Introduction to Risk Management

• One way to look at risk is “the chance that an event will turn out in a way that makes you worse off”

• In this lesson, you will learn:– The differences between risk and

uncertainty

– How to establish goals

– How attitudes affect your willingness to accept risks

Introduction to Risk Management

• Risk management requires you to:– Recognize your risk attitude

– Assess your risk-bearing ability.

– Develop a risk management plan to manage identified risks

Introduction to Risk Management: Optimism and Pessimism

• Another way to look at risk is as “the possibility that something unpleasant or unwelcome will happen”

• Optimists view the world as having low risk

• Pessimists view the world as having higher risk

Introduction to Risk Management: Risk and Uncertainty

• So what is the difference between risk and uncertainty?

• Risk– The probabilities of outcome are

known

– “Even though there’s a chance of snow tomorrow, I’m going to put on snow tires next week”

• Uncertainty– The probabilities of outcome are

unknown

– “I wonder what the weather will be like tomorrow”

Introduction to Risk Management: Defining Risk Management

• Risk management can be defined as: “Managing resources to maintain acceptable levels of risk”

• Every day, we practice risk management in our personal lives as well as in our business lives

Introduction to Risk Management: Handling Risk

• There are tradeoffs that affect how we handle goals and risks that matter, such as: – Changes in risk levels

– Changes in our expected return

– Our desire to retain entrepreneurial freedom

Introduction to Risk Management: Setting Goals

• Where are you going in business?

• What do you want to achieve?

• What are your goals?

• Be specific about where you’re going - choose your goals, make a map or plan and follow through on that path– Which road are YOU choosing?

Introduction to Risk Management: Setting Goals– Being Specific

• Before you begin:– Know where you are going

– Identify and specify your goals

• Setting goals helps you manage risk

Introduction to Risk Management: What are Goals?

• Goals are your personal statements that reflect:– Your values and beliefs

– The resources available to you

– The limitations or obstacles you face

• Involve your family members or business principals in goal discussions

Introduction to Risk Management: Determine Goals

• Keys to successful business goal development:– Negotiation

– Compromise

• Understanding your goals can help you to decide what risks you are willing to accept

• Note: You will find additions tools for goal setting in the Strategic Planning and Goal Setting Lesson

Introduction to Risk Management: Determine Risk-Bearing Ability

• Risk bearing ability is your ability to accept risk without affecting the long term survival of your business

• Balance sheet financial measures include:– Liquidity

– Solvency

– Profitability

– Repayment capacity

– Financial efficiency

Introduction to Risk Management: Risk-bearing Ability – Liquidity

• Think of liquidity as:– The ability to meet financial obligations

as they become due

– A short-run concept of on-time payment of bills

Introduction to Risk Management: Risk-bearing Ability: Solvency

• Think of solvency as:– The ability to repay all financial

obligations

– A long-run concept of who has a greater capital interest in your business

Introduction to Risk Management: What is Your Risk Attitude?

• Different people have different risk attitudes

• Are you comfortable with:

HIGH RISK?

MEDIUM RISK?

LOW RISK?

• Life brings new opportunities and new challenges that often cause risk attitudes to change over time

Introduction to Risk Management: Discussion

Introduction to Risk Management: Improved Understanding of your Risk Attitude

• Improved understanding of your “risk attitude” helps you:– Analyze your business alternatives

more effectively

– Make wise day-to-day decisions

Introduction to Risk Management: Risk Attitudes– Individual Characteristics

• Do you consider yourself as someone who is:– Risk averse?

– Risk preferring?

– Risk neutral?

Introduction to Risk Management: Risk Averse and Risk Preferring

• If you are risk averse, you probably tend to avoid risky ventures and activities

• In order to reduce the possibility of loss, you don’t mind giving up some return and have a lower risk-bearing ability

• If you are risk preferring, you have a greater risk-bearing ability and often find your self excepting more risk then others

Introduction to Risk Management: Risk Neutral

• If you are risk neutral, you tend to play the middle of the road and prefer a moderate risk position knowing that you might not get the highest rate of return

Introduction to Risk Management: The Next Step– Developing a Business Plan

• The next step is putting together a good business plan- the “blueprint” for your success, as you define it

• To maximize your success, use your business plan:– As the basis for all resource allocation

decisions

Introduction to Risk Management: Summary

• To be a successful agricultural producer, think of yourself as a business person first and a farm or ranch operator second

• Risk management is the key to building a successful business

• Setting goals and knowing your risk attitude sets the groundwork for a successful agricultural production

• Remember, “if you don’t know where you are going, any road will get you there”