Regardless of the type of companies and the type of management, it is highly desirable that there be an overall corporate risk philosophy is agreed upon and a set of policies be adopted for handling of all the risks.
There are several steps to be followed while formulating the risk management, they are :
(a) Determination of the size of loss – Usually, for the simplification of the size of loss, a single value is shown, though practically that is not possible. The size of loss which a firm can bear is basically a function of time.
Obviously, the size of loss that a firm can absorb within its monthly cash flow will be far smaller than the loss that can be covered by the annual profit. For over an even larger period of time, the firm can tolerate a still larger loss by spreading the cost, by borrowing and repaying the loan over several years.
The company’s financial position, mainly the size of any free reserve, the liquidity, the size and stability of its profit also help to determine the size of risk.
(b) Corporate risk attitudes – Just as some individuals are more risk averse than others, so too are corporate bodies. Their attitude depends on the attitudes of the individuals, who collectively comprise the decision making body.
A firm may achieve a given amount of maximum profit and do nothing for loss prevention, neither goes for any insurance coverage. On the other hand the firm may decide to eliminate risk by purchasing insurance. This takes care of the uncertainty of risk, though at the cost of a premium.
This leads to three conclusions :
(i) Firm seeking to maximize short term profit, regardless of risk, would not spend on loss prevention or on insurance.
(ii) If the objective of the firm is to maximize the expected profit, then any expenditure on loss prevention is worth undertaking.
(iii) If the firm is prepared to forego some profit in order to achieve more stable earnings, then the firm can consider purchase of insurance.
(c)Measuring attitudes – Individuals may be neutral to risk, risk lover or risk averter. So a corporate enterprise, consists of individuals comprising the directors and member of the management.
Corporate attitude reflects the risk attitudes of the directors and the board members individually, and collectively.
(d) Nature of the Organization – Risk attitude of corporate also depend on the type of company. Apart from small traders and central government organizations, organizations can be considered under four main headings :
(i) joint stock companies
(ii) family – owned companies
(iii) nationalized industries and
(iv) local governments and public utilities.
