The Risk Management Process: Major Risk Control Techniques
By J. Bradley Karl
Sunday, February 25, 2018
Whether you realize it or not, risk permeates every aspect of our business and our personal lives.
The problem with risk is that its presence burdens individuals and businesses in ways that lead to real economic costs. As a result, many individuals and business seek to manage risk in ways that help to reduce the burdens and costs of risk by utilizing the risk management process.
Following this general process implies that, after identifying and evaluating risk, an individual and/or organization must select an appropriate technique to address a particular risk.
Many techniques are available for managing risk but this article will focus on some of the common risk control techniques that are available to individuals and/or organizations seeking to manage risk.
Risk control techniques refer to techniques that reduce the frequency or severity of losses. They are different from risk financing techniques because, instead of providing funding for losses after they happen, risk control techniques are pre-loss measures that attempt to make potential losses smaller and/or occur less often.
One risk control technique is avoidance, which means that a risk is never acquired or is abandoned. For example, a business can avoid potential product liability losses by not manufacturing dangerous products.
While avoidance is an advantageous risk control technique, it is not always practical and individuals or organizations often turn to other risk control techniques, such as loss prevention or loss reduction.
Loss prevention measures attempt to reduce the frequency of losses. For example, the number of losses resulting from equipment breakdown can be reduced by having equipment regularly inspected and the number of auto accidents can be reduced by practicing defensive driving techniques. In contrast, loss reduction measures are intended to reduce the severity of losses. For example, wearing a seatbelt can reduce the severity of an individual’s injuries during a car accident and installing automatic fire sprinklers can reduce the amount of damage caused by a fire inside a commercial building.
Still other risk control technique include duplication, separation, and diversification.
Duplication involves creating additional copies of important documents or acquiring duplicates of important property. Backing-up accounts receivables records, inventory records, or having spare parts on hand for key pieces of production equipment are all examples of duplication measures.
Separation involves dividing assets in such a way that losses arising from a single event are minimized. A manufacturer who, for example, stores finished product in two different buildings located on different sides of town has attempted to control risk by reducing the likelihood that a single event (e.g. fire, tornado, theft, etc.) destroys all of the finished product at one time.
Similar to separation, diversification involves spreading risk across different parties in a manner that reduces overall risk. For example, relying on a single supplier of materials can be associated with risk (e.g. a fire loss to the supplier’s operations will prevent the purchaser from making their product) but one can diversify this risk by strategically entering into contracts with several suppliers.
Of course, much more can be said in regards to risk control techniques and, more generally, the risk management process. However, by implementing appropriate risk control techniques, it might be possible for individuals and businesses to reduce some of the burden and cost of risk.
Individuals and business organizations seeking to learn more about risk control techniques should consult with a licensed or qualified risk management or insurance professional.
J. Bradley Karl is an assistant professor in the Department of Finance at East Carolina University.