Risk Updates
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As you may know I grew up on a farm. The family (my dad and his two brothers) actually owned several different ranches where we raised the turkeys. Well, “down on the farm” it was not uncommon for us boys to start driving the tractors and trucks as early as 10 or 12 years old to help with the work. As a young boy of about 14 or 15, there was a road leading out of one of the particular ranches that had about a two foot drop off into the wheat field on the right side of the road. Over the course of about a month there were several times while leaving the ranch that I drove off the side of the road and ended up in the field. Unable to get the truck back up onto the road from the sharp drop off, I would inevitably get the truck stuck in the wheat field. Each time I would have to walk back to where we had a phone in one of the coops and call my dad or one of my brothers to come pull me out with a tractor. After the third or fourth time this happened, my dad wanted an explanation about how this could continue to occur. I explained to my dad rather candidly, that one of my older brothers and I had been having a contest to see who could drive closest to the edge of the road. We were regularly looking at how close the other tire tracks were to the edge and we would try to get closer.
It was at this very moment when I learned that my dad had a significantly different “Risk Tolerance” than I did.
Amazed at our “willingness to assume risk” (stupidity) and my regular rate of failure; I received the instruction that in the future I was to always, “Always”; stay as far away from the edge as possible.
Each of us as individuals, as business owners, as executives and risk managers all have a unique and varied Risk Tolerance. Likewise every business and organization will have their own comfort level with assuming or transferring risk. It is also important to understand that an individual’s or an organization’s Risk Tolerance changes as their circumstances change. Many factors can impact this change, items such as; experience, maturity, growth or stability mindset, profitability, industry trends or cash reserves just to name a few. The one thing to remember is that there is not a right or wrong to whatever your Risk Tolerance may be; it can be as individual and unique as your fingerprint.
To get a very basic understanding of where your Risk Tolerance or “Risk Appetite” is answer the following questions:
Would you rather have:
- 100% certainty to win $1000
Or a
- 50% chance to win $2000 and a 50% chance to win nothing
Now independent of how you answered that first question answer the following:
Would you rather have:
- 100% certainty to lose $1000
Or a
- 50% chance to lose $2000 and a 50% chance to lose nothing
Now put on your CEO or Risk Manager hat for a minute and answer the following similar questions for your company.
Would you rather have:
- 100% certainty to grow your top line revenue by 10% for the next fiscal year
Or a
- 50% certainty to grow your top line revenue by 20% and a 50% chance to have zero growth for the next fiscal year
Again, independent of how you answered that first question answer the following:
Would you rather have:
- 100% certainty that your operating expense will increase by 10%
Or a
- 50% chance that your operating expense will increase by 20% and a 50% chance that operating expenses will remain flat.
Keep in mind there are no right or wrong answers to these questions. However; your answers to these questions can begin to provide you with some basic understanding of your Risk Tolerance.
As a general rule, we go for certainty when we can win something and take a gamble when there is a potential at loss or to lose something. One of the reasons for this is the thinking: “It will never happen to me.”
Most are not as stupid (Risk Tolerant) as I was as a 14 year old driver on the farm. However, if you would like some help better understanding your ability to assume Risk and how to best maximize the Management of your Risk; please give me a call.
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