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CHAPTER 1

INTRODUCTION

Risk management is the identification, assessment, and prioritization

of risks (defined in ISO 31000 as the effect of uncertainty on objectives,

whether positive or negative) followed by coordinated and economical

application of resources to minimize, monitor, and control the probability

and/or impact of unfortunate events or to maximize the realization of

opportunities. Risks can come from uncertainty in financial markets, project

failures, legal liabilities, credit risk, accidents, natural causes and disasters as

well as deliberate attacks from an adversary. Several risk management

standards have been developed including the Project Management Institute,

the National Institute of Science and Technology, actuarial societies, and ISO

standards. Methods, definitions and goals vary widely according to whether the

risk management method is in the context of project management,

security, engineering, industrial processes, financial portfolios, actuarial

assessments, or public health and safety.

The strategies to manage risk include transferring the risk to another party,

avoiding the risk, reducing the negative effect of the risk, and accepting some

or all of the consequences of a particular risk.

Certain aspects of many of the risk management standards have come under

criticism for having no measurable improvement on risk even though the

confidence in estimates and decisions increase.

Risk management, a prioritization process is followed whereby the risks with

the greatest loss and the greatest probability of occurring are handled first, and

risks with lower probability of occurrence and lower loss are handled in

descending order. In practice the process can be very difficult, and balancing

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between risks with a high probability of occurrence but lower loss versus a risk

with high loss but lower probability of occurrence can often be mishandled.

Intangible risk management identifies a new type of a risk that has a 100%

probability of occurring but is ignored by the organization due to a lack of

identification ability. For example, when deficient knowledge is applied to a

situation, a knowledge risk materializes. Relationship risk appears when

ineffective collaboration occurs. Process-engagement risk may be an issue

when ineffective operational procedures are applied. These risks directly

reduce the productivity of knowledge workers, decrease cost effectiveness,

profitability, service, quality, reputation, brand value, and earnings quality.

Intangible risk management allows risk management to create immediate value

from the identification and reduction of risks that reduce productivity.

Risk management also faces difficulties in allocating resources. This is the idea

of opportunity cost. Resources spent on risk management could have been

spent on more profitable activities. Again, ideal risk management minimizes

spending and minimizes the negative effects of risks.

In the current volatile markets at the beginning of the new millennium, where

newspaper headlines inform us how much money has been wiped off the stock

market in a bad day or lost in the bankruptcy of a company, risk management is

a key phrase. But what do we mean by risk management and why are

regulators so concerned with this topic? Risk management is the application of

analysis techniques and the definition of measures to quantify the amount of

financial loss (or gain) an organization is exposed to, when certain unexpected

and random changes and events occur. These events range from changes in

observable or derivable market data (such as prices, or price volatility), process

related failures, or credit (payment default type) events. Risk is therefore all

about uncertain rather than definite outcomes. This uncertainty is not an

undesirable thing. It is, however, important that the organization is aware of the

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impact of any outcomes that may occur and their implication for its

profitability. For these risk measures or metrics to be of use, the calculated

risks and actual losses arising should correlate. If this is not the case, the

information on which the risk analysis is based, or the analysis itself, is either

incorrect or inac- curate and must be rectified for the information to be of use.

Even where it is thought that the risks are well understood, the risk manager

needs to be constantly looking for previously unidentified risks, or inherent

assumptions and failings in the calculation and management of those risks.

This is especially true when these risks may only become

Evident in extreme market conditions. If these risks are not identified and

controlled, the organization is likely to suffer the same fate as that of Long

Term Capital Management (LTCM), the US hedge fund that came close to

financial collapse due to unexpected market events and behaviour in 1998.1

Financial markets enable participants to raise capital and exchange risks, so

that one participant’s risk becomes another’s potential reward or offsets a risk

they already have. Market participants then structure and trade these risks so as

to either remove (that is, hedge) or take on additional risk in return for a given

benefit or expected return; this latter activity is known as speculating. Risk may

also be retained or additional risk taken on if there is a belief that the market is

mispricing the cost of taking on this risk. This activity is known as relative

value or richness/cheapness analysis and can have varying levels of

sophistication. The aim of this trading strategy is to try to benefit from any

mispricing by buying or selling the instruments involved on the assumption

that the market will correctly price them in the future (resulting in a greater

than expected return). If these mispricing result in a transaction which leaves

no residual risk but rather a guaranteed return or profit, then this is called

arbitraging. Arbitraging can also cause (through variations in supply and

demand resulting in changes in prices) the mispricing to disappear and so plays

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a vital role in the financial markets in ensuring different financial instruments

are fairly priced. The brokers or intermediaries in this process earn commission

by linking the two sides of a transaction together, exposing themselves to the

minimum level of indirect risk while participating in the process. Market

makers, where they exist in certain financial markets, add liquidity to the

market by always being willing to either buy or sell a given financial

instrument. These market participants are all taking different risks and making

profits based on their unique business model. For example, market makers will

try to maintain a relatively flat trading book with limited downside risk, but

will make their profit from the bid/ask spread (the difference between the price

financial instruments are bought and sold at). As a result, the participants in

financial markets all have unique definitions and appetites for risk and require

different tools to manage it. This explains why asset managers, hedge funds,

corporate treasury departments and investment banks all require different tools

and information to manage and control their risk profile while supporting their

business model. It is therefore difficult to provide a ‘one size fits all’ approach

to risk management. In particular, even within investment banks, each trading

style results in its own unique risks that may differ greatly from those of its

competitors.

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RISK MANAGEMENT SYSTEMS

Directly or indirectly, people will only take on additional risk if they

believe they can profit from it. However, no one will knowingly take on risks

that could (in the event of probable market events) result in the destruction of

the organization. It is this systematic risk that regulatory authorities focus on,

ensuring that the failure of any one financial institution does not result in a

domino effect that causes the entire financial system to collapse. The

importance of risk measurement in this process cannot be underestimated. It is

only once risks can be measured that they can be managed and controlled. The

role of technology in risk management cannot be overstated. More complex

organizational processes and financial instruments, together with rapidly

changing external market conditions, have led to the requirement for more

advanced models and faster computers to ensure all the risks are captured,

modelled and understood in a timely manner. Even when trading simple

financial instruments, the number of positions (or net transactions) and their

different characteristics require complex visualization and reporting tools in

order to ensure that there are no excessive concentrations or unexpected

correlated exposures. In the past, the unique requirements of an organization,

its IT environment and source of competitive advantage have led to the

assumption that unique solutions and sets of tools are required to manage risk.

Such ground-up approaches have had a high likelihood of failure, with

everything from process to underlying systems up for redevelopment.

Consolidation in the financial industry, together with convergence in opinions

and approaches, has however shown that this may no longer be the case.

Although the context of this problem (whether technological, business model,

organizational structure or political) is still often unique, the general core

concepts and development approaches are becoming more standardized. As a

result, the time is fast approaching for financial institutions to concentrate on

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what is unique to them and leverage what is now commonly accepted as

generic or best practice in the industry. Much of the functionality required to

create a risk management solution may already exist within the organization or

can be purchased from external software vendors.

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CHAPTER 2

TYPES OF RISK

Systematic and Unsystematic Risk

Unsystematic risk, also known as "specific risk," "diversifiable risk" or

"residual risk," is the type of uncertainty that comes with the company or

industry you invest in. Unsystematic risk can be reduced through

diversification. For example, news that is specific to a small number of stocks,

such as a sudden strike by the employees of a company you have shares in, is

considered to be unsystematic risk. Systematic risk, also known as "market

risk" or "un-diversifiable risk", is the uncertainty inherent to the entire market

or entire market segment. Also referred to as volatility, systematic risk consists

of the day-to-day fluctuations in a stock's price. Volatility is a measure of risk

because it refers to the behavior, or "temperament," of your investment rather

than the reason for this behavior. Because market movement is the reason why

people can make money from stocks, volatility is essential for returns, and the

more unstable the investment the more chance there is that it will experience a

dramatic change in either direction.

Interest rates, recession and wars all represent sources of systematic risk

because they affect the entire market and cannot be avoided through

diversification. Systematic risk can be mitigated only by being hedged.

Systematic risk underlies all other investment risks. If there is inflation, you

can invest in securities in inflation-resistant economic sectors. If interest rates

are high, you can sell your utility stocks and move into newly issued bonds.

However, if the entire economy underperforms, then the best you can do is

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attempt to find investments that will weather the storm better than the broader

market. Popular examples are defensive industry stocks, for example, or

bearish options strategies.

Beta is a measure of the volatility, or systematic risk, of a security or a

portfolio in comparison to the market as a whole. In other words, beta gives a

sense of a stock's market risk compared to the greater market. Beta is also used

to compare a stock's market risk to that of other stocks. Investment analysts use

the Greek letter 'ß' to represent beta. Beta is used in the capital asset pricing

model (CAPM), as we described in the previous section.

Beta is calculated using regression analysis, and you can think of beta as the

tendency of a security's returns to respond to swings in the market. A beta of 1

indicates that the security's price will move with the market. A beta of less than

1 means that the security will be less volatile than the market. A beta of greater

than 1 indicates that the security's price will be more volatile than the market.

For example, if a stock's beta is 1.2, it's theoretically 20% more volatile than

the market.

Many utility stocks have a beta of less than 1. Conversely, most high-tech

Nasdaq-based stocks have a beta greater than 1, offering the possibility of a

higher rate of return, but also posing more risk.

Beta helps us to understand the concepts of passive and active risk. The graph

below shows a time series of returns (each data point labeled "+") for a

particular portfolio R(p) versus the market return R(m). The returns are cash-

adjusted, so the point at which the x and y axes intersect is the cash-equivalent

return. Drawing a line of best fit through the data points allows us to quantify

the passive, or beta, risk and the active risk, which we refer to as alpha.

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The gradient of the line is its beta. For example, a gradient of 1.0 indicates that

for every unit increase of market return, the portfolio return also increases by

one unit. A manager employing a passive management strategy can attempt to

increase the portfolio return by taking on more market risk (i.e., a beta greater

than 1) or alternatively decrease portfolio risk (and return) by reducing the

portfolio beta below 1. Essentially, beta expresses the fundamental tradeoff

between minimizing risk and maximizing return. Let's give an illustration. Say

a company has a beta of 2. This means it is two times as volatile as the overall

market. Let's say we expect the market to provide a return of 10% on an

investment. We would expect the company to return 20%. On the other hand, if

the market were to decline and provide a return of -6%, investors in that

company could expect a return of -12% (a loss of 12%). If a stock had a beta of

0.5, we would expect it to be half as volatile as the market: a market return of

10% would mean a 5% gain for the company. (For further reading, see Beta:

Know The Risk.)

Investors expecting the market to be bullish may choose funds exhibiting high

betas, which increase investors' chances of beating the market. If an investor

expects the market to be bearish in the near future, the funds that have betas

less than 1 are a good choice because they would be expected to decline less in

value than the index. For example, if a fund had a beta of 0.5 and the S&P 500

declined 6%, the fund would be expected to decline only 3%. (Learn more

about volatility in Understanding Volatility Measurements and Build Diversity

Through Beta.)

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Credit or Default Risk

Credit risk is the risk that a company or individual will be unable to pay the

contractual interest or principal on its debt obligations. This type of risk is of

particular concern to investors who hold bonds in their portfolios. Government

bonds, especially those issued by the federal government, have the least

amount of default risk and the lowest returns, while corporate bonds tend to

have the highest amount of default risk but also higher interest rates. Bonds

with a lower chance of default are considered to be investment grade, while

bonds with higher chances are considered to be junk bonds. Bond rating

services, such as Moody's, allows investors to determine which bonds are

investment-grade, and which bonds are junk. (To read more, see Junk Bonds:

Everything You Need To Know, What Is A Corporate Credit Rating and

Corporate Bonds: An Introduction To Credit Risk.)

Country Risk

Country risk refers to the risk that a country won't be able to honor its financial

commitments. When a country defaults on its obligations, this can harm the

performance of all other financial instruments in that country as well as other

countries it has relations with. Country risk applies to stocks, bonds, mutual

funds, options and futures that are issued within a particular country. This type

of risk is most often seen in emerging markets or countries that have a severe

deficit. (For related reading, see What Is An Emerging Market Economy?)

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Foreign-Exchange Risk

When investing in foreign countries you must consider the fact that currency

exchange rates can change the price of the asset as well. Foreign-exchange risk

applies to all financial instruments that are in a currency other than your

domestic currency. As an example, if you are a resident of America and invest

in some Canadian stock in Canadian dollars, even if the share value

appreciates, you may lose money if the Canadian dollar depreciates in relation

to the American dollar.

Interest Rate Risk

Interest rate risk is the risk that arises for bond owners from fluctuating interest

rates. How much interest rate risk a bond has depends on how sensitive its

price is to interest rate changes in the market. The sensitivity depends on two

things, the bond's time to maturity, and the coupon rate of the bond.

Interest rate risk analysis is almost always based on simulating movements in

one or more yield curves using the Heath-Jarrow-Morton framework to ensure

that the yield curve movements are both consistent with current market yield

curves and such that no riskless arbitrage is possible. The Heath-Jarrow-

Morton framework was developed in the early 1991 by David Heath of Cornell

University, Andrew Morton of Lehman Brothers, and Robert A. Jarrow of

Kamakura Corporation and Cornell University.

There are a number of standard calculations for measuring the impact of

changing interest rates on a portfolio consisting of various assets and liabilities.

The most common techniques include:

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1. Marking to market, calculating the net market value of the assets and liabilities,

sometimes called the "market value of portfolio equity"

2. Stress testing this market value by shifting the yield curve in a specific way.

3. Calculating the Value at Risk of the portfolio

4. Calculating the multi period cash flow or financial accrual income and expense

for N periods forward in a deterministic set of future yield curves

5. Doing step 4 with random yield curve movements and measuring the

probability distribution of cash flows and financial accrual income over time.

6. Measuring the mismatch of the interest sensitivity gap of assets and liabilities,

by classifying each asset and liability by the timing of interest rate reset or

maturity, whichever comes first.

7. Analyzing Duration, Convexity, DV01 and Key Rate Duration.

Interest rate risk at banks

The assessment of interest rate risk is a very large topic at banks, thrifts, saving

and loans, credit unions, and other finance companies, and among their

regulators. The widely deployed CAMELS rating system assesses a financial

institution's: (C)apital adequacy, (A)ssets, (M)anagement Capability,

(E)arnings, (L)iquidity, and (S)ensitivity to market risk. A large portion of the

(S) ensitivity in CAMELS is interest rate risk. Much of what is known about

assessing interest rate risk has been developed by the interaction of financial

institutions with their regulators since the 1990s. Interest rate risk is

unquestionably the largest part of the (S)ensitivity analysis in the CAMELS

system for most banking institutions. When a bank receives bad CAMELS

rating equity holders, bond holders and creditors are at risk of loss, senior

managers can lose their jobs and the firms are put on the FDIC problem bank

list.

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See the Sensitivity section of the CAMELS rating system for a substantial list

of links to documents and examiner manuals, issued by financial regulators,

that cover many issues in the analysis of interest rate risk.

In addition to being subject to the CAMELS system, the largest banks are often

subject to prescribed stress testing. The assessment of interest rate risk is

typically informed by some type of stress testing.

Political Risk

Political risk is a type of risk faced by investors, corporations, and

governments. It is a risk that can be understood and managed with reasoned

foresight and investment.

Broadly, political risk refers to the complications businesses and governments

may face as a result of what are commonly referred to as political decisions or

“any political change that alters the expected outcome and value of a given

economic action by changing the probability of achieving business objectives”.

Political risk faced by firms can be defined as “the risk of a strategic, financial,

or personnel loss for a firm because of such nonmarket factors as

macroeconomic and social policies (fiscal, monetary, trade, investment,

industrial, income, labour, and developmental), or events related to political

instability (terrorism, riots, coups, civil war, and insurrection).” Portfolio

investors may face similar financial losses. Moreover, governments may face

complications in their ability to execute diplomatic, military or other initiatives

as a result of political risk.

A low level of political risk in a given country does not necessarily correspond

to a high degree of political freedom. Indeed, some of the more stable states are

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also the most authoritarian. Long-term assessments of political risk must

account for the danger that a politically oppressive environment is only stable

as long as top-down control is maintained and citizens prevented from a free

exchange of ideas and goods with the outside world.

Understanding risk partly as probability and partly as impact provides insight

into political risk. For a business, the implication for political risk is that there

is a measure of likelihood that political events may complicate its pursuit of

earnings through direct impacts (such as taxes or fees) or indirect impacts (such

as opportunity cost forgone). As a result, political risk is similar to an expected

value such that the likelihood of a political event occurring may reduce the

desirability of that investment by reducing its anticipated returns.

There are both macro- and micro-level political risks. Macro-level political

risks have similar impacts across all foreign actors in a given location. While

these are included in country risk analysis, it would be incorrect to equate

macro-level political risk analysis with country risk as country risk only looks

at national-level risks and also includes financial and economic risks. Micro-

level risks focus on sector, firm, or project specific risk

Market Risk

This is the most familiar of all risks. Also referred to as volatility, market risk

is the day-to-day fluctuation in a stock's price. Market risk applies mainly to

stocks and options. As a whole, stocks tend to perform well during a bull

market and poorly during a bear market - volatility is not so much a cause but

an effect of certain market forces. Volatility is a measure of risk because it

refers to the behavior, or "temperament", of your investment rather than the

reason for this behavior. Because market movement is the reason why people

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can make money from stocks, volatility is essential for returns, and the more

unstable the investment the more chance there is that it will experience a

dramatic change in either direction.

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CHAPTER 3

NEED OF RISK MANAGEMENT

Since we need to keep our corporate in the business and have to deal with the

uncertainty in the future so that it is a risky business. Environment always keep

on changing. New things and complex technologies could introduce new risks.

Today we are in the economy-of-speed world. So we cannot get away of risk or

cannot completely get rid of risk. For example, internet has been shrank the

world into a single large market. Banking becomes a 24-hour market places so

business continuity plan is required.

Effective risk management will help us to improve performance in creating

value to the firm by contributing to better service delivery, more effective

manage of change, more efficient use of resources, better project management,

minimizing waste, fraud and poor value for money, supporting innovation.

Risk management brings incentives with fair and transparent for staffs,

supports both offensive and defensive strategies for executives and effective

use of risk-based capital allocation.

Risk management has been an important component of hospital administration

in the US since the malpractice insurance crisis of the 1970s. Many thought that

great progress was being made in managing the risks that contributed to patient

harm and error, but important questions have recently been raised about the real

impact of risk management on the risk of patient harm. Many patients continue

to be harmed, often as a result of problems and processes long identified as

being faulty. Recent data published by the insurance industry suggest that

malpractice verdicts and settlements are also, once again, on the rise.

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The Institute of Medicine's report “To err is human: building a safer health care

system” published in November 1999 has been billed by many as a

breakthrough report, exposing the frailties and the realities of the current US

healthcare delivery system. To many in risk management this report did not

contain new information. It did, however, create a sense of real frustration and

sadness for many.

The purpose of risk management is to:

Identify possible risks.

Reduce or allocate risks.

Provide a rational basis for better decision making in regards to all risks.

Plan.

Assessing and managing risks is the best weapon you have against project

catastrophes. By evaluating your plan for potential problems and developing

strategies to address them, you'll improve your chances of a successful, if not

perfect, project.

Additionally, continuous risk management will:

Ensure that high priority risks are aggressively managed and that all risks

are cost-effectively managed throughout the project.

Provide management at all levels with the information required to make

informed decisions on issues critical to project success.

If you don't actively attack risks, they will actively attack you!!

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CHAPTER 4

RISK MANAGEMENT PROCESS

1:- Establishing the context

This involves:

1. identification of risk in a selected domain of interest

2. planning the remainder of the process

3. mapping out the following:

o the social scope of risk management

o the identity and objectives of stakeholders

o the basis upon which risks will be evaluated, constraints.

4. defining a framework for the activity and an agenda for identification

5. developing an analysis of risks involved in the process

6. mitigation or solution of risks using available technological, human and

organizational resources

2 :- Identification and assessment

A first step in the process of managing risk is to identify potential risks. The

risks must then be assessed as to their potential severity of loss and to the

probability of occurrence.

After establishing the context, the next step in the process of managing risk is

to identify potential risks. Risks are about events that, when triggered, cause

problems or benefits. Hence, risk identification can start with the source of our

problems and those of our competitors (benefit), or with the problem itself.

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Source analysis- Risk sources may be internal or external to the system that is

the target of risk management (use mitigation instead of management since by

its own definition risk deals with factors of decision-making that cannot be

managed).

Examples of risk sources are: stakeholders of a project, employees of a

company or the weather over an airport.

Problem analysis- Risks are related to identified threats. For example: the threat

of losing money, the threat of abuse of confidential information or the threat of

human errors, accidents and casualties. The threats may exist with various

entities, most important with shareholders, customers and legislative bodies

such as the government.

When either source or problem is known, the events that a source may trigger

or the events that can lead to a problem can be investigated. For example:

stakeholders withdrawing during a project may endanger funding of the

project; confidential information may be stolen by employees even within a

closed network; lightning striking an aircraft during takeoff may make all

people on board immediate casualties.

The chosen method of identifying risks may depend on culture, industry

practice and compliance. The identification methods are formed by templates

or the development of templates for identifying source, problem or event.

Common risk identification methods are:

Objectives-based risk identification- Organizations and project teams have

objectives. Any event that may endanger achieving an objective partly or

completely is identified as risk.

Scenario-based risk identification - In scenario analysis different scenarios are

created. The scenarios may be the alternative ways to achieve an objective, or

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an analysis of the interaction of forces in, for example, a market or battle. Any

event that triggers an undesired scenario alternative is identified as risk – see

Futures Studies for methodology used by Futurists.

Taxonomy-based risk identification - The taxonomy in taxonomy-based risk

identification is a breakdown of possible risk sources. Based on the taxonomy

and knowledge of best practices, a questionnaire is compiled. The answers to

the questions reveal risks.

Common-risk checking- In several industries, lists with known risks are

available. Each risk in the list can be checked for application to a particular

situation.

Risk charting - This method combines the above approaches by listing

resources at risk, threats to those resources, modifying factors which may

increase or decrease the risk and consequences it is wished to avoid. Creating a

matrix under these headings enables a variety of approaches. One can begin

with resources and consider the threats they are exposed to and the

consequences of each. Alternatively one can start with the threats and examine

which resources they would affect, or one can begin with the consequences and

determine which combination of threats and resources would be involved to

bring them about

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Risk Assessment

Once risks have been identified, they must then be assessed as to their potential

severity of impact (generally a negative impact, such as damage or loss) and to

the probability of occurrence. These quantities can be either simple to measure,

in the case of the value of a lost building, or impossible to know for sure in the

case of the probability of an unlikely event occurring. Therefore, in the

assessment process it is critical to make the best educated decisions in order to

properly prioritize the implementation of the risk management plan.

Even a short-term positive improvement can have long-term negative impacts.

Take the "turnpike" example. A highway is widened to allow more traffic.

More traffic capacity leads to greater development in the areas surrounding the

improved traffic capacity. Over time, traffic thereby increases to fill available

capacity. Turnpikes thereby need to be expanded in a seemingly endless cycles.

There are many other engineering examples where expanded capacity (to do

any function) is soon filled by increased demand. Since expansion comes at a

cost, the resulting growth could become unsustainable without forecasting and

management.

The fundamental difficulty in risk assessment is determining the rate of

occurrence since statistical information is not available on all kinds of past

incidents. Furthermore, evaluating the severity of the consequences (impact) is

often quite difficult for intangible assets. Asset valuation is another question

that needs to be addressed. Thus, best educated opinions and available statistics

are the primary sources of information. Nevertheless, risk assessment should

produce such information for the management of the organization that the

primary risks are easy to understand and that the risk management decisions

may be prioritized. Thus, there have been several theories and attempts to

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quantify risks. Numerous different risk formulae exist, but perhaps the most

widely accepted formula for risk quantification is:

Rate (or probability) of occurrence multiplied by the impact of the event equals

risk magnitude

Create the plan

Decide on the combination of methods to be used for each risk

A business plan is a formal statement of a set of business goals, the reasons

they are believed attainable, and the plan for reaching those goals. It may also

contain background information about the organization or team attempting to

reach those goals.

Business plans may also target changes in perception and branding by the

customer, client, taxpayer, or larger community. When the existing business is

to assume a major change or when planning a new venture, a 3 to 5 year

business plan is required, since investors will look for their annual return in that

timeframe.

Business plans are decision-making tools. There is no fixed content for a

business plan. Rather, the content and format of the business plan is determined

by the goals and audience. A business plan represents all aspects of business

planning process declaring vision and strategy alongside sub-plans to cover

marketing, finance, operations, human resources as well as a legal plan, when

required. A business plan is a summary of those disciplinary plans.

For example, a business plan for a non-profit might discuss the fit between the

business plan and the organization’s mission. Banks are quite concerned about

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defaults, so a business plan for a bank loan will build a convincing case for the

organization’s ability to repay the loan. Venture capitalists are primarily

concerned about initial investment, feasibility, and exit valuation. A business

plan for a project requiring equity financing will need to explain why current

resources, upcoming growth opportunities, and sustainable competitive

advantage will lead to a high exit valuation.

Preparing a business plan draws on a wide range of knowledge from many

different business disciplines: finance, human resource management, intellectual

property management, supply chain management, operations management, and

marketing, among others. It can be helpful to view the business plan as a

collection of sub-plans, one for each of the main business disciplines.

"A good business plan can help to make a good business credible,

understandable, and attractive to someone who is unfamiliar with the business.

Writing a good business plan can’t guarantee success, but it can go a long way

toward reducing the odds of failure."

A plan defines everything about your build process, including what gets built,

how the build is triggered and what jobs are executed.

This section describes how to:

Create a new plan

Clone an existing plan

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Implementation

Follow all of the planned methods for mitigating the effect of the risks.

Purchase insurance policies for the risks that have been decided to be

transferred to an insurer, avoid all risks that can be without sacrificing the

entity's goals, reduce others, and retain the rest. .

Review and evaluation of the plan

Initial risk management plans will never be perfect. Practice, experience, and

actual loss results, will necessitate changes in the plan and contribute

information to allow possible different decisions to be made in dealing with the

risks being faced.

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CHAPTER 5

TOOLS AND TECHNIQUES OF RISK MANAGEMENT

Once risks have been identified and assessed, all techniques to manage the risk

fall into one or more of these four major categories:

Avoidance

Reduction

Retention

Transfer

Ideal use of these strategies may not be possible. Some of them may involve

tradeoffs that are not acceptable to the organization or person making the risk

management decisions.

RISK AVOIDANCE

Includes not performing an activity that could carry risk. An example would be

not buying a property or business in order to not take on the liability that comes

with it. Another would be not flying in order to not take the risk that the plane

were to be hijacked. Avoidance may seem the answer to all risks, but avoiding

risks also means losing out on the potential gain that accepting (retaining) the

risk may have allowed. Not entering a business to avoid the risk of loss also

avoids the possibility of earning the profits.

RISK REDUCTION

Involves methods that reduce the severity of the loss. Examples include

sprinklers designed to put out a fire to reduce the risk of loss by fire. This

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method may cause a greater loss by water damage and therefore may not be

suitable. Halon fire suppression systems may mitigate that risk, but the cost

may be prohibitive as a strategy.

RISK RETENTION

Involves accepting the loss when it occurs. True self-insurance falls in this

category. All risks that are not avoided or transferred are retained by default.

Every profit-making organization assumes certain business risks every day it is

in operation. Many businesses have begun to realize that they can also

profitably assume some of the risks that they have in the past, transferred to an

insurance company. In fact, there is greater predictability with some insurance

risks than most business risks encountered.

The reasons risk retention can be beneficial are:

There is a charge for risk transfer to an insurance company, which is generally

40% to 50% more than is paid in losses, depending on the type of coverage and

the amount of premium involved.

It is inordinately expensive to document and settle relatively small losses,

particularly when management time is considered. The collection of small

losses can frequently have an adverse effect on future insurance costs.

RISKS ALREADY RETAINED

Most organizations already retain some insurance risks. For example

They have deductibles applicable to portions of your existing property and

income coverages. Have self-insured retention on some of their liability

coverages.They have no insurance coverage on various catastrophes such as

flood and earthquake

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RISK TRANSFER

Definition of 'Transfer of Risk'

“The underlying tenet behind insurance transactions. The purpose of this action

is to take a specific risk, which is detailed in the insurance contract, and pass it

from one party who does not wish to have this risk (the insured) to a party who

is willing to take on the risk for a fee, or premium (the insurer).

For example, whenever someone purchases home insurance, he or she is

essentially paying an insurance company to take the risk involved with owning

a home. In the event that something does happen to the house, such as property

damage from a fire or natural disaster, the insurance company will be

responsible for dealing with any resulting consequences.

In today's financial marketplace, insurance instruments have grown more and

more intricate and complex, but the transfer of risk is the one requirement that

is always met in any insurance contract.”

Means causing another party to accept the risk, typically by contract. Insurance

is one type of risk transfer. Other times it may involve contract language that

transfers a risk to another party without the payment of an insurance premium.

Liability among construction or other contractors is very often transferred this

way.

Some ways of managing risk fall into multiple categories. Risk retention pools

are technically retaining the risk for the group, but spreading it over the whole

group, involves transfer among individual members of the group. This is

different from traditional insurance, in that no premium is exchanged between

members of the group.

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CHAPTER 6

CONTROVERSIAL ISSUES IN RISK MANAGEMENT

Risk analysis has become a routine procedure in assessing, evaluating, and

managing harm to humans and the environment. However, there has been fierce

debate over the legitimate role of risk analysis for regulatory decision making.

The debate centers around

Five major themes.

1. Realism versus constructivism.

2. The relevance of public concerns revealed through perception studies as

criteria for risk regulation.

3. The appropriate handling of uncertainty in risk assessments.

4. The legitimate role of

“Science-based”versus“precaution-based “management approaches.

5. The optimal integration of analytic and deliberative processes.

The following sections will first introduce each of these five themes in more

detail and develop some major insights for risk evaluation and management.

These insights will then serve as heuristic tools for the presentation and

explanation of our own approach to risk evaluation and management Realism

Versus Constructivism.

The first major debate in the risk management community touches on the

philosophical question of constructivism versus realism. For a philosophical

review of the two “risk camps,” see Shrader-Frechette (1991), Bradbury (1989),

and Clarke and Short (1993:379–382). Many risk scholars have questioned the

possibility of conducting objective analysis of risk. The issue here is whether

technical risk estimates represent “objective” probabilities of harm or reflect

only conventions of an elite group of professional risk assessors that may claim

no more degree of validity or universality than competing estimates of

stakeholder groups or the lay public. Reviews of the implications of a

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constructivist versus a realist concept of risk can be found in Bradbury (1989)

and Renn(1992). A pronounced constructivist approach can be found in

Hillgartner (1992), Luhmann (1993), Adams (1995), or in a recent German

book by K. Japp,SoziologischeRisikotheorie(1996). Realist perspectives in the

social sciences on risk and environment can be found in Catton (1980), Dunlap

(1980), Dickens (1992), and Rosa (1998)

Public Concerns as Criteria for Risk Regulation The second major debate is

closely linked to the first. It refers to the issue of inclusion. Many social

scientists, in particular those who claim that risk is a social construction rather

than a representation of real hazards, have argued in favor of integrating public

concerns into the regulatory decision process (e.g. Freudenberg & Pastor, 1992).

The key issue here is public involvement in defining tolerable risk levels

(Lynn, 1990). Since it is the people, so goes the argument, who are affected by

the potential harm of technologies or other risk-inducing activities, it should be

their prerogative to determine the level of risk that they judge tolerable for

themselves and their community (Webler, 1999; Harrison & Hoberg, 1994).

Many technical experts have argued forcefully against this proposition: they

argue that sensational press coverage and intuitive biases may misguide public

perceptions. Ignorance or misperceptions should not govern the priorities of risk

management. Spending large sums of money for reducing minor risks that fuel

public concerns and ignoring risks that fail to attract public attention may lead

to a larger number of fatalties than necessary (cf. Leonard & Zeckhauser, 1986;

Cross, 1992;Okrent, 1996). If one spends a fixed budget in proportion to lives

saved, the public at large would benefit the most.

The debate on the legitimate role of risk perception in evaluating and managing

risks has been going on for the last two or three decades.7 Defining risk as a

combination of hazard and outrage, as Peter Sandman suggested, has been the

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fragile but prevailing compromise in this debate, at least in the United

States(Sandman, 1988). Although the formula of “risk equals to hazard and

outrage” does not provide any clue of how to combine scientific assessments

with public perceptions, it provides a conceptual, though often ritual, foundation

for the general attitude of risk management agencies. Again, the debate has not

come to an end (and probably will never come to an end), but any reasonable

risk management approach needs to address the question of inclusion

The Appropriate Handling of Uncertainty in Risk Assessments The third debate

in the professional risk community centers around the handling of uncertainty

(van Asselt, 2000). This topic has been one of the most popular themes in the

professional community for many years, but is has reemerged in recent time for

several reasons.

Philosophers of science and risk have pointed out that the term “uncertainty”

implies a portfolio of different aspects that are often ne-elected or amalgamated

in risk analysis (cf.Funtowicz &Rivets, 1990).Advances in mathematics and

modeling have made it possible to be more precise in calculating variability

among humans or other risk targets. The general convention of using safety

factors of 10 or 100 as a means to include inter individual variation can now be

replaced by more precise and adequate modeling tech-inquest (Hattis &

Markowitz, 1997).The new global risks such as climate change or sea-level rise

have turned the attention of many analysts to issues of indeterminacy, stochastic

effects, and nonlinear relationships. Although these topics are not new to the

risk

Community, they have triggered a new debate over the umbrella

term“uncertainty”and how it should be decomposed and handled (Wynne,1992;

Lave & Dowlatabadi, 1993).Several suggestions have been made in the pastures

to distinguish several components of uncertainty. It is obvious that probabilities

themselves rep-resent only an approximation to predict uncertain Events. These

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predictions are characterized, however, by additional components of

uncertainty. It seems prudent to include these other uncertainty compo-nets in

one’s risk management procedure. Which other components should be

included? There is no established classification of uncertainty in the literal-

true (see von Hasselt, 2000, for a review; cf. Stirling,1998:102). Authors use

different terms and descriptions, such as incertitude, variability, indeterminacy,

ignorance, lack of knowledge, and others. A new risk management approach

should look into these differ-end types of uncertainty and find appropriate ways

of Risk-Based” Versus “Precaution Based” Management Approaches The

fourth debate picks up the question of how to evaluate uncertainties and

transfers this problem into the domain of risk management. As stated in

Section1, the assessment of risks implies a normative man-date. Most people

feel a moral obligation to prevent

harm to human beings and the environment. Risk an-lasts are asked to provide

the necessary scientific in-put to assist risk managers in this task. Since there

are more risks in the world than society could handle at the same time, risk

management always implies the task of setting priorities. The conventional

solution to this problem has been to design risk reduction policies in proportion

to the severity of the potential effects (Crouch & Wilson, 1982; Mazur, 1985).

Severity has been operationalized as a linear combo-nation of magnitude of

harm and probability of occurrence. Risk-risk comparisons constitute the most

appropriate instrument in this perspective for set-ting risk management

priorities (cf. Merkhofer, 1987;Wilson & Crouch, 1987; Cohen, 1991).

The most significant argument against the pro-portioned risk management

approach comes from the analysis of uncertainty (Cooke, 1991; Marcus, 1988).

Most risk data constitute aggregate results over large segments of the population

and long-time duration (Funtowicz&Rivets, 1987). In addition, there are

problems of extrapolation and dealing with random events and ignorance. The

risk community has been

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trying to respond to this challenge by sharpening its analytical tools, particularly

with respect to character-sizing and expressing uncertainties. Progress has been

made, particularly in modeling variability, but some issues, such as the

treatment of indeterminacies, re-main unresolved. An alternative approach has

been to change man-agreement strategies and add new perspectives to the way

of coping with uncertainties. Rather than in-vesting all efforts to gain more

knowledge about the different components of uncertainty, one can try to

develop better ways to live or co-exist with un-certainties and ignorance. The

new key words here

are: resilience, vulnerability management, robust re-sponge strategies, and

similar concepts (Collingridge,1996; WBGU, 2000). According to these

concepts, risk management is driven by making the social sys-tem more

adaptive to surprises and, at the same time, allowing only those human activities

or inter-

venations that can be managed even in extreme situations (regardless of the

probability of such extremes to occur).In the risk management literature these

two approaches have been labeled science-based and precaution-based

strategies (cf. O’Riordan &Cameron, 1994; Sterling, 1999; Klink &

Renn,2001). This labelingis rather problematic since the second approach,

which rests on precaution and resilience, needs at least as much scientific input

asthefirst approach (cf. Charnley& Elliott, 2000). We prefer the term “risk-

based strategy “for the first approach. With the denotation of “risk” it becomes

clear that management relies on the numerical assessment of probabilities and

potential damages, while the denotation of “precaution” implies prudent

handling of uncertain or highly vulnerable situations. Over the last few years,

advocates of risk-based and precaution-based approaches have launched a fierce

debate over the legitimacy of each of their approaches. Advocates of the risk-

based approach argue that precautionary strategies ignore scientific resultsand

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lead to arbitrary regulatory decisions(Cross, 1996). The advocates of the

precautionary approach have argued that precaution does no

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CHAPTER 7

ADVANTAGES OF THE RISK MANAGEMENT

The benefits of implementing a systematic risk management process are both

long-term and short-term. In fact, each phase of the risk management effort,

right from identifying risks, assessing risks to coming up with mitigation

strategies, has its own benefits and they are listed as follows.

Risk Identification Benefits: Identifying risks is by far the most crucial phase

of the risk management process. The most obvious benefit is that all the risks

that are identified at the start of a project are considered in the mitigation

strategies. This in turn, implies all risks that are identified are most likely to be

potentially resolved in a planned manner without affecting the objectives of the

project and the end result. Another benefit of risk identification is that all

assumptions are listed down and analyzed. Analysis of assumptions is an

important step in removing potential inaccuracies and inconsistencies at the

start of the process itself. Now, risks need not always be negative. Positive

risks (opportunities that were not a part of the original project plan) are often

stumbled upon during the identification phase and you can carry out

appropriate actions to make the most of the occurrence of these "opportunity"

risks. This will in turn have a positive impact on the entire project or business.

Risk Assessment Benefits:

This phase entails focusing on each identified risk and assessing its impact on

the project or business. The measures planned to eliminate or minimize the

risks assessed, are a result of a constructive debate or discussion among the

various stakeholders. The greatest advantage of this process is that it serves to

bring the various views onto the table and in the process of finalizing potential

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solutions, everyone is brought to the same page. This in turn brings forth a

sense of accountability in all stakeholders (including external vendors,

contractors, etc.),which is one of the goals of risk management. Participation in

the risk assessment activity also serves to promote an organizational culture

where everyone is "risk aware" and able to appreciate how their performance is

going to be measured and rewarded. In addition, as a result of the cost-benefit

analysis, contractual procedures can be revised for pricing terms, deadlines

etc., based on the assessed risk factors.

Risk Analysis and Evaluation Benefits:

It is a subset of the risk assessment process, where each risk is described along

with its attributes such as significance and likelihood of occurrence,

recommendation to minimize risks and stakeholder profiles, etc. Each risk is

mapped to a business function or process which results in allocation of

ownership of the risk. Changes to policy, setting up contingencies etc., are the

benefits of a successful analysis and evaluation exercise.

Risk Treatment Benefits.

Once the risk profiles have been finalized, graded, prioritized and evaluated,

the next step is to implement the plan. Through internal controls (including

policy decisions) and compliance regulations the mitigation strategies are

brought into action. Negative risks or "threats" are not met with shock or

surprise and opportunity risks are not forsaken due to lack of preparation and

planning. The important benefits of operational efficiencies and profitability

are realized upon successful treatment of risks in this phase.

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Risk Monitoring and Review Benefits

Risk management is not a one-time activity. Continuous risk monitoring and

review of risk treatment plans underpin a successful business strategy. This

activity provides long-term benefits in terms of lessons learned for better risk

management strategies in future and the effectiveness of the risk treatment

measures, which will undoubtedly come in handy for subsequent projects.

In comparison to not having a risk strategy at all, the benefits of risk

management to businesses are, in summary, as below.

Awareness of Significant Risks:

The most significant threat to a business i.e., total failure can be avoided by

identifying and planning for the most significant risks and communicating

them across the board to all stakeholders. Saving on Cost and Time: A

preemptive approach to the threats in a project or business through risk

management, always results in significant cost savings and prevents wastage of

time and effort in firefighting.

Discovering Opportunities

Instead of being unprepared for the opportunities that unravel during the

course of a project or business, risk management can help plan and prepare for

them.

Harvesting Reusable Knowledge

Risk management is an exhaustive effort with inputs from various stakeholders

and their experiences and insights. This collective know-how, or at least

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significant parts of it, can be reused for future endeavors. A single risk

management plan can provide ready templates for successive plans to start

from, instead of reinventing the wheel. This is probably the single most useful

long-term benefit.

Risk management helps in making better decisions by forecasting important

threats and opportunities of a project or business. While some benefits are

realized from the initial phases of a project, the "hidden" benefits often surface

much later. There's no doubt that a good risk management plan is the

cornerstone of successful enterprises.

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CHAPTER 8

DISADVANTAGES OF RISK MANAGEMENT

Talking out a team-mate into something he strongly believes is a waste of time

can be tricky. He is showing signs of cynicism which may not be healthy if

you’re an idealist whose goal is to smooth sail a dream project into reality as

possible. Let’s first break down the possible reasons why he just can’t bear

giving risk management a chance.

Disadvantages of Risk Management:

Cost

This module will shell out cash from the company funds. Companies will

have to improve their cash generating tactics in order to provide means

for training and maintenance for something that hasn’t happened yet.

Training

The time spent for development and research will have to be allocated for

training to ensure proper execution of risk management.

Motivation.

Employees that are already accustomed to their mundane activities need to

adjust to new measures.

Underestimating Risk

Risk analyses can provide insight into potential liabilities, but no

assessment is entirely accurate. A company’s estimates could be far off

the mark. For example, a company might decide to put aside money to

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cover its losses in the event of an earthquake. It might have financial

predictions for how much damage an earthquake would do, but a record-

breaking earthquake could cause damage that greatly exceeds those

estimates. As a result of its underestimation, the company might not have

the funds to cover the losses.

Overestimating Risk

Risk can also be overestimated, resulting in steep opportunity costs. For

instance, suppose the company puts aside large sums of money to cover

losses due to an earthquake. If no earthquakes occur, or a quake causes

much less damage than predicted, those reserved funds represent missed

opportunities. Instead of reserving the money, the company could have

invested it in research and development or in opening new locations to

reach more customers. Overestimating risk can cause a company to

overcompensate, thus losing money that could go into business

opportunities.

No Clear Path

Risk retention is often appropriate when the cost of insuring against a

potential problem outweighs the financial burden the problem itself

would impose. For example, it usually doesn’t make sense to buy

insurance for a small risk. But that's another disadvantage of risk

retention: It’s not always clear whether it’s better to buy insurance or

retain risk. A company might lose money because it bought insurance, or

it might lose money because it didn't buy insurance.

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Considerations

Insurance companies use advanced statistical analyses to guide their

decisions, but small businesses don’t have their resources. As a result,

sometimes retaining risk is just a guessing game. There’s just no simple

recipe for deciding which risks you should transfer and which you should

retain. If you’re not sure, the most effective approach is to ask experts in

your industry to assess your risk profile and design a risk management

plan.

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CHAPTER 9

NESTLÉ (FOOD/BEVERAGE) NESTLÉ CHOOSE ACTIVE RISK

MANAGER TO MANAGE ENTERPRISE RISK ACROSS ITS

OPERATIONS WORLDWIDE AFTER IT EVALUATED 14

DIFFERENT RISK MANAGEMENT SOLUTIONS.

Overview

Nestlé was looking for a consistent method to manage risk across the multi-

national operation. The fact that Active Risk Manager is web-based means that

countries will be able to share information, update and monitor risk

information in an effective and efficient way.

Marc Schaedeli, Head of Risk Management at Nestlé explained, “Of all those

products evaluated, Active Risk Manager best suited our requirements. Other

products could provide part of what was needed but not everything and many

of them were also too complex. Active Risk Manager gave us what we were

looking for.”

“We also felt that Active Risk Manager would be able to reflect the way we

work. We did not want to change our process just to fit with a new system.”

Marc Schaedeli continued, “We plan to use Active Risk Manager for both

project risk assessment and business risk management. Nestlé products grow

through innovation and renovation and Active Risk Manager will help us to

manage many different types of project. Consolidating data will also enable us

to get a better overview of the business processes and their potential risks.”

Charles Long ridge, Director of Business Development for EMEA at Sword

Active Risk said, “We are very excited to be working with such a leading

global manufacturer and will look to Nestlé as a key sector influencer in the

supply-chain risk management and Sarbanes Oxley compliance. We look

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forward to providing a positive return to Nestlé with improved risk mitigation

strategies and increasing profit margins.”

Marc Schaedeli concluded, “We believe Active Risk Manager will provide the

right information to the right people at the right time which will help Nestlé to

fulfill its company priority – to bring highest quality products to people,

wherever they are, whatever their needs, throughout their lives.”

About Nestlé

Nestlé, with headquarters in Vevey, Switzerland was founded in 1866 by Henri

Nestlé and is today the world’s biggest food and beverage company with

factories or operations in practically every country in the world.

Active Risk Manager

Active Risk Manager (ARM) is the world’s leading Enterprise Risk

Management solution covering corporate, strategic, process, product, project,

supply chain, business continuity, reputation, health and safety, incident

management risks and opportunities, corporate governance and compliance.

ARM is widely used for risk management on major complex projects and by

some of the world’s largest and most respected organizations across a range of

industries.

Sword Active Risk, formerly Strategic Thought Group was founded in 1987

and has offices in the UK, USA, Australia and the Middle East, servicing

customers worldwide directly and through a growing network of partners.

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CHAPTER 10

RECOMMENDATION

1. Nestle can manage its market risk by introducing more innovative &

diversifiable product. Currently Nestle is more focused in premium milk

products like condense milk, curd, milk powder. Company can do so by going

deeper in milk products which has good profit margins such as butter milk,

Ghee, paneer, milk based drinks

2. Nestle can manage its financial risk by properly diversifying the funds in

different sectors for example: by investing in Derivate instruments, Hedging

products, Gold, Forex etc.

3. Nestle can transfer its risk related to assets, operations, products etc. by

taking insurance products. For example Nestle can insured its assets by taking

general insurance of the various assets, transit insurance of goods/products, key

man insurance.

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CHAPTER 11

CONCLUSION

The Risk Management Index is the first systematic and consistent international

technique developed to measure risk management performance. The conceptual

and technical bases of this index are robust, despite the fact that it is inherently

subjective. The RMI permits a systematic and quantitative bench-marking of

each country during different periods, as well as comparisons across countries.

This index enables the depiction of disaster risk management at the national

level, but also at the subnational and urban level, allowing the creation of risk

management performance benchmarks in order to establish performance targets

for improving management effectiveness.

The RMI is novel and far more wide-reaching in its scope than other similar

attempts in the past. It is certainly the one that can show the fastest rate of

change given improvements in political will or deterioration of governance.

This index has the advantage of being composed of measures that directly map

sets specific decisions/actions onto sets of desirable outcomes. Al-though the

method may be refined or simplified in the future, its approach is quite

innovative because it allows the measurement of risk management and its

feasible effectiveness.

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CHAPTER 12

BIBLIOGRAPHY

1. Strategic Risk Management - Goel publication.

2. Financial Risk Management - Pranana chanrda.

3. Risk Management – Financial Markets, Semester 6