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Back to The Basics
Traditionally, risk has been viewed as negative consequences and unfavorable events. The consideration of risk from the negative perspective is restrictive and misleading for two main reasons. First, uncertainty may manifest in either negative (threat) or positive (opportunity) form, or both; and second, the way a risk is perceived influences the manner in which it is handled. Managing risks from a negative perspective may result to complete omission of opportunities (benefits/gains) in the event being considered.
The risk definition depends on and is affected by the risk observer, hence the reason why perspectives differ. Moreover, risk sometimes entails some economic benefits, as firms may derive considerable gains by taking risk. Business grows through greater risk taking.
So what is risk? Well, that depends on your perspective. But in simple terms, risk is the uncertainty that might change an expected outcome. Risk management is about being prepared to take action against risk.
Risk can be good, and of course, can also be bad, and thatâ€™s mainly how we think of risk. In many Nigerian languages risk translates as danger or havoc.
There is also a sense sometimes, when we are talking about risk, that we might confuse it with likelihood, chance or probability. Like saying that there is a risk of thunder tonight, or that there is a risk of the stock market falling.
In the risk industry, risk is couched in terms of a combination of likelihood and impact, or consequence. So a highly likely and high impact risk is a big risk. Most big risks that make the news tend to be big in impact but small in likelihood.
Was the risk of a recession in the Nigerian economy due to a drop in oil prices (high impact) considered low because it was a low likelihood?
Why do we drive cars knowing that the accident rate is high? We think that itâ€™s unlikely that the impact will be serious, or it wonâ€™t happen to us, or can it?
We operate in an uncertain world. Whenever we try to achieve an objective, thereâ€™s always the chance that things wonâ€™t go according to plan. Every step has an element of risk that needs to be managed and every outcome is uncertain.
Uncertainty (or lack of certainty) is a state or condition that involves a deficiency of information, and leads to inadequate or incomplete knowledge or understanding. In the context of risk management, uncertainty exists whenever the knowledge or understanding of an event, consequence, or likelihood is inadequate or incomplete.
Here are my ten rules about risk:
- Lifeâ€™s uncertain â€“ we donâ€™t always know what will happen.
- Stuff happens. The overall pattern of events can often be predicted surprisingly well but not the detail.
- Rare events are more common than we think. There are so many possible rare events we know some will happen but not which ones.
- Runs of good/bad luck happen. Positive outcomes might be as a result of good risk management, or it might be just good luck.
- The past is past. Things change. Should we rely entirely on predictive models that rely entirely on past data to predict the future?
- Should we be concerned? How does the risk event relate to our circumstances?
- Can we do anything about it?
- Whatâ€™s in it for them? Reflect on who is bringing us the news about the risk. Is it in their interest to create fear and uncertainty? Whatâ€™s in it for them? Itâ€™s easy to jump to conclusions.
- What are we not being told? The full story is about the opportunities as well as the threats. Whilst we may be being presented with realms of doom and gloom scenarios, what are the opportunities?
- Size matters. A big increase in a very small risk may not be important â€“ twice almost-nothing is still almost-nothing. So if we are presented with statistics that state that the threat of a risk event is increased by say 50%, is that 50% of a very small number or of a significant number?
This is why risk management is becoming more and more important â€“ itâ€™s about dealing with rising uncertainty.
According to Bloomberg, eight out of 10 entrepreneurs who start businesses fail within the first 18 months. A whopping Â 80% crash and burn.
But why? What can we learn from the colossal amount of failure with small business that we can apply to our own business aspirations?
In my 25 plus years in banking and later consulting, and through my interactions with thousands of entrepreneurs, I have observed that the common thread that runs through business failures and success boils down to the management of opportunities and threats â€“ risk management.
And yes, at surface level the primary reason businesses fail is they simply run out of cash. But trust me — the cracks in the foundation start well before the brutal day of financial collapse.
This column will provide answers and demonstrate how to get clarity on complicated situations, how to decide between options, but most of all how to embrace opportunities and to minimise threats.
Life is about taking chances and making difficult choices. Risk management provides the framework to enable difficult decisions to be made in a managed and structured way. We call this risk based decision-making.
- Mbonu, FERP, CIRM(UK), HCIB, MsRM (Stern), studied Engineering, is an experienced Banker and Enterprise Risk Management professional. Earned a post graduate degree in Risk Management from New York University Stern School of Business, and is a member of the Institute of Risk Management -UK. Can be reached on 09092092046 (SMS Only); email: email@example.com