This post discusses enterprise and business risk control techniques. In this post, you will understand the meaning of business and enterprise risk management, the benefits of enterprise risk management, strategies for controlling business risks, goals of risk control, risk management techniques, and risk control techniques.

WHAT IS A RISK?

Risk is the uncertainty of financial loss. A risk is anything that may affect the achievement of an organisation’s objectives. It is the uncertainty that surrounds future events and outcomes. Risk is the expression of the likelihood and impact of an event with the potential to influence the achievement of an organisation’s objectives. Risk (uncertainty) may affect the accomplishment of the goals. It is, therefore, beneficial for enterprises or businesses to manage their risk exposures.

BUSINESS RISKS

Business risk is a broad category. Business risk refers to a threat to the company’s ability to achieve its objectives and financial goals. It applies to any event or circumstance that has the potential to prevent you from achieving business goals or objectives. In business, risk means that a company’s or an organisation’s plans may turn out differently than initially planned or may not meet its target or achieve its goals. There are several business risk control techniques.

Business risk can be internal (e.g., a firm’s strategy) or external (e.g., the global economy). All types of risks should not be managed or treated similarly. A business organisation should understand the kind of risk it faces internally (within the firm) and externally (outside the firm). Risk evaluation enables a firm to determine the importance of risks to the business and decide to accept a specific risk or take action to prevent or minimise the risk. A company should not manage or treat all risks in the same way.

WHAT IS ENTERPRISE RISK MANAGEMENT?

Businesses are exposed to risk because the risk is integral to business operations. Hence, businesses must manage risks effectively to ensure good performance and growth. Business or enterprise risk management is a crucial business practice that helps businesses identify, evaluate, track, and mitigate potential risks that may impact their operations and activities.

Risk management is often practised by businesses of all sizes, directly or indirectly. Though, some firms need to manage their risk more effectively. Small firms usually manage their risks informally, but large firms should adopt a risk management process to suit their operations. Enterprise risk management is an holistic and enterprise-wide risk management framework.

BENEFITS OF ENTERPRISE RISK MANAGEMENT

Enterprise risk management helps individuals and businesses achieve personal and business successes. Enterprise risk management also enables a business to: 

1. Make informed decisions, plan and prioritise,

2. Allocate capital and resources appropriately, 

3. Prevent wastage of time and effort in fire-fighting and addressing potential problems,

4. Discover opportunities, 

5. Reduce business liability, 

6. Foresee what may go wrong, pre-empt, prevent, or react promptly to risks, and 

7. Improve outcomes of business performance. 

WHAT IS RISK CONTROL?

Risk control is a management method whereby firms evaluate their potential losses and reduce or eliminate such threats. Risk control is a crucial stage of a risk management process. Business risk control techniques help businesses to minimise their risk. Organisations can employ several business risk control techniques to manage their risk exposure. The risk control stage focus on the feasibility of risk management alternatives. 

Business risk control techniques help a firm improve its risk management framework. Business risk control techniques facilitate the subsequent stages of selecting and implementing the appropriate risk management techniques. The essence of risk control is to reduce risk to an acceptable level and prioritise resources based on comparative analysis. A firm must determine the most appropriate risk management techniques to address the organisation’s loss exposures to ensure a successful risk management system.

IMPORTANCE OF RISK CONTROL

The essence of risk control is to ensure: 

1. Effective and efficient implementation of risk control measures, 

2. Compliance with legal requirements, 

3. That business can retain continuity during and after a loss, 

4. Effective health and safety system, and 

5. Risk is reduced to an acceptable level, and prioritise resources based on comparative analysis. 

BUSINESS RISK CONTROL TECHNIQUES

Risk management techniques include risk control and risk financing. This video focused mainly on risk control. Risk control focuses on minimising the risk of loss to which a firm is exposed. Business risk control techniques are integral to risk management techniques. Risk control is a conscious act or decision not to act that reduces the frequency and severity of losses or makes losses more predictable. An organisation can use risk control techniques to reduce the frequency and severity of loss, thereby making losses more predictable. 

Business risk control techniques are vital tools in managing business risks. Risk control consists of techniques designed to minimise an organisation’s risk exposure at the least possible costs. Business risk control techniques include risk avoidance and other approaches to reduce risk through loss prevention and control.

There are six broad categories of business risk control techniques, including: 

1) Avoidance, 

2) Loss prevention, 

3) Loss reduction,

4) Separation, 

5) Duplication, and 

6) Diversification. 

Multiple risk control measures or a combination of two or more risk control techniques can be used by an organisation based on its organisational goals and objectives. Now, let us discuss the six risk control measures one after the other.

1. AVOIDANCE

Avoidance is a risk control technique that involves discontinuing or not undertaking any activity, thereby eliminating a future loss from the action. Risk avoidance is aimed at preventing a risk from occurring. Risk is avoided when an organisation refuses to accept the risk.

2. LOSS PREVENTION

Loss prevention means reducing the frequency of claims from activities that cannot be eliminated and the organisation chooses to continue. The primary purpose of a loss prevention technique is to reduce the frequency and likelihood of a particular loss. 

3. LOSS REDUCTION

Loss reduction focuses on preventing the occurrence of a loss – i.e., minimising the frequency of the occurrence of a loss. The primary aim of a loss reduction technique is to reduce the severity and cost of a particular loss. It is common to distinguish between efforts to prevent losses from occurring and those aimed at minimising the severity of loss if it occurs. Risk reduction consists of techniques designed to reduce the likelihood of loss and the potential severity of those losses if they occur. These techniques are known as loss prevention and loss control techniques. 

4. SEPARATION

Separation is a risk control technique that involves dispersing critical assets. Separation entails the division of a single asset into two or more. The separation technique ensures that if something catastrophic occurs at one location, the impact on a business is limited to only the assets at that location. On the other hand, if all assets were at that location, the company would face a much more severe challenge. 

5. DUPLICATION

Duplication means having a backup for critical systems or operations. Duplication entails the creation of a backup plan. Adopting the duplication technique means relying on spare or duplicates only if assets or activities suffer a loss.

6. DIVERSIFICATION

Diversification is a risk control technique to promote the allocation of business resources to create multiple lines of business that offer a variety of products and services in different industries. 

IMPLICATIONS OF DIVERSIFICATION ON A BUSINESS ORGANISATION

Diversifiable risk does not affect the opportunity cost of capital. This is because diversifiable risk and associated costs can be eliminated through diversification. With diversification, a significant revenue loss from one line of business will not cause irreparable harm to the firms.

The risk investors can stop by holding a diversified portfolio is called diversifiable risk. A risk that cannot be eliminated by diversification is called a non-diversifiable risk. Non-diversifiable risk increases the opportunity cost of capital. Diversification cannot eliminate non-diversifiable risk; hence, the fund must be set aside to manage associated costs.

FORMS OF DIVERSIFICATION

There are two primary forms of diversification: 

1. Diversification of operations, and 

2. Internal diversification. 

DIVERSIFICATION OF OPERATIONS

Businesses can diversify their operations by reducing their demand for insurance and hedging using derivatives. Companies can diversify their operations by acquiring or investing in other firms or adopting new projects whose cash flows are not perfectly correlated with their other cash flows. Even with the benefits of risk reduction, modern acquisitions are usually only undertaken for diversification. 

INTERNAL DIVERSIFICATION

Functions and responsibilities can be reviewed to merge two or more operations, units and departments to reduce operational complexity and cost. Synergy exists when the combination of the parts has a more excellent value than the sum of the individual values, thereby reducing the firm’s risks. Besides insurance and hedging arrangements, internal diversification allows firms to reduce the variability of cash flows.

IMPLICATIONS OF RISK CONTROL TECHNIQUES

Having discussed the six categories of risk control techniques (i.e., avoidance, loss prevention, loss reduction, separation, duplication, and diversification), let us consider the implications of their risk control techniques. 

1. Avoidance and loss prevention aimed to reduce the frequency of losses.

2. Separation, duplication, and diversification aimed to make losses more predictable.

3. Loss reduction, separation, duplication, and diversification aimed to reduce loss severity. 

COMBINATION OF RISK CONTROL TECHNIQUES

A combination of risk control techniques means using multiple measures to manage firms’ risk exposures. Combining the six risk control techniques, i.e., avoidance, loss prevention, loss reduction, separation, duplication, and diversification, is possible. All six risk control techniques (except avoidance) can be combined with other risk management techniques.

See the full video on Enterprise and Business Risk Control Techniques: https://youtu.be/8UUhJntewII