Risk management is a process where an organization identifies, assesses, and controls threats to its earnings and capital. These risks can occur from a wide variety of sources. The sources may be an uncertain financial condition, management errors, disasters, and even data security risks.
Every business faces these risks, which may cost the company money or even permanent closure. Managing risks helps the companies to minimize risks and extra costs before they can occur.
Objectives of risk management
The process of risk management supports the organization’s aim by ensuring that all the activities are running normally. In addition, it helps develop a safe and secure working environment for all staff and customers, thereby increasing stability. Below mentioned are a few of its objectives.
- It provides excellent quality service for the customers.
- This process also initiates a lot of action to prevent or reduce the adverse effects of risks.
- It also helps decrease the risks related to new activities and development.
- Managing risks also helps to choose possible outcomes based on the possible information available.
- It also aims to reduce risks for human costs when it is filling.
Steps of risk management
The first step of the risk management process involves the identification of potential risks. Of course, there are a lot of risks like legal risks, market risks, environmental risks, and many more. In some organizations, the management notes these risks manually, and others have these risks inserted directly into the system. As a result, the stakeholders of the company can now know the risks.
An organization can note down the risks by consulting various professionals and conducting research. However, it is vital to revise this step as the risks are not constant.
The severity of the risk
Once the leaders identify the risks, it is time to analyze it. They also determine the scope of the risks and their link to other factors in the organization. For example, some risks can standstill the whole company, while others can create few inconveniences in the system.
Knowing the severity and the frequency of the risks will allow the best way to spend money and time. The analysis will also help the team to make the best use of the resources.
The managers used to rank and prioritize risks. Most of the systems have different categories of risks, depending on the frequency. The high-ranked risks cause huge losses and the lower ones cause few minor problems. Therefore, it is vital to rank the risks to get a good view of risk exposure on the organization. Then, accepting those risks helps to prevent significant losses.
Treating the risk
The leaders try to get rid of or suppress every risk as much as they can. The best way to do this is to connect the experts in the fields of risks. In addition, the experts suggest many solutions, and the leaders pick the most effective solution. Setting up a formal process to implement the solutions across the whole organization with the help of employees is the next step.
Motoring the result
Risk management is a process that can never finish. With consistent changes of risk in the organization, there is a need for consistent revision of the process. Monitoring the risks and the results allows the company to work without any problem.
If an organization gradually develops a culture to manage risk, it can become resilient and adaptive to changes.
Methods to address risks
The process of risk management is of four types.
The best way to prevent a potential loss arising from an activity is to avoid it altogether. For example, avoid buying a property due to legal problems and avoid driving cars in fear of accidents.
There are few cases where avoidance may be appropriate, such as gambling. The avoidance may seem to be an answer to all the risks; however, there are some gains you can achieve after accepting the risks. Not starting a business in fear of losses may cause not having a possibility to earn profits. There are chances of loss due to inflation if you attempt to keep all the money in cash in fear of investment losses.
This process of risk management enables us to reduce the loss rather than eliminating it. So, for example, you can drive while checking the speed limits to reduce accidents on the road.
Reducing the risk can be both positive and negative, determining the effort applied for reducing. By applying many management standards, organizations try to achieve tolerable levels of risks.
To explain this risk management process with an example, we can take the example of a health insurance company. They give preventive care visits to the members, where members get annual health checkups. Thus, spotting health issues early on will help minimize medical costs in the long run.
Another way of dealing with the risks is to transfer them to some third party. We can transfer risks in several ways, but the most effective of them is via insurance. Insurance can cover most of the losses, which will destroy us.
A good example of transferring risks is through insurance. Insurance companies cover the financial risks in place of monthly or yearly payments known as premiums. By applying various statistics, the insurer determines the proper premium amount in response to the coverage asked. The individual also has to sign a contract stating the conditions to meet for getting the coverage. By paying the premiums in time, the individuals can transfer most of their risk to the insurer.
If an individual cannot transfer or avoid risk, the only choice that remains is to retain it. In some cases, retaining does not cause big problems, while retaining can cause severe threats in others. Retention is the best approach when the potential of the loss is meagre, regardless of how frequent it can occur.
The best way to explain retention in the risk management process with example is total replacement coverage of cell phones. While checking on the offers a service provides, an individual found that the monthly payment of the entire insurance plan for replacing the mobile phone is enough to buy a new one in a year. However, the individual also has to pay about half of the original cost to replace the phone. Thus, the individual decided it’s better to retain the phone and buy a new one if something happens than to buy a replacement plan.
Benefits of risk management
Identifying the risks helps to keep calm at the crisis time. Most of the risks can most likely occur; hence planning helps to minimize loss. The leaders can easily understand which projects are not going well while dealing with a lot of projects.
The leaders having access to better data enables them to make better decisions. Being able to make decisions based on real-time risks means that they made decisions upon actual data.
Managing risks helps the project teams to identify the risk and contact relevant people in time and timely. It also manages lots of problems that are generally expensive and takes high effort to solve. Early awareness of problems encourages the teams as everyone has their hand in problem-solving.
The risk management process improves the quality of communication between the senior stakeholders and teams in the project. In addition, they discuss different topics with available current information.
The project teams can now focus on critical areas as identified from risk management processes. For example, areas costing much with the lesser outcome should not take unnecessary time. This way, the project team can reduce extra delays or guesswork. Thus, the teams get an advantage on focusing on more successful areas rather than non-performing areas.
A proper risk management process helps to make a well scheduled and cost-effective budget. It decreases guesswork for unforeseen costs. It leads to the inclusion of extra time or money as required according to plan.
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Limitations of risk management
Managing risks depend on many external factors. Data insecurity and natural calamities, and many others can bring significant threats.
Complexity in calculations
The risk management calculations are pretty complex. Without the software, it can turn out to be very difficult.
A single risk managing system may not be suitable for every company. However, every company requires a risk management system.
Risk management software is usually very complicated. Hence the employees need suitable training to use them. Then, again, if those employees leave the organization, their replacements also need training. Thus, the cost of training is very high.
To sum it up
The risk management process has become crucial nowadays. These processes can manage all the potential threats to the organization by different methods. Therefore, to achieve success, every company requires a risk management team.