Types of Risk Essay Example for Free

Types of Risk Essay Additional useful information on types of risk Market or price risk relates to the uncertainty in markets and prices for both inputs (purchased for the production process), and outputs (products and services for sale by the firm). Market/price risk has always been a major problem in most businesses and results from the economic forces of supply and demand. Outcome of these forces are fluctuations in the price for a commodity and/or inputs in the production of that commodity. These fluctuations may be short-term and long-term. The degree of fluctuation and the length of time are critical to their effects on the business. Managers generally anticipate some degree of fluctuation in prices and plan accordingly. These plans may include spreading production and sales over time to average the effect of peaks and troughs in the market, establishing contracts to obtain a fixed price, and pooling sales with other producers to obtain a better market or an averaging of returns from the larger organisation. Low prices in the short term may be tolerated by a business if it has sufficient cash reserves to meet negative financial returns from lower prices. Low commodity prices in the longer term pose serious threats to the viability of the enterprise, and the business, should that enterprise form a major source of income. The growing impact of globalisation and opening of most world economics is also increasing the variability of market and price risk. Remember that this includes both opportunity and potential loss. Production risk is the variability inherent in the firms production processes. This is predominantly the variability of product yield, both in yield quantity and quality. Often quantity is considered but quality is also an important consideration – particularly for products where warranty and service support are provided. Variances in labour, weather, transport and inventory can all reduce (or increase) expected output, or cause delay in the production cycle of any business. Quality reduction, or delay in the production cycle, can further reduce the expected market or price returns for the unit of production. A delay in the production cycle can result in an inferior product or additional time and costs to finish the product, thus reducing the margin of returns from the enterprise. Technological risks: these relate to the uncertainty caused by rapid technological change. A production or investment decision made today may be affected by technical improvements in the future. This is particularly important for structures and high cost, long-life plant. A change in technology may place the business in a less efficient and less competitive situation against its competitors and the marketplace. Similarly not keeping up with technology can also make the business less efficient and less competitive. A business not utilising EFTPOS would find business quite difficult. Some investments can take upward of ten years for the planned commodity to settle into full production (e. g. horticultural products such as fruit or nuts. Agro forestry is a particularly long-term investment, as is mining). Human risks: humans are a key source of risk. Humans are prone to mistakes, misinterpretation, and health problems. The goals and objectives of management form the long- and short-term business plans for the firm. The fact that humans tend to change their goals and objectives often adds to the uncertainties facing the firm. Humans have skills limitations. The introduction of a new process or new technology may require new and sophisticated skills. Humans interpret, learn and respond to situations in different ways. Examples of human risk situations include: health and injury problems, particularly with key personnel. mistakes made in the production process. breakdown in interpersonal relationships within the workforce. misinterpretation in communication. esistance to change. An inability to learn. the existence of vices such as greed and selfishness. fraud, dishonesty, theft. there is also a growing value to a business of the intellectual property/knowledge of its workforce. Legal and social risks: these risks increase in developed society. Laws created to protect people, property and the environment can alter the business playing field. Decisions made and techniques used today may result in l itigation at some future date. There may be a close correlation between human, legal and social risks. For example: the duty of care in respect of others within our legal system. This is important from two management aspects: firstly a business has a responsibility to a persons physical well-being. There is the risk that a person or that persons property may be injured or damaged as the result of the business activities (public liability). Secondly there is a duty of care in respect to business advice that may be given to another. This is important in advice where You know, or should have known, that they might rely on that advice. Consider recent litigation against James Hardie as an example of such risks. The growing importance of OH;S obligations is another example. Some production processes often alter the physical environment, creating the risk of downstream detrimental effects on others (for example chemical spills, effluent disposal). The risk manager must consider environmental risks not only in relation to their direct effect on the business, but also for the potential damage to others property rights and the subsequent potential litigation which may ensue. Government policy risks: government policies help to define both the external and internal environments for the agricultural business. In addition to the monetary, fiscal and trade policies, Commonwealth and State governments have various policies—both general and industry specific. These risks can be particularly stressful on businesses as policy can be quickly introduced and are often unexpected. There can be a considerable production and time lag for the business to respond to the new or altered policy. Financial risks Financial risks result from the uncertainty in the finances of the business. The commercial manager has two sources of finance (capital): their own equity capital, or someone elses capital. Someone elses capital can be acquired through borrowing, leasing, and, in the larger firm, the issuing of shares. The use of non-equity capital creates opportunities for growth in the business. This will occur where additional finance can be used to increase productivity and subsequent income through the purchase of additional assets (resources). For example, funds may be borrowed to purchase additional stock, plant and machinery, or to expand production capacity. Leasing is another form of non-equity capital. In this situation the business acquires the use of additional productive assets, and pays a nominal rent for this usage. Non-equity capital also creates financial costs (liabilities such as rent, interest and capital repayments) which may place the business in financial difficulty. The business may not be able to meet its financial commitments (this is liquidity risk), or indeed become insolvent (where liabilities exceed assets). The use of non-equity capital involves the concept of leverage.