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Introduction to the World of Risk in the Modern Context

By Michael Vincent

30 April, 2007

Have you wondered why the words ‘risk management’ are heard so widely today?  Have you considered what can be achieved with an understanding of the term?  Indeed, is the term used or misused in today’s business world?

As Peter Bernstein showed in his history of risk, Against the Gods, risk became an acceptable term when the vast majority of people decided they had a duty to and could control their own future, and along with that acceptance came the need to manage risk.  Risk is intrinsically a human activity.  Thus began the struggle to identify and mange risk.  Along the way risk has come to be many things to many people: from finance; to insurance; to occupational health and safety; to engineering tolerances; and all points in-between.

There is no single definition of risk.  It is defined according to the general approach of the discipline in which the individual has been educated.  This has lead to a misconception of the place of risk management within the business environment of the 21st century.  Risk broadly can be treated as the management of uncertainty that has the potential for a loss or the attainment of an opportunity.

Even though many different risks are now recognised and governments are attempting to regulate or control the causes of danger, there is a requirement for business to pursue or embrace risk in order to prosper in today’s’ competitive world.  In the past, firms had the luxury of employing large numbers of people in middle management positions.  These managers ensured the needs and wants of an organisation’s functions: from production, to quality control, to administration and management.  By having a large management structure that was used for checking and ensuring compliance, risk was contained and controlled in a simpler and more structured world.
The winds of change started to sweep the world in the early 80s, and continue to this day.  Competitiveness, efficiency and productivity have become the by-words of today’s business environment.  Any country or business that ignores the pressures generated by the forces of change is only delaying the inevitable.

One of the more significant outcomes of the change process over the last two decades is the virtual elimination of the middle management ranks that had grown to an enormous size since the end of the Second World War.  Without middle management, how can a business effectively be controlled?  That is the question that must be answered for business to survive and prosper into the future.

Risk management is concerned with three overarching factors that combine to ensure protection for a company, these are:

1.    Risk identification
2.    Risk mitigation
3.    Risk financing

Risk is a dynamic concept that requires identification, analysis and understanding.  It requires not just a professional and analytical approach, but also imagination and innovation.
Risk, as far as many directors and senior managers are concerned, is the cost of insurance and no more.  The traditional insurance approach is no longer valid as the only alternative to managing and financing risk.  Boards of Directors are becoming increasingly aware that they must become involved in the “big picture” in terms of risk management or face sanctions that threaten their licence to operate.  In other words the management of risk is evolving as the past corporate memory of the organisation and the future sustainable licence to operate.
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If management can control risks and their cost in a more efficient manner then the organisation will suffer fewer (potential) losses which will increase the benefits or profits to be gained from operations.  We are in a difficult business environment.  In the early 1990’s corporations experienced difficulties in maintaining profitability in a recessive environment and traditional management practices have been under review in an endeavour to introduce more efficient ways of managing the underlying business.  This environment has impacted heavily upon the financial area where efficiencies in cost control have been sought.  Past philosophies such as:
•    insure everything;
•    reactive rather than proactive;
•    don’t worry about the cost because we have adequate financial resources;
•    ignorance
The above practices are still endemic in the market place; they can no longer be seen as acceptable in the global marketplace of the 21st century.  Australia must change its practices and accept that risk is a strategic opportunity and not just a process buried within the organisation.

There is now general acceptance that the corporation must manage both opportunity and risk in a planned way.  This is the future value proposition of embracing the management of risk from a director viewpoint.