Identifying and Managing Risk

BUS 401 - Principles of Finance
, 2017

Identifying and Managing Risk
What is risk management? R isk management is " the practice of defining the risk level a firm 's desires, identifying the risk level a firm currently has, and using derivatives or other financial instruments to adjust the actual level of risk to the desired level of risk " (Labovic & Damnjanovic, 2008) . Kallman ( 2008) says it is important to manage risk associated with the aspects generating values. There are techniques that can be applied and used to create value for the business and its investors . Goss (2017) talks about managing model risk because of how it can significantly affect financial statements of the company . The two authors discuss techniques that help with risk management but in different areas of business and in different ways .
One of the few constants in business is that things are always changing. Financial managers must be aware of this fact and must embrace it if they want to succeed in today's financial business world. They must constantly be on the lookout for opportunities and threats. Kallman (2008) discusses oppo rtunities and threats by saying:
…opportunities are causes of speculative gains; threats are perils that may cause pure risk losses. For both opportunities and threats, the first decision is whether to accept or avoid the situation. Avoidance results in the organization not having the chance of any gains or losses. If a cost-benefit analysis shows the down side is just too large for the organization's risk tolerance, then avoidance is a wise choice. If the situations falls within the organizations risk appetite or tolerance, however, then acceptance is the appropriate choice.
By assessing the opportunities and threats, an organization's risk managers strive toward accomplishing the company' s business model by minimizing obstacles to their success. The decision is made about opportunities and threats through a process of analysis and evaluation, as well as the environment, both internal and external, organizational goals, and possible risks associated with the opportunity or threat , both probable and improbable .
It is important for an organization to incorporate the process of examining opportunities and threats so that they can learn to determine which will be best for the company and what will end up being a loss so they can prevent it from doing irreparable harm to the company's reputation and financial structure. "By decreasing the likelihood that losses will occur, the cost of administration and loss financing are reduced, desired outcomes are more stable, and the organization is more assured of reaching the desired goals" (Kallman, 2008) . This is a completely accurate assessment in my opinion. If one seeks out information regarding a possible opportunity, only to learn it has financial problems that could cause losses later down the road, it is best to avoid that investment. By examining information carefully, a risk manager can bring high value success to the business.
Some companies put together a business model in order to determine what they deem acceptable in risk. The second expert I have chosen to discuss in managing financial risk, Dr. Clifford Goss, talks about m odel risk management (2017) . " The risk of financial loss, erroneous financial statements, inappropriate decisions, or damaged organizational reputation due to poorly built, used, or controlled models is one that many organizations face regardless of their industry, size, or ownership structure " (Goss, 2017).
Goss (2017) talks about how many businesses today are using models to help facilitate the decision-making process. There can be models within the business model. However, all of these models have to be managed and assessed for risk. This is where I believe Kallman's assessment of opportunities and threats comes into play. A risk manager will have to assess each business model to determine if it will be suitable or not before proceeding to the next step. These models can be used to determine valuation, loan decisions, a way to determine inventory management, reserving, acquisitions, customer's behavior as well as many other financial and non-financial needs. "Model risk management (MRM) is a branch of risk management that addresses these concerns. It is a structured