - allows a company to take preventive measures.

During risk identification and assessment, companies should consider several factors in order to establish the risk profile of a company and its activities, for example:

types of customers, activities, products, design, implementation and effectiveness of processes and systems, risk culture and risk tolerance of a company, personnel policy and development, and environment of the company.

The following tools have proven especially useful for this work: self-assessment (risk inventory), loss database, business process analysis, scenario analysis, and risk indicators. …

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