We’ve all heard the phrase, “An ounce of prevention is worth a pound of cure.” This is exactly what makes understanding risk management so essential to the success of any business. The ability to identify and analyze risk, including potential losses for a company, is the first step in planning to either mitigate or transfer risk so that a business is not as exposed to loss and can continue to grow.
Without proper attention and resources devoted to risk management, a business can see its profits completely wiped out with a single incident, or equally, as devastating, slowly siphoned off over a period of time. Both scenarios have the potential to be avoided and even navigated to a company’s advantage.
The importance of understanding risk management and implementing the proper risk management plan cannot be overstated in protecting a company’s assets and its ability to continue to generate profit.
Understanding Risk Management: What Exactly is Risk Management?
Risk management is a process that first involves identifying, analyzing and prioritizing risks. Then, once the risks are evaluated, risk management focuses on coordinating company resources and efforts to minimize and plan for an unwanted event and implementing strategies to avoid or control the impact of an unfortunate event to reduce the amount of company resources spent on handling it.
While this risk mitigation definition may seem focused on only preventing negative events, risk management also involves identifying and capitalizing on opportunities for a company, which can help the company grow or continue to maintain its status in the market. In this way, risk management should not be viewed as simply preventing bad things from happening. Rather, risk management also allows a company to be in the best possible position to seize opportunities and devote the appropriate amount of resources to growing in a structured and thoughtful way.
Why Should a Business Care About Understanding Risk Management?
Regardless of the industry, it is highly unlikely that a business will not be affected by risk at some point. The ability of a business to respond quickly and efficiently to risk can be the difference between failure and success.
Perhaps the most immediate priority of a risk management plan is to ensure the safety of the company, its employees and its customers. Risk management may be used to protect the assets of the company itself, which will ensure that the company can continue to exist and provide jobs for its employees and profits for its investors and shareholders. An, even more, immediate concern of risk management is to monitor safety risks inherent in whatever goods or services the company provides to ensure that the company is not putting its customers at risk financially or physically.
Reducing costs and improving efficiency are the other immediate concerns of a risk management plan. The importance of risk management is felt in the company’s bottom line. Taking the appropriate steps to reduce risks can pay dividends just by reducing a company’s insurance premium alone. It is also worth noting that selecting the appropriate insurance coverage for a business, which involves balancing between comprehensive coverage needs and reducing the expense of insurance premiums, is a task within a good risk management program.
How Does a Company Benefit from Effective Risk Management?
It goes without saying that it is practically impossible to avoid all risks, no matter the industry. However, some threats to a business have the potential to wipe out its entire operation or even result in civil and criminal penalties. So, practically speaking, risk management can help keep a business afloat and out of legal trouble in the most extreme scenarios.
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In less dramatic situations, risk management means a company takes a proactive approach to cost reduction. By taking the long view on market trends and potential threats to a company and the industry as a whole, risk management can allow a company to take interim steps to reduce exposure in a measured, cost-sensitive way. This allows for better cash flow management and resource allocation, rather than a company having to react quickly and unexpectedly to an unplanned upset.
What is Required for Proper Risk Management in a Business?
Risk management necessarily involves the identification of risks. This includes risks to the particular business as well as the industry as a whole. Risks can include short term and long term possible threats that a company will have to respond to along with internal and external factors. This means that risk can come from within a company’s operations, such as the performance or breaches of protocol by a company’s employees, as well as from external forces, such as the market in general.
While the common risks in some industries are more readily identifiable and are the source of constant consideration in risk management strategies, some industries require a more nuanced approach to risk identification and considerably more resources devoted to scoping out risks from a variety of sources.
Not all risks are equally important. This is where the analysis of the potential impact of a risk comes into play. Risks must be assessed according to both their potential impact on the company as well as the likelihood that the particular threat will become a reality. Another element of this assessment involves the potential frequency of a threat affecting the company. Careful consideration is needed in the allocation of company resources to prepare for risks because some risks require more constant attention and preventative attention than others.
Devising a plan to mitigate risks once they occur is part of every good risk management program (pdf). In addition to taking steps to prevent the realization of threats to a company, risk management requires a concrete plan of action for handling the impact of a risk once it materializes. This is where a company creates and implements the most efficient and cost-effective plan for handling a particular crisis.
Although brainstorming a comprehensive plan is a good first step, the plan will be meaningless when it is needed most if company leadership and employees are not educated and prepared to implement the plan when needed. An investment in employee training for these scenarios can prevent serious blunders at a time of crisis for the company.
Perhaps the most crucial aspect of planning for risk management is ensuring that all of the effective processes are maintained once they are devised and implemented. Risk management should not be centered around the work of a single employee without proper measures in place for succession planning so that all of the investment in risk management is not lost when an employee leaves the company. Maintaining risk management also requires a system of internal checks for the company so that risk management is a part of daily operations and is not only considered when it is convenient. If risk management is simply an afterthought for a company, in a time of crisis, this unfortunately may be too little too late.
No matter the industry or the size of the company, the importance of understanding risk management plan should not be overlooked. For the survival of a company regardless of market trends or external factors, effective risk management should be a constant, primary concern for both company leadership and employees.
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