MANAGEMENT RISK


MANAGEMENT RISK

What is risk management?
Risk management ensures that an organization identifies and understands the risks to which it is exposed.
Risk management also guarantees that the organization creates and implements an effective plan to prevent losses or reduce the impact if a loss occurs.
A risk management plan includes strategies and techniques for recognizing and confronting these threats.
Good risk management doesn’t have to be expensive or time consuming; it may be as uncomplicated as answering these three questions:
1. What can go wrong?
2. What will we do, both to prevent the harm from occurring and in response to the harm or loss?
3. If something happens, how will we pay for it?
Benefits to managing risk
Risk management provides a clear and structured approach to identifying risks. Having a clear understanding of all risks allows an organization to measure and prioritize them and take the appropriate actions to reduce losses. Risk management has other benefits for an organization, including:  Saving resources: Time, assets, income, property and people are all valuable resources that can be saved if fewer claims occur.
8 PP-IL&P
 Protecting the reputation and public image of the organization.
 Preventing or reducing legal liability and increasing the stability of operations.
• Protecting people from harm.
 Protecting the environment.  Enhancing the ability to prepare for various circumstances.
• Reducing liabilities.
• Assisting in clearly defining insurance needs.
An effective risk management practice does not eliminate risks. However, having an effective and
operational risk management practice shows an insurer that your organization is committed to loss reduction
or prevention. It makes your organization a better risk to insure.

Role of insurance in Risk Management
Insurance is a valuable risk-financing tool. Few organizations have the reserves or funds necessary to take
on the risk themselves and pay the total costs following a loss. Purchasing insurance, however, is not risk
management. A thorough and thoughtful risk management plan is the commitment to prevent harm. Risk
management also addresses many risks that are not insurable, including brand integrity, potential loss of taxexempt
status for volunteer groups, public goodwill and continuing donor support.
Risk Management Process
Risk Management Comprises of mainly three steps
(a) Risk Analysis
(b) Risk Identification
(c) Risk Assessment
(d) Risk Planning
(e) Risk Controlling
Lesson 1 Understanding and Managing Risk 9
RISK ANALYSIS
Risk Analysis is the process of identifying, analyzing and communicating the major risks.
Risk analysis involves
Once risks have been identified, they must then be assessed as to their potential severity of impact
(generally a negative impact, such as damage or loss) and to the probability of occurrence. These quantities
can be either simple to measure, in the case of the value of a lost building, or impossible to know for sure in
the case of the probability of an unlikely event occurring. This process is known as risk analysis. In the
assessment process it is critical to make the best educated decisions in order to properly prioritize the
implementation of the risk management plan.
RISK PLANNING AND CONTROL
Once risk and identified and analyzed, it is important to plan and adopt a suitable strategy for controlling the
risk. Risk planning and controlling is the stage which comes after the risk analysis process is over.
There are five major methods of handling and controlling risk.
(a) Risk avoidance;
(b) Risk retention;
(c) Risk transfer;
(d) Loss control; and
(e) Insurance.
Risk Avoidance
Risk avoidance is one method of handling risk. For example, you can avoid the risk of being pick pocketed in
10 PP-IL&P
Metropolitan cities by staying out of them; you can avoid the risk of divorce by not marrying; a career
employee who is frequently transferred can avoid the risk of selling a house in a depressed real estate
market by renting instead of owning; and a business firm can avoid the risk of being sued for a defective
product by not producing the product.
But as a practical matter, not all risks can or even should be avoided. For example, you can avoid the risk of
death or disability in a plane crash by refusing to fly. But is this practical and desirable? The alternatives are
not appealing. You can drive or take a bus or train, all of which take considerable time and often involve
great fatigue. Although the risk of a plane crash is present, the safety record of commercial airlines is
excellent, and flying is a reasonable risk to assume. Or one may wish to avoid the risk of business failure by
refusing to go into business for oneself. But a person may have the necessary skills and capital to be
successful in business, and risk avoidance may not be the best approach for him to follow in this case.
Risk Retention
Risk retention is a second method of handling risk. An individual or a business firm may retain all or part of a
given risk. Risk retention can be either active or passive.
Active Risk Retention
Active risk retention means that an individual is consciously aware of the risk and deliberately plans to retain
all or part of it. For example, a motorist may wish to retain the risk of a small collision loss by purchasing an
own damage insurance policy with a Rs. 2,000 voluntary excess. A homeowner may retain a small part of
the risk of damage to the house by purchasing a Householders policy with substantial voluntary excess. A
business firm may deliberately retain the risk of petty thefts by employees, shoplifting, or the spoilage of
perishable goods. Or a business firm may use risk retention in a self-insurance program, which is a special
application of risk retention. In these cases, the individual or business firm makes a conscious decision to
retain part or all of a given risk. Active risk retention is used for two major reasons. First, risk retention can
save money. Insurance may not be purchased at all, or it may be purchased with voluntary excesses; either
way, there is often a substantial saving in the cost of insurance. Second, the risk may be deliberately
retained because commercial insurance is either unavailable or can be obtained only by the payment of
prohibitive premiums. Some physicians, for example, practice medicine without professional liability
insurance because they perceive the premiums to be inordinately high.
Passive Risk Retention
Risk can also be retained passively. Certain risks may be unknowingly retained because of ignorance,
indifference, or lasiness. This is often dangerous if a risk that is retained has the potential for destroying a
person financially. For example, many persons with earned incomes are not insured against the risk of longterm
disability under either an individual or group disability income plan. However, the adverse financial
consequences of a long-term disability generally are more severe than premature death. Thus, people who
are not insured against the risk of long-term disability are using the technique of risk retention in a most
dangerous and inappropriate manner.
In summary, risk retention can be an extremely useful technique for handling risk, especially in a modern
corporate risk management program. Risk retention, however, is appropriate primarily for high frequency, low
severity risks where potential losses are relatively small. Except under unusual circumstances, an individual
should not use the technique of risk retention to retain low frequency, high severity risks, such as the risk of
catastrophic losses like earthquake and floods.
Lesson 1 Understanding and Managing Risk 11
Risk Transfer
Risk transfer is another technique for handling risk. Risks can be transferred by several methods, among
which are the following:
(a) Transfer of risk by contracts;
(b) Hedging price risks; and
(c) Conversion to Public Limited Company.
Transfer of risk by contracts
Unwanted risks can be transferred by contracts. For example, the risk of a defective television or stereo set
can be transferred to the retailer by purchasing a service contract, which makes the retailer responsible for
all repairs after the warranty expires. The risk of a substantial increase in rent can be transferred to the
landlord by a long-term lease. The risk of a substantial price increase in construction costs can be
transferred to the builder by having a firm price in the contract rather than a cost-plus contract.
Hedging price risks
Hedging price risks is another example of risk transfer. Hedging is a technique for transferring the risk of unfavorable price fluctuations to a speculator by purchasing and selling futures contracts on an organized exchange, such as NSE.
In recent years, institutional investors have sold stock index futures contracts to hedge against adverse price declines in the stock market. This technique is often called portfolio insurance. However, it is not formal insurance but is a risk transfer technique that provides considerable protection against a decline in stock prices.




Comments

Post a Comment

Popular posts from this blog

BASIC CATEGORIES OF RISK

BASIC CATEGORIES OF RISK With regards insurability, there are basically two categories of risks; 1. Speculative or dynamic risk; and 2. Pure or static risk Speculative or Dynamic Risk Speculative (dynamic) risk is a situation in which either profit OR loss is possible. Examples of speculative risks are betting on a horse race, investing in stocks/bonds and real estate. In the business level, in the daily Lesson 1  Understanding and Managing Risk  5 conduct of its affairs, every business establishment faces decisions that entail an element of risk. The decision to venture into a new market, purchase new equipments, diversify on the existing product line, expand or contract areas of operations, commit more to advertising, borrow additional capital, etc., carry risks inherent to the business. The outcome of such speculative risk is either beneficial (profitable) or loss. Speculative risk is uninsurable. Pure or Static Risk ...
Read more

HOW PRINCIPLE OF CONTRIBUTION WORKS IN INSURANCE

HOW PRINCIPLE OF CONTRIBUTION WORKS IN INSURANCE Principle of contribution is implemented when multiple insurance policies are covering the same property or loss, the total payment for actual loss is proportionally divided among all insurance companies. In insurance, the principle of contribution in born from principle of indemnity. It is used to will maintain continued existence to preserve the principle of indemnity Therefore, principle of contribution only applies to those insurance contracts which are contracts of indemnity. In fact, however, there would have been possibilities of getting more than the actual loss had the principle of contribution not been established with legal force. Just to give a probability, the insured would have received a claim in full, numbers of times, by affecting numbers of policies with different insurers thereby defeating entirely the principle of indemnity. Like subrogation, therefore, has come up the principle of contributi...
Read more

FEATURES OF INSURANCE CONTRACT

FEATURES OF INSURANCE CONTRACT Though all contracts share fundamental concepts and basic elements, insurance contracts typically possess a number of characteristics not widely found in other types of contractual agreements. The most common of these features are listed here: (a) Aleatory If one party to a contract might receive considerably more in value than he or she gives up under the terms of the agreement, the contract is said to be aleatory. Insurance contracts are of this type because, depending upon chance or any number of uncertain outcomes, the insured (or his or her beneficiaries) may receive substantially more in claim proceeds than was paid to the insurance company in premium dollars. On the other hand, the insurer could ultimately receive significantly more money than the insured party if a claim is never filed. (b) Adhesion In a contract of adhesion, one party draws up the contract in its entirety and presents it to the other party on a 'take it or leave it' ba...
Read more