Almost everything we do in today's business world involves a risk of some kind: customer habits change, new competitors appear, factors outside your control could delay your project. But formal risk analysis and risk management can help you to assess these risks and decide what actions to take to minimize disruptions to your plans. They will also help you to decide whether the strategies you could use to control risk are cost-effective.
How to Use Risk Analysis:
Here we define risk as 'the perceived extent of possible loss'. Different people will have different views of the impact of a particular risk – what may be a small risk for one person may destroy the livelihood of someone else.
One way of putting figures to risk is to calculate a value for it as:
risk = probability of event x cost of event
Doing this allows you to compare risks objectively. We use this approach formally in decision making with Decision Trees.
To carry out a risk analysis, follow these steps:
1. Identify Threats:
The first stage of a risk analysis is to identify threats facing you. Threats may be:
- Human – from individuals or organizations, illness, death, etc.
- Operational – from disruption to supplies and operations, loss of access to essential assets, failures in distribution, etc.
- Reputational – from loss of business partner or employee confidence, or damage to reputation in the market.
- Procedural – from failures of accountability, internal systems and controls, organization, fraud, etc.
- Project – risks of cost over-runs, jobs taking too long, of insufficient product or service quality, etc.
- Financial – from business failure, stock market, interest rates, unemployment, etc.
- Technical – from advances in technology, technical failure, etc.
- Natural – threats from weather, natural disaster, accident, disease, etc.
- Political – from changes in tax regimes, public opinion, government policy, foreign influence, etc.
This analysis of threat is important because it is so easy to overlook important threats. One way of trying to capture them all is to use a number of different approaches:
- Firstly, run through a list such as the one above, to see if any apply.
- Secondly, think through the systems, organizations or structures you operate, and analyze risks to any part of those.
- See if you can see any vulnerabilities within these systems or structures.
- Ask other people, who might have different perspectives.
2. Estimate Risk:
Once you have identified the threats you face, the next step is to work out the likelihood of the threat being realized and to assess its impact.
One approach to this is to make your best estimate of the probability of the event occurring, and to multiply this by the amount it will cost you to set things right if it happens. This gives you a value for the risk.
3. Manage Risk:
Once you have worked out the value of risks you face, you can start to look at ways of managing them. When you are doing this, it is important to choose cost effective approaches – in most cases, there is no point in spending more to eliminating a risk than the cost of the event if it occurs. Often, it may be better to accept the risk than to use excessive resources to eliminate it.
Risk may be managed in a number of ways:
- By using existing assets:
Here existing resources can be used to counter risk. This may involve improvements to existing methods and systems, changes in responsibilities, improvements to accountability and internal controls, etc.
- By contingency planning:
You may decide to accept a risk, but choose to develop a plan to minimize its effects if it happens. A good contingency plan will allow you to take action immediately, with the minimum of project control if you find yourself in a crisis management situation. Contingency plans also form a key part of Business Continuity Planning (BCP) or Business Continuity management (BCM).
- By investing in new resources:
Your risk analysis should give you the basis for deciding whether to bring in additional resources to counter the risk. This can also include insuring the risk: Here you pay someone else to carry part of the risk – this is particularly important where the risk is so great as to threaten your or your organization's solvency.
Once you have carried out a risk analysis and management exercise, it may be worth carrying out regular reviews. These might involve formal reviews of the risk analysis, or may involve testing systems and plans appropriately.