RISK MANAGEMENT

CONCEPT OF RISK
RISK MANAGEMENT

The process of measuring or assessing risk and

developing strategies to manage.
It is a systematic approach in identifying,
analyzing and controlling areas or events with
potential for causing unwanted change.
RISK
 It is the probability that some future event could adversely impact the
organization. Risk is measured in terms of probability and impact.
 Risk is Exposure to the possibility of loss, injury, or other adverse or
unwelcome circumstance; a chance or situation involving such a
possibility.
 Risk is inherent in every business, organizations and entrepreneurship
need to be willing to take risks as without risk there can be no meaningful
gain. Like stress one has to live with risk and it cannot be avoided. At
best risk can be managed or mitigated.
CLASSIFICATION OF RISKS
Systematic versus Unsystematic Risks

SYSTEMATIC RISK UNSYSTEMATIC RISK

1. It is uncontrollable by an 1. It is usually controllable by an
organization. organization.
2. It is not entirely predictable. 2. It is reasonably predictable.
3. It s usually of a macro nature. 3. It is normally micro in nature.
CLASSIFICATION OF RISKS
Systematic versus Unsystematic Risks
SYSTEMATIC RISK UNSYSTEMATIC RISK
4. It is usually affects a large number 4. If not managed, it directly affects the
of organizations operating under a individual organization first.
similar stream.
5. It cannot be fully assessed and 5. It can usually assessed well in advance
anticipated in advance in terms of with reasonable efforts and risk mitigation
timing and gravity. can be planned with proper understanding
and risk assessment techniques.
6. The example of such type of risks is 6. The example of such risk are
Interest Rate Risk, Market Risk, Compliance Risk, Credit Risk, Operational
Purchasing Power Risk Risk
CLASSIFICATION OF RISKS
Financial versus Non-Financial Risks

Financial Risk Non-Financial Risk

The risk which has some This type of risks do not usually have direct
direct financial impact on the and immediate financial impact on the
entity. This risk may be business, but the consequences are very serios
Market risk, Credit risk, and later do have significant financial impact
Liquidity risk, Operational if these risks are not controlled at the initial
Risk, Legal Risk and Country stage. This type of risk may include
Risk Business/Industry and Service Risk, Strategic
Risk, Compliance Risk. Industry Fraud Risk,
Reputation Risk, Transaction Risk and
Disaster Risk.
Types of Financial Risks
1. Market Risk. This type of risk is associated with market ups and down. It refers
to the risk of loss arising from the change/volatility in the market prices or
economic values which are the deciding factors for the pricing of the
product/financial assets.
 Interest Rate Risk.
 Currency Risk.
 Equity Risk.
 Commodity Risk
Types of Market Risks

Interest Rate Risk. The financial assets which are connected with
interest factors such as bonds/ debentures, faces the interest rate risk.
For example Interest rate risk adversely affects value of fixed
income securities. Any increase in the interest reduces the price of
bonds and debts instruments in debt market and vice - versa.
Currency Risk. The volatility in the currency rates is called the
currency risk. These risks affect the firms which have international
operations of business and the quantum of the risk depends on the
nature and extent of transactions with the external market.
Types of Market Risks

Equity Risk. It means the depreciation in one's investment due to

the change in market index. For example in the context of
securities, Beta of a stock tells us the market risk of that stock and
it is associated with the day-to-day fluctuations in the market.
Commodity Risk. This type of risk is associated with the absolute
changes in the price of the commodity. Since commodities are
physical assets, hence the prices change on account of the demand
and supply factor.
Types of Financial Risks

2. Credit Risk. When a counter party is unable or unwilling to fulfil

their contractual obligation, the credit risk arises. This type of risk is
related to the probability of default and recovery date. Its effect is
measured by cost of replacing cash flow if the other party defaults.
For example, in case of loan given by a bank to the borrower and the
borrower defaults in making payments of the installments or due
interest on the due date, is termed as credit risk.
Types of Financial Risks
3. Liquidity Risk. The liquidity risk arises due to mis-matches in the
cash flow i.e. absence of adequate funds. Liquidity is altogether
different from the word solvency. A firm may be in sound position as
per the balance sheet, but if the current assets are not in the form of
cash or near cash assets, the firm may not make payment to the
creditors which adversely affect the reputation of the firm.
The liquidity risk may be of two types, trading risk and funding
risk.
Types of Liquidity Risk
Trading Risk. It may mean the absence of the liquidity or enough
products or securities etc to actually undertake buy and sell activities
Funding Risk. It refers to inability to meet the obligations e.g.
inability to manage funds by either borrowing or the sale of
assets/securities. It arises where the balance sheet of a firm contains
illiquid financial assets which cannot be turned into cash within a very
short time.
Types of Financial Risks

4. Obsolescence Risk. In the rapid changing world, obsolescence risk

is fast emerging and unless the companies are able to cope up with
this time. The impact will be quite heavy and may lead to closure of
the units also.
Types of Financial Risks

5. Legal Risk. This risk arises when a counter party does not have the
legal or regulatory authority to engage in the transactions. It also
includes the compliance and regulatory risk like insider trading,
market manipulations, defaults and mismanagement of legal affairs.
Types of Financial Risks

6. Political Country Risk. It may be on account of declaration of

elections in the territory, area specific risk and political uncertainty.
It arises where the firm have its business operations abroad. This risk
may arise due to out-break of war between countries, imposition of
the ban on the business transaction of particular commodity/product.
Types of Non-Financial Risks

1. Business/Industry & Service Risk. It implies uncertainty

in profits or danger of loss and the events that could pose a
risk due to some unforeseen events in future, which causes
business to fail. Business risk refers to the possibility of
inadequate profits or even losses due to uncertainties e.g.
changes in tastes, preferences of consumers, strikes,
increased competition, change in government policy
Types of Non-Financial Risks
2. Strategic Risk. Business plans which have not been
developed properly and comprehensively since inception
may lead to strategic risk. For example, strategic might
arise from making poor business decisions, from the
substandard execution of decisions, from inadequate
resource allocation, or from failure to respond well to
changes in the business environment.
Types of Non-Financial Risks

3. Fraud Risk. It is perpetrated through the abuse of

systems, controls, procedures and working practices.
It may be perpetrated by an outsider or insider. Fraud
may not be usually detected immediately and thus the
detection should be planned for on a proactive basis
rather than on a reactive basis.
Types of Non-Financial Risks

4. Reputation Risk. Arises from the negative

public opinion. Such type of risk may arise
from the failure to assess and control
compliance risk and can result in harm to
existing or potential business relationships.
Types of Non-Financial Risks

5. Disaster Risk. On account of natural

calamities like floods, fire, earthquake, man-
made risks due to extensive exploitation of
land for mines activity, land escalation, risk
of failure of disaster management plans
formulated by the company.
Types of Non-Financial Risks

6. Regulatory Risk. On account of changes in

government policies and perceptions.
Especially this type of risk is associated with
food and beverages and pharmaceuticals
industries.
Types of Non-Financial Risks

7. Technology Risk. Failure of system caused

due to tampering of data access to critical
information, non availability of data and lack
of controls