The global risk environment Flashcards
Within the global environment of risk-management, which 3 groups have an interest in increasing organisational risk-management activities?
- Stakeholders
- Regulatory agencies
- Standard-setting bodies
How prevalent is risk and risk-management within an organisation?
Incredibly so - every activity performed and decision made involves risk, and these risks are managed, consciously or not
At a very base level, what is the purpose of risk-management?
Preserving and creating value for stakeholders
Risk-management involves balancing of two key elements:
- Take risks that yield positive benefits for stakeholders
- Reduce risks that could cause financial or physical harm
How is risk linked to strategy?
It is both an input as risk exposures will lead to strategic decisions, and an output as strategic decisions may create risks
What will guide how an organisation balances risk and return, and the degree to which it manages risk?
The risk attitudes and preferences of the stakeholders
Internal stakeholders (2.5)
Employees
Directors
(sort of) owners/shareholders
External stakeholders (6.5)
Suppliers
Customers
Creditors
Regulators
Rating agencies
General public
(sort of) owners/shareholders
Why might shareholders not behave as risk-aversely as other stakeholders? - possibly risk-neutral or even risk-preferring (3)
Asymmetric returns - higher risk generally means higher returns
Limited liability - not required to contribute more than investment if failure
Diversification of risk - diverse portfolios means company-specific risks are mitigated
3 reasons why most shareholders will value effective risk-management
- Ethical concerns and desire to protect employees, customers, etc.
- Bankruptcy costs - Costs of and realities faced by company when entering bankruptcy means shareholders rarely get their investment stake back
- Cash-flow fluctuations - risk taking can cause great fluctuation, and stable cash flows generally produce higher profits and dividends in the long term
Why might conflicts of interest need to be managed between stakeholders (in terms of risk)?
As stakeholders may be averse to different risks or have unequal levels of risk aversion
ie. they will have different risk objectives
Example of stakeholder conflict
Employees less concerned about H&S of consumers, and vice versa
What is the new objective of risk-management if a conflict exists between stakeholder groups?
To further protect and create value by managing conflicts and increasing overall level of stakeholder satisfaction
What is a self-regulatory system of risk-management?
A group of organisations and professionals agree to set and enforce specific risk-management standards
Co-ordination and enforcement is typically manager by a trade association or institute
Key advantage to self-regulation
The regulation is agreed and enforced by those being regulated, meaning it should be appropriate and proportionate
Key disadvantage to self-regulation (2)
Hard to sustain because of limited incentives to enforce such an agreement
Punishments may be minor as an org will not want to encourage greater punishment on themselves in future
Why is information a key factor needed to ensure market efficiency?
Stakeholders need to know the types and degrees of risk that they are exposed to to make the best decisions
What is the asymmetric information problem?
Stakeholders are unlikely to have all the information needed to make an informed decision
Example of asymmetric information
Customers are unlikely to know how safe or reliable a product is before they purchase it
What sort of opportunism arises out of asymmetric information problem?
eg. in H&S of products - Orgs can exploit lack of information by making product less safe or reliable, thus saving the org money but exposing customer to unacceptable level of risk
What is the public goods problem?
In provision of public goods, orgs may make decisions that benefit them, but not the wider environment or financial system
2 market failure problems that justify risk-management regulation
- Asymmetric information problem
- Public goods problem
2 primary benefits of risk-management regulation
- Mitigating market failures
- Protecting stakeholders from consequences of excessive risk exposures
3 reasons why risk-management should not be overly regulated
- A degree of risk is an inevitable consequence or all org activity
- Excessive risk-management is rarely cost effective (high compliance costs)
- Few risks can be reduced to zero without stopping beneficial activities
