What is Risk Management?

Risk management is the procedure of recognizing, analyzing, monitoring, and preventing the risks and threatening factors of investments and business. Risks can arise from various factors including internal controls, market changes, natural disasters, and failure in productions. Risk management techniques enable entities to control and minimize the risks as well as the threatening factors of the business and it also helps to improve the business.

What are the risk management techniques?

Risk management techniques are used to manage risks and threats. The basic risk management techniques are avoidance, retention, sharing, transferring, and prevention and reduction.

Avoidance

Avoidance is one of the risk management techniques which reduces the risks by not entering into risk-causing activities. It avoids the negative events and factors to reduce the risks. Non-participation in dangerous tasks protects parties from risks and damages.

Retention

Retention is the risk management strategy. Retention means undertaking the risk instead of handing over the risk to the third party. Under risk retention, parties are ready to hold the risk as they assume that the cost incurred due to retaining risk is lower than the cost of transferring the risk to the third party. For example, acquiring insurance from an insurance company. People and organizations do not enter into insurance contracts if they think that purchasing insurance involves high costs than meeting the risks and damages on their own. They are using a retention strategy to mitigate the costs.

Sharing

Sharing means sharing the risk with others to mitigate the loss. Risk-sharing does not involve handover the risk to someone but it shares the risk with others. It requires active participation from all the parties. For example employees' insurance benefits. If a company contributes to employees' insurance benefits along with employees, the company shares the risk with employees. This sharing strategy also reduces the cost of the company and employees.

Transferring

Transferring is the risk management strategy. Risk transferring means transferring the outcomes of adverse events to another party. A risk transferring strategy is created between the two parties by entering into an agreement. Parties in the agreement are the party who hand over the risk and the party who bears the risk. As per the agreement terms, the risk transferring party should pay a fixed amount on a periodic basis to the risk-bearing party. A common example of risk transfer is an insurance agreement. In the case of vehicle insurance, if any damage or accidents occurs to the vehicle and/or the policyholder, an insurance company should protect the policyholder from financial loss and damages. Forbearing the risk, policyholders should make payments like insurance premiums.

Prevention and reduction

Loss prevention and reduction techniques reduce the outcomes of adverse events. It mitigates the risk of loss. These techniques prevent the risk extension and minimize its effects. Preventive checkup in health insurance is the best example of loss prevention and loss mitigation. Health insurance companies motivate policyholders to do routine health checkups. It will reduce the financial losses of an insurance company.

Tools used in risk management techniques

Risk management tools are utilized by project management to control and mitigate the risks. The following are the important risk management tools widely used by project managers and business owners.

Root cause analysis

This analysis is a widely used tool in projects to find out the risks. This analysis identifies and resolves the risk from its root. Root cause analysis uses some questions to identify and assess the risk. They are what happened, when did it happen, and how did it happen.

SWOT analysis

SWOT analysis is used to determine the strength, weaknesses, opportunities, and threats of the projects. SWOT is the acronym for strength, weakness, opportunities, and threats. The first procedure in SWOT analysis is to decide the strengths of the entity. The second procedure is to gauge out the weakness. The strength and weakness report helps the entity to remove weaknesses and focus on strengths for the enhancement of the entity. Opportunities and threats reports decide the risks of the entity. Opportunities define the positive risks and threats define the negative risks.

Risk assessment template

The risk assessment template is widely used in information technology and projects. The risk assessment template provides a list of probable risks and their influence on the project. This template helps to monitor the risks of the project. Project managers can use this risk assessment template for understanding the occurrence of probable risks.

Probability and impact matrix

The probability and impact matrix helps project managers to arrange the probable risks based on their impact. Higher impact and higher probable risks are placed first in the matrix. The project team can use this matrix to clarify the most probable risks and their effects. It helps the team to allocate time and risk management resources based on the outcomes of the risks. The probability and impact matrix prevents the project team from spending more time on probable risks which have fewer negative effects on projects.

Decision tree

A decision tree diagram is prepared to show the several possibilities of risks, impacts, and solutions for the problems. It helps the entity to make the best decision options. Each branch of the tree reflects each solution for risks. The entity can choose the best option from the branches depending on the risks, and the impact of risks.

Significance of risk management

Risk management helps entities to minimize risks and losses by identifying the possible risks and their negative outcomes. An effective risk management plan helps project teams and entities to reduce uncertain losses and expenses.

Helps to mitigate the uncertain risk and loss

Risk management techniques help organizations to analyze the potential risks and their negative outcomes. It enables the entity to be aware of the inside and outside risk factors. Entities can make use of risk-controlling strategies to protect from unpredictable risks.

Save time and risk management resources

Risk management techniques provide lists of probable risks and their impacts. These techniques sort the risks based on their consequences. The entity can focus on highly possible and high-impact risks. Entities can save time and risk management resources by not focusing on small risks and fewer impact risks.

Decrease in losses and expenses

Organizations using risk management techniques can avoid losses and expenses arising out of unexpected changes in markets. Internal risk management assists entities in their production and lessens the cost of production. It helps to increase the organizations' income.

Context and Applications

This topic is significant in general studies, professional exams, and also for both undergraduate courses and postgraduate courses and competitive exams, especially for

• Finance courses
• Master of Business Administration
• Masters in Risk Management

Practical Problems

Question 1: Which are the risk management techniques?

   a) Avoidance

   b) Transferring

   c) All of the above

Answer: Option (c) is correct.

Explanation: Avoidance, transferring, sharing, retention, and loss prevention and reduction are the techniques of risk management. Avoidance means non-participation in risk-creating activities. Transferring means handing over the risk to another party.

Question 2: _________means undertaking the risk instead of handing over the risk to the third party.

   a) Avoidance

   b) Retention

   c) Sharing

Answer: Option (b) is correct.

Explanation: Retention means undertaking the risk instead of handing over the risk to a third party. Under risk retention strategy, individuals or organizations are ready to retain the risk as they assume that the cost incurred due to retaining risk is lower than handing over the risk to a third party.

Question 3: __________helps project managers to arrange the probable risks and its impact.

   a) Probability and impact matrix

   b) Root cause analysis

   c) SWOT analysis

Answer: Option (a) is correct.

Explanation: The probability and impact matrix helps project managers to arrange the probable risks and their impact. Higher impact and higher probable risks are placed first in the matrix.

Question 4: What is SWOT analysis?

   a) Strength, weakness, outcome, threat

   b) Strive, weakness, opportunity, threat

   c) Strength, weakness, opportunity, threat

Answer: Option (c) is correct.

Explanation: SWOT analysis is the acronym for strength, weakness, opportunity, and threat. It guides entities and people to analyze their strengths, weakness, opportunities, and threat.

Question 5: What are the tools used in risk management techniques?

   a) Risk assessment template

   b) Decision tree

   c) All of the above

Answer: Option (c) is correct.

Explanation: Risk assessment template and decision trees are the tools used in risk management methods. The risk assessment template provides a list of probable risks and their effect on the project. A decision tree diagram is prepared to show the several possibilities of risks, impacts, and solutions for the problems.