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Risk

Insight: The Business of Risk

by Randall Craig on March 7, 2017

Filed in: Blog, Business Development, Make It Happen Tipsheet, Risk

Tagged as: , , ,

What if something goes wrong?

Most people are not keen on taking risks. A small faction of people are definitely risk–takers. Whether you are one or the other, the decisions you make often boil down to one ratio: The Risk-return equation.

We spend a lot of time on Return, and a lot of time on ROI, but surprisingly little on Risk – which is the main topic of this segment.

Probably the first thing we should do is define risk. Here’s what the dictionary says: Exposure to the chance of injury or loss. From my perspective, this is a bit narrow. I’d like to widen it to include business risks, financial risks, project, personal – just about everything. And, I’d also like to look at the source of risks, but more on this later.

Let’s start in the world of investments, and examine a concept called “variability of returns”. This concept refers to the fact that most investments oscillate up and down in value. The more frequent the variability, and the more dramatic the swings up or down, the greater the risk that you’ll be exposed to loss. Clearly, the fewer the swings, the “less” risky the investment.

The challenge for investors, is to determine the “risk profile” (of their client?), and only invest securities that match. So if you are risk averse, you might purchase a Guaranteed Investment Certificate, which has zero variability. If you can handle risk, you might purchase a number of stocks or mutual funds. Of course, when you do buy the stocks, you’ll want to purchase when their value is at the lowest point of the cycle, and sell when they’re at the peak of the cycle.

Another way to mitigate this type of risk is to hold the security for a longer term: 10-15-20 years. Over time, the shorter-term variability means less and less, especially relative to the longer-term growth of the stock.

Finally, a third strategy to reduce risk is to hold a number of stocks (statisticians will tell you 30+ is the magic number) as this diversification means that any losses with one stock will be cancelled out with the gains in another. With variability cancelled out, then the portfolio is left only with the LT gains.

Let’s go back to the Guaranteed Investment Certificate – seems like it’s zero-risk? Think again: the GIC has huge inflation risk. Specifically, what happens to the purchasing power of the dollar at the end of the term? If there is inflation, the dollars from the GIC are worth less, even though there is a “return” – the interest payment. Contrast this with stocks, where since they represent a real asset, if the value of that asset increases with inflation, then the share price should reflect this.

Several other investment-related risks:

  • Liquidity risk: The possibility that you cannot sell your shares when you would want to. For example, when there are no buyers.
  • Credit risk: The possibility that a debtor doesn’t meet their debt repayment obligations.
  • Currency risk: The possibility that while the investment is doing well, the exchange rates move in the wrong direction, and the value of your investment slides.

This last risk-currency risk – something that happens all of the time with businesses doing international trade. Let’s say, for example, that you lend a big contract in Euros, selling one million Euro’s worth of your widgets, for delivery in six months. The deal is profitable at today’s exchange rate, but if the dollar/euro exchange rate moves in the wrong direction, you could lose your shirt. Using currency futures and forwards, you can reduce the risk, almost to zero. Essentially, the way it works is that if currency rates swing badly, the value of the financial instruments increase. If the exchange rates move in your favour, then the value of the financial instruments decrease: you’re safe, but at a slight cost of setting up the hedge. From a business perspective, there are many risks:

  • Risks that a client doesn’t pay
  • Risk of physical damage
  • Liability in case of injury
  • Liability for negligent business decisions

Each of these (and others) can be addressed in two ways:

(1) To use business process to reduce risk, or (2) To purchase insurance to make you “whole” in case the risk materializes.

For example, to reduce the risk that a client doesn’t pay, a business might do the following:

  1. Only sell on credit to customers with good credit scores – credit history.
  2. Include clear contact language spelling out payment obligation, and what would happen if payment isn’t made.
  3. Invoice in a timely manner, with clear, understandable language.
  4. Etc.

The use of insurance to protect against risk materializing, should really be the second strategy – not the first. There are several parts to an insurance contract: premium, the risks, the payment amounts, and the payment conditions. The premium is how much you pay, and is completely dependent on the other three components. The “risks” are what you are insuring against. The payment amount is how much you get if the risk occurs. And the payment conditions are the fine print. It may be easier to work through an example using a “personal” risk. Most homeowners carry insurance on their home, insuring against fire, flood, and several other risks. The payment amount will be capped by the insurance company at the value of the house: you cannot get $3 million insurance for a $600K house. The payment conditions might specify a $1000 deductible on any claim, and may also specify the maximum number of claims per year. Based on this, the insurer will tell you the premium you will need to pay. Lower deductibles will mean higher premium. If you have a fire alarm with monitoring, your premiums may be lower, because houses with alarms can be saved, more so that houses without them.

There are many other risks…

  • IT Risks: This refers to the risk of technology being compromised, or data being compromised In the medical world
  • Infection Risk: This is the risk that infection will spread to others In the project management world
  • Project Risk: This refers to the risk that a project won’t be delivered on time or on budget

Some other observations:

1. The downside – the risk – in large enterprises/ projects/ investments – is inherently larger than for smaller initiatives, for two reasons:

  • In absolute terms, a project failure or disastrous investment can wipe out whole companies and individuals
    • To mitigate against this, many will syndicate – or spread – risk across many people or many companies
  • Moving parts issue: large initiatives have lots of “moving parts” – schedules/ people/ companies – if any one part falls off the track, then the whole thing is impacted
    • To address this, project managers will embed buffer time, redundant/ multiple suppliers, independent project reviews, frequent milestones, and program management oversight

2. There is a relationship between “fear” and risk. As we, as individuals, become afraid – or rather emotional – we perceive risk differently. The over confident will minimize the real risk. The afraid may ignore it. The greedy may minimize it, etc. The uncertain may be paralyzed by it, and so on.

  • To address this issue requires you to be self-aware. And asking others for their views provides a second perspective as well.

 

Note: The Make It Happen Tipsheet is also available by email. Go to www.RandallCraig.com to register.

 

Randall Craig

@RandallCraig (follow me)
www.RandallCraig.com
:  Professional credentials site

www.108ideaspace.com: Web strategy, technology, and development
www.ProfessionallySpeakingTV.com
:  Interviews with the nation’s thought-leaders

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Five Steps to Reduce Risk

by Randall Craig on January 13, 2017

Filed in: Blog, Make It Happen Tipsheet, Risk

Tagged as: ,

Are you keen on risk?  Do you seek it out?  Most people and organizations don’t – and for good reason.  Yet risk is not necessarily bad: it is part of the risk-return equation; it identifies potential opportunity… and exposure.

What is bad is unnecessary risk.  This simple framework can help:

Step One: Identify all of the potential risks. (Including the risk of non-action). This is a brainstorm that should consider all of the potential problems that might occur.

Step Two: Mitigation strategies. What can be done to reduce the chance that each risk might occur? What changes to process or methodology? To the people involved? To the technology? To the terms and conditions?

Step Three: Monitoring. Often it is easier to reduce or remove a risk if it is identified earlier in a process than later. Define – up front – how the initiative will be monitored, and who will be monitoring, and how it will be reported.

Step Four: Disaster planning. For each of the identified potential risks, how will each be handled if they were to come to pass? A useful question to ask, for each risk, is “what is the worst that can happen?” Having contingency plans in place helps the business survive with minimum disruption. As should be obvious, when disaster happens, most people are in “panic mode”, so having done the thinking beforehand is invaluable.

Step Five: Insurance. Many risks can be insured against – often at a surprisingly low cost.

These five steps make a lot of sense, but when considering risks – most people and businesses – go in the opposite order, starting with insurance, then disaster planning, and maybe, just maybe, monitoring. Most don’t consider mitigation strategies, and ignore step one, identification, completely. Doing it the right way means that you’re planning for less ominous disasters, and less costly insurance.

This week’s action plan:  Risk is everywhere – from operational, to financial, to legal, and so on.  Because digital is usually newer for most organizations, this week, focus there.  (More on digital risk management here:  Insight: 34 Social Media RisksViewpoint: Risky Businessand Identifying and reducing Facebook risks.)

Note: The Make It Happen Tipsheet is also available by email. Go to www.RandallCraig.com to register.

Randall Craig

@RandallCraig (follow me)
www.RandallCraig.com
:  Professional credentials site

www.108ideaspace.com: Web strategy, technology, and development
www.ProfessionallySpeakingTV.com
:  Interviews with the nation’s thought-leaders

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Facebook as a Leadership Tool – You Be the Judge

by Randall Craig April 1, 2016

For many individuals, Facebook is a way to connect with friends, family, and just possibly, play a few games. For professional marketers, Facebook is a way to grow the brand, nurture a community of interest, and just possibly, sell. But for senior leaders, Facebook might have an even more important role – and one that […]

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Viewpoint: The End of Twitter?

by Randall Craig March 25, 2016

Here’s a not-so-bold prediction: Twitter is in its death throes. It won’t be around in just a few short years. And when this happens, there will be no shortage of pundits who: “saw it all coming”, or perhaps “Twitter is dead – long live Twitter!” It wouldn’t be the first Social Media death. Consider those who […]

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Identity theft and email spoofing

by Randall Craig November 13, 2015

Think your identity is secure?  Think again – it isn’t. Consider this email that a colleague recently received from “me”: Hello Monty, How are u doing? I will like you to handle an International bank transfers for me with some other few transactions today but first,let me know the required information needed to process an international […]

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Identifying and reducing Facebook risks

by Randall Craig October 23, 2015

While many people enjoy Facebook for personal use (connections to family and friends, posting photos, playing games), does it really have a role in business? Whether the answer is yes or no, one thing is certain: Facebook represents a risk vector that must be considered.  In no particular order, here are five risks to consider – […]

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Insight: 34 Social Media Risks

by Randall Craig May 8, 2015

Most leaders are not aware of the range of risks that lurk behind the shiny pull of many Social Media sites and activities.  Many can be mitigated if identified in the planning stages, through training, policy, or through changes of internal process. Monitoring can catch others; early detection can lessen their impact. Finally, some risks […]

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LinkedIn Connection Policies

by Randall Craig April 10, 2015

Must you be everyone’s friend?  Or perhaps from a practical perspective, must you accept everyone’s LinkedIn connection request?  The answer for most people, and for many reasons, is a resounding no. It is true that accepting a connection request yields numerous benefits, particularly around increased access and transparency: More of the data on your connection’s […]

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Social Media Slimming Down: Costly or Gone

by Randall Craig April 25, 2014

There is no question that LinkedIn is one of the most powerful networking platforms around. It connects, credentializes, and recruits. It provides a glimpse into the professional lives of those we know, and those we don’t. But it has been providing less, and less, and less. Consider the following: LinkedIn answers – gone LinkedIn polls […]

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Protecting your Digital Cargo

by Randall Craig August 2, 2013

Every organization owns intellectual property: in fact, this recorded knowledge is often key evidence of expertise, capability, and fit. So if it is that valuable, how do you protect it from being stolen? Before answering that question, it is useful to distinguish between content that you want to be widely distributed, and content that is […]

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