Risk Management Process
RISK MANAGEMENT PROCESS
LEARNING OBJECTIVES
Upon completion of the chapter, students should be able to:
Define common terminology related to risk management.
Explain the importance of risk management for individuals and organizations.
Define risk management from an Islamic perspective.
Describe the objectives of risk management.
Explain the risk management process.
Identify the best risk management techniques suitable for different categories of risk.
OVERVIEW
Definition/Evolution of risk management.
Islamic perspective on risk management.
Objectives of risk management.
Risk management process.
Risk assessment.
1. DEFINITION OF RISK MANAGEMENT
Risk management is defined as:
A systematic approach to identify, measure, and control risks that can threaten an individual’s or organization's assets and earnings.
Its purpose is to enable the organization to progress toward achieving its mission efficiently and effectively.
2. EVOLUTION OF RISK MANAGEMENT
Risk management has become crucial for the survival of organizations due to:
Climate changes, political uncertainties, and economic forces.
3. RISK MANAGEMENT FROM ISLAMIC PERSPECTIVE
Objectives of risk management from an Islamic perspective include:
Minimizing the utilization of both financial and non-financial resources.
Reducing negative impacts of risks and maximizing opportunities towards achieving goals.
Aligning goals with Shariah principles.
Supporting the belief in divine stipulations.
Efforts and prayers must precede unconditional belief in God’s will, based on Qur'an 13:11.
4. OBJECTIVES OF RISK MANAGEMENT
Pre-Loss Objectives:
Reduce the impact of potential losses.
Mitigate fear and worry associated with risks.
Compliance with legal requirements.
Post-Loss Objectives:
Ensure the survival of the organization.
Maintain stability of earnings.
Minimize the overall impact of losses on the organization and society.
5. RISK MANAGEMENT PROCESS
The risk management process consists of five main steps:
Identifying existing and potential risks.
Evaluating potential risks.
Examining alternative risk management techniques.
Selecting and implementing the risk management program.
Evaluating, reviewing, and controlling the program.
6. RISK IDENTIFICATION
Defined as the process used by an organization to discover areas of exposure to risk.
Identification techniques focus on:
Sources of risk.
Hazards.
Risk factors.
Perils.
Exposures to loss.
Tools for Risk Identification:
Orientation.
Risk analysis questionnaires.
Exposure checklists.
Insurance policy checklists.
Flowcharts.
Financial statements.
Inspections.
Interviews.
Combination approach.
7. EVALUATION OF POTENTIAL RISKS
Involves measuring risks with two key aspects:
Frequency: The number of times loss occurs.
Severity: Refers to the maximum size of loss exposures.
8. EXAMINING ALTERNATIVE RISK MANAGEMENT TECHNIQUES
Two main categories of risk management techniques are:
Risk Control: Involves strategies to reduce the likelihood or impact of risks.
Risk Financing: Mechanisms to fund potential losses.
Types of Risk Management Techniques Include:
Retention/Assumption: Keeping a portion of the risk.
Captive insurer: Creating an insurance company owned by the organization.
Insurance: Transferring risk through a contract.
Risk Avoidance: Avoiding activities that could lead to risks.
Loss Control: Implementing strategies to minimize losses.
Loss Prevention: Reducing incidents of loss.
Loss Reduction: Minimizing the severity of losses.
Separation: Dispersing assets to limit risks from disasters.
Contractual Transfer: Shifting risk to another party through contracts.
9. RISK CONTROL
Risk control methods aim to:
Alter an organization’s exposure to risk.
Help avoid risks, prevent losses, lessen damage, or minimize undesirable effects of risk.
Key Aspects:
Risk Avoidance: Proactively eliminating risks through rational decision-making.
Loss Control: A strategy to reduce both the frequency and severity of potential losses, which is divided into:
Loss Prevention: Reducing the number of risk events.
Loss Reduction: Limiting damage from risk events, applicable before or after loss occurrence.
Example of Separation Strategy:
Separating headquarters and assembly plants to minimize risk impact of disasters.
10. CONTRACTUAL TRANSFER
Used as a means of transferring risks without insurance.
Methodology includes:
Incorporation: Transferring risks to a corporation by registration.
Leasing Contracts: Transferring responsibilities to tenants through lease agreements.
Hedging: Contracts to manage price fluctuations to avoid losses.
Hold-Harmless Agreements: Contracts relieving one party of liability in case of losses due to defective products.
11. RISK FINANCING
Encompasses methods to fund potential losses and includes:
Retention: The company assumes direct responsibility for losses.
Self-Insurance: Establishing a fund to cover loss exposures, contingent on financial adequacy and sufficient exposure volume.
Captive Insurance: A self-formed insurance company for risk management specific to the parent company or industry.
Insurance: Contractual agreement transferring financial responsibilities of losses to an insurance provider.
12. SELECTING AND IMPLEMENTING RISK MANAGEMENT PROGRAM
Focus on matching risk types to their management strategies:
High Frequency/High Severity: Risk avoidance and risk transfer (e.g., insurance).
Low Frequency/High Severity: Risk reduction through insurance.
Low Frequency/Low Severity: Risk retention.
13. EVALUATION, REVIEW, AND CONTROL
Continuous monitoring of the risk management program is essential.
Regular reviews are necessary as the effectiveness of techniques may change over time.
Evaluation and review help identify potential errors and enable corrective actions before costs escalate.
14. CONCLUSION
Risk management is an integral part of organizational strategy, essential for effectively navigating both predictable and unforeseen challenges.
THANK YOU
Closing remarks acknowledging the importance of risk management in both personal and organizational contexts.