WHY MANAGE RISK?

Annisa Swavira 29114858Fatia Lovita 29114783

Nabillah 29114786Veby Zhera 29114836

Vynica Septariani 29114772

BACKGROUNDRISK MANAGEMENT

HOW TO MANAGE RISK?

MITIGATE RISK

MITIGATE RISK ?Hedging : Completely eliminates an exposure

eliminating both upside and downside

Insurance : As the name suggests provides protections against the financial effects of unfavorable events, but leaves the exposed party with the potential benefit from favorable events

Diversification : Can mitigate certain types of risk

OBJECTIVE

MANAGE RISK INCREASE FIRM VALUE

WHO INVOLVES?

COMPANY SHAREHOLDER

HIGH RISK – HIGH RETURN LOW RISK – HIGH RETURN( Risk Averse )

MANAGING RISK IN SEVERAL CONDITIONS

1. Financial Distress : Term in corporate finance used to indicate a condition when promises to creditors of a company are broken or honored with difficulty.

• If Financial Distress cannot be relieved = LEAD TO BANKCRUPTCY

• This conditions can generate significant disruptions in the company’s day to day operations & strategic positioning

• CAN USE RISK MANAGEMENT, HOW? AND WHY?

• This policy can create value IF the value that the firm protects in the product markets > cost it will pay in the financial markets for risk protections

2. Investment policy : a document that formalizes an institution’s goals, objectives, and guidelines for asset management, investment advisory contracting, fees, and utilization of consultants and other outside professionals

Example : •This condition represent at DIFFICULT YEAR•Biotechnology Company has large R&D expenditures•This company will face 2 alternatives. First, cut back on some or all of Its R&D expenditures. Second, access capital market for external funding•If the company take a first alternatives, R&D will suspended and the competitor will take a place with gain a lead in bringing new products to market. If the company take a second alternatives, the market will face downturn. •USING RISK MANAGEMENT POLICY : The company should manage its expenditures properly, so that all of risk condition will be spared

3. Tax Effects : The condition when the firm face progressive or convex tax schedule, in which tax rate climb with pretax income. (convex tax function implies increasing marginal tax payments as income rises)

• If the company get high income, the company must pay the high rate tax as well, and if the company get low income, the company must pay low rate tax as well

• Company objective = High income with low tax rate

• Using Risk Management Policy = The company just pay the average of tax rate from average income

4. Transaction Costs

• Transaction cost influence to Investors decisions• USING RISK MANAGEMENT • Individual investors = HIGH TRANSACTION COST –

HIGH RISK and Large Institutional Investors = LOW TRANSACTION COST – LOW RISK (reduce transaction cost on risk sharing)

• For each investors, they have strongly different view on risk

6. Managerial Concern • Poorly diversified human capital = High Risk• USING RISK MANAGEMENT POLICY• If the company using employment contract, those

employee couldn’t make to satisfy these risk averse managers. So that, the managers take a decision to using no employment contract because it would add more value to the firm and no cost expenditures for risk management programs.

5. Asymmetric Information : • Information Gaps• The condition in which at least some relevant information is

known to some but not all parties involved. Information Asymmetric causes markets to become inefficient, since all the market participant do not have access to the information they need for their decision making processes

• This often happens in transactions where the seller knows more than the buyer, although the reverse can happen as well. Potentially, this could be a harmful situation because one party can take advantages of the other party’s lack of knowledge

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