Unit One: Introduction to Risk and Business Risk Management

This flashcard set covers the fundamental concepts of risk management, business risk categories, failure symptoms, and foreign exchange exposure strategies as presented in the lecture notes.

Risk (OED Definition)

A chance or possibility of danger, loss, injury or other adverse consequences, often described as being exposed to danger.

Institute of Risk Management (IRM) Risk Definition

The combination of the probability of an event and its consequence, which can range from positive to negative.

Orange Book Risk Definition

Uncertainty of outcome, within a range of exposure, arising from a combination of the impact and the probability of potential events.

Hazard Risks

Also known as pure risks, these are events that can only result in negative outcomes and may be thought of as operational or insurable risks.

Control Risks

Also described as uncertainty risks, these give rise to uncertainty about the outcome of a situation and are frequently associated with project management.

Opportunity Risks

Also known as speculative risks, these are marketplace or commercial risks deliberately taken by organizations in order to achieve a positive return.

Risk Map

A valuable risk management tool, sometimes referred to as a risk matrix or heat map, that plots the likelihood of an event against its magnitude or impact.

Efficacious Strategy

A strategy developed with full analysis of associated risks that is fully capable of delivering the required outcomes.

Risk Appetite

The value or level of risk taking that an organization decides is appropriate for the activities it is undertaking.

Risk Capacity

The established ability of an organization to withstand any foreseeable adverse consequences from risk exposure.

Business Risk (Doff, 2004)

The risk of financial loss due to changes in the competitive environment or the extent to which the organization could timely adapt to these changes.

Internal Risks

Risks arising from events within a business enterprise, such as human factors, systems, internal culture, and leadership effectiveness, which can usually be forecasted.

External Risks

Risks arising from events outside the organization, such as economic, political, or natural factors, that are generally beyond control and difficult to forecast accurately.

Operational Risk

The risk of loss resulting from inadequate or failed internal processes, people and systems or from external events, including IT risk and fraud.

Credit Risk

An investor's risk of loss arising from a borrower who does not make payments as promised; also called default risk or counterparty risk.

Capital Risk

The risk that an investor may lose all or part of the principal amount invested, or a company may lose value on its tangible and liquid assets.

Liquidity Risk

The risk that a given security or asset cannot be traded quickly enough in the market to prevent a loss or make the required profit.

Financial Risk

The possibility that a business will not have adequate liquidity to meet ongoing obligations such as debt repayment, payroll, and taxes.

Strategic Risks

Risks arising from fundamental decisions concerning an organization's objectives, such as mergers, acquisitions, or changes in industry demand.

Market Risk

The risk that the value of an investment or trading portfolio will decrease due to changes in risk factors like stock prices, interest rates, foreign exchange rates, and commodity prices.

Country Risk

The likelihood that changes in a country's business environment, such as political instability or macroeconomic mismanagement, will reduce the profitability of doing business there.

Compliance Risks

Risks associated with the need to comply with laws and regulations, ensuring proper corporate governance, and meeting contractual obligations.

Natural Risks

Unforeseen natural calamities such as earthquakes, floods, or climate change that can cause temporary or permanent interruption to business operations.

Translation Exposure

The sensitivity of a firm's foreign currency denominated financial statements to changes in exchange rates, measured as $(exposed\,assets - exposed\,liabilities) \times (change\,in\,exchange\,rate)$.

Transaction Exposure

The sensitivity of a firm's future cash flows from contracts denominated in foreign currency to changes in the exchange rate.

Economic Exposure

Also called operating exposure, it refers to the possibility of change in the present value of the firm's expected future cash flows due to unexpected changes in exchange rates.

Forward Contracts

An agreement between two parties to exchange a specified quantity of an asset at a fixed price on a specified date in the future to eliminate exchange exposure.

Currency Futures

Standardized contracts traded on organized exchanges to buy or sell an amount of currency at a fixed price on a specified future date.

Currency Options

Contracts providing the holder the right, but not the obligation, to buy (call option) or sell (put option) a specified amount of currency at a strike price.

Currency Swaps

An agreement to exchange a series of cash flows in one currency for a series in another at agreed intervals to convert a liability from one currency to another.

Cross Hedging

Taking opposing positions in two positively correlated currencies when direct hedging of a specific foreign currency is not possible.

Netting

The internal technique of offsetting exposures in one currency with positions in another so that losses on one are offset by gains on the other.

Matching

The process where a company balances its currency inflows with its currency outflows in terms of both amount and timing.

Leading and Lagging

Adjusting the timing of payments or receivables; leading accelerates payments of strengthening currencies, while lagging delays payments of weakening ones.