Understanding Risk Management

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Questions and Answers

What is one of the possible outcomes Thompson considers regarding the market for storage sheds?

The market could be unpredictable.

The market could be favorable. (correct)

The market could be saturated.

The market could be stable.

What is the net profit expected from constructing a large facility in a favorable market?

$180,000

$200,000 (correct)

$100,000

What is the net loss expected if Thompson constructs a small plant in an unfavorable market?

$100,000

$20,000 (correct)

$180,000

Which of the following options represents an alternative Thompson is considering?

Constructing a small plant. Signup and view all the answers

If Thompson does nothing regarding the storage sheds, what will his profit be?

$0 Signup and view all the answers

What does Thompson's conditional value of $200,000 depend on?

Having a favorable market and building a large factory. Signup and view all the answers

What could Thompson evaluate to maximize his profits?

Comparing net profits from different facilities under varied market conditions. Signup and view all the answers

What risk does Thompson face with a small plant in an unfavorable market?

Net loss of $20,000. Signup and view all the answers

What does risk management aim to achieve?

Control and reduce the impact of risks Signup and view all the answers

Which principle is not part of ISO's risk management guidelines?

Be proactive and ignore stakeholder engagement Signup and view all the answers

In which step of the risk management process would you identify potential risks?

Identification of potential risks Signup and view all the answers

According to ISO, which of the following best describes the risk assessment stage?

Evaluating potential impacts and probabilities of risks Signup and view all the answers

What is a vital characteristic of a good risk management process?

It should be systematic and periodically reassessed Signup and view all the answers

Which of the following is NOT associated with risk in a business context?

Increased profitability Signup and view all the answers

What aspect does risk management NOT include?

Creating risks Signup and view all the answers

How should risk management be integrated within an organization according to ISO?

It should be an integral part of organizational processes Signup and view all the answers

What would be the net profit from a large facility if the market is favorable?

$200,000 Signup and view all the answers

What is the net loss associated with a small plant in an unfavorable market?

$20,000 Signup and view all the answers

Which of the following outcomes results from doing nothing in either market condition?

$0 profit Signup and view all the answers

In which type of decision-making environment does the decision maker know the consequences of every alternative?

Decision making under certainty Signup and view all the answers

What type of outcome can payoffs represent?

Both positive and negative values Signup and view all the answers

What is the expected net profit of a small plant in a favorable market?

$100,000 Signup and view all the answers

What would the decision maker face in a decision-making environment characterized by uncertainty?

Lack of clarity about any outcomes Signup and view all the answers

Which profit or loss value corresponds to a large facility in an unfavorable market?

$180,000 loss Signup and view all the answers

What is the annual return from a government Treasury bond paying 6% interest after 1 year on a $1,000 investment?

$60 Signup and view all the answers

Which statement best describes decision making under certainty?

The decision maker knows all possible outcomes and their probabilities. Signup and view all the answers

In decision making under risk, what do decision makers typically attempt to maximize?

Expected well-being Signup and view all the answers

What is the probability of being dealt a club from a standard deck of cards?

1/4 Signup and view all the answers

How is decision making under uncertainty characterized?

Some outcomes are known, but their probabilities are unknown. Signup and view all the answers

What outcome is guaranteed when investing in a savings account paying 4% versus a Treasury bond paying 6%?

The Treasury bond will yield a higher return. Signup and view all the answers

What is the probability of rolling a 5 on a standard six-sided die?

1/6 Signup and view all the answers

What characterizes decision making under risk compared to decision making under uncertainty?

Probabilities of outcomes are known. Signup and view all the answers

What does a probability of 0 indicate?

The event cannot occur. Signup and view all the answers

What characterizes a probability distribution?

It describes the likelihood of mutually exclusive events. Signup and view all the answers

How does knowledge of probabilities transform decision making from uncertainty to risk?

It provides a clear expectation of outcomes. Signup and view all the answers

In decision making under risk, what is typically desired regarding the payoff?

To maximize the expected payoff. Signup and view all the answers

Which scenario describes decision making under certainty?

Selecting an option where the payoff is guaranteed and known. Signup and view all the answers

Which of the following statements is true regarding the probability scale?

Probabilities range from 0 to 1, where 1 indicates certainty. Signup and view all the answers

In decision-making scenarios where lower values are preferred, what is the adjusted objective?

To minimize undesirable outcomes, such as costs. Signup and view all the answers

When faced with multiple decisions under uncertainty, what is a key factor to consider?

The potential market state and its impact on payoffs. Signup and view all the answers

Study Notes

Understanding Risk and Risk Management

Risk is the chance of an unfavorable event occurring and is present whenever future outcomes lack certainty.
Risk management involves assessing risks and developing strategies to control them, including identifying, analyzing, and mitigating potential changes.
According to ISO 31000, risk management includes the identification, assessment, prioritization of risks, and the strategic application of resources to minimize the impact of unfortunate events while maximizing opportunities.

Principles of Risk Management

Risk management should create value within an organization.
It must address uncertainties and assumptions effectively.
Integral part of organizational processes and decision-making.
Dynamic and responsive to change, ensuring transparency and adaptability.
Supports continuous improvement through systematic reassessment.

Risk Management Process Steps

Establish the context: Identify risks, stakeholder objectives, and framework for risk evaluation.
Identify potential risks: Analyze source(s) of the problems or situations.
Risk assessment: Evaluate the severity of impacts and probabilities; includes establishing profit thresholds based on market conditions.

Decision-Making Steps in Risk Management

Define the problem clearly, such as expanding a product line.
List possible alternatives to address the problem.
Identify outcomes or states of nature, which are scenarios beyond decision-maker control, such as market demand.
Create a payoff table to assess potential profit/loss for each alternative under various scenarios.

Decision-Making Environments

Under certainty: Decision makers are aware of the exact outcomes and will choose the alternative that maximizes their outcome.
Under uncertainty: Outcomes of alternatives are unknown, and probabilities cannot be determined.
Under risk: Decision makers know the probabilities of various outcomes and aim to maximize expected well-being.

Probability in Decision Making

Provides a framework to mathematically express the likelihood of events occurring.
Probabilities range from 0 (impossible) to 1 (certain).
In Thompson Lumber's example, decisions are made under uncertainty if the state of nature's probabilities are unknown, but transition to risk when probabilities can be calculated.

Application of Decision Making

Payoff decision criteria often prioritize maximizing profits or returns.
In situations where minimizing costs or penalties is desired, criteria would be adjusted to focus on minimizing negative outcomes instead.

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Description

Explore the fundamentals of risk and risk management in this quiz. Learn about the principles, processes, and the importance of effective risk management within organizations. Gain insights into ISO 31000 and how to create value by addressing uncertainties and improving decision-making.