Risk and Procurement

Management
Unit 1
 What is Risk
• Risk is often defined as the chance of
something bad happening
• Everything we do exposes us to some sort of
risk:
– Walking across the street
– Going down a flight of stairs
– Driving home
– Playing sport
 Defining risk
• Risk = the potential for unwanted or adverse
consequences to life, property or health.
• Risk = the probability or frequency of an event
multiplied by the impact or consequence of
the event
• Risk = an uncertain event or condition that, if
it occurs, has a positive or negative effect on a
project objective.
 Sources of risk
• Risks may be endogenous i.e. from inside the
organisation
• Risks may be exogenous i.e. from outside the
organisation
• Endogenous risks are normally more
controllable than those originating outside but
are, in many ways, more difficult to detect or
anticipate
 Types of risk
• Pure or insurable risk
• Business risk
• Project risk
• Operations risk
• Technical risk
• Political risk
 Exercise – individual perceptions of risk

• Write down on a piece of paper the most risky

thing you have done in your life.
• Think about what you have written:
– Is it something that put you physically at risk
– Is it something that put your idea of yourself at
risk
– Is it something you think everyone would think
was a significant risk?
 Personality and risk taking
• Risk is both personal and societal i.e. it is
something that we perceive on an individual
basis and also it is something that people in
general consider.
• Our attitude to risk differs – if not we would
not have people willing to be fire-fighters,
soldiers or astronauts.
 Calculated Risk
• But how do we calculate risk?
• Students when asked to rank risks from a
selection chose the highest risks to their
health as being: nuclear power; road accidents
and violent crime.
• A group of risk experts when asked to rank
risks for the same group of students chose:
road accidents; drinking alcohol and road
accidents.
 Utility
• As individuals we seek utility not simple
financial returns
• Utility is the subjective value we assign to
something – I might like taking risks and
therefore select risky options. I might dislike
taking risks and therefore go for safe options
 Utility chart
• ‘ Utility Value

Risk neutral

Risk avoider

Risk lover

Monetary
Value
 Individual, business and project risks
• We may be risk adverse i.e. we seek to avoid
risk or we may be risk seeking i.e. we like to
take risks.
• But as a business manager or project manager
we should not let our emotions guide us – we
need to be risk neutral.
• We need to take calculated risks.
 Identifying and calculating risk 1
• People are not objective: we may walk across
the city to save £5 on a £15 calculator but not
bother to save £5 on a £10,000 car.
• When faced with getting £1000 with certainty
or having a 50% chance of gaining £2500
most people might chose the £1000. But the
mathematical expectation is £1250 so the
calculated risk approach is to take the chance
 Identifying and calculating risk 2
• The same people when faced with a certain loss
of £1000 versus a 50% chance of no loss or a
£2500 loss often chose the risk even though it is
essentially a negative version of the previous bet
• When facing a business or project risk we need to
calculate risks rather than go with our
emotionally preferred options i.e. we select for
highest monetary value (expected value) not for
utility (highest psychological value) .
 Limitations of calculating risk
• It is often quite difficult to determine or
calculate a business or project risk.
• This may be because there is little information
available or because time is short or because
it is not possible to identify or quantify all of
the risks that face us.
• We can structure risks in order to improve our
chance of making the right choices.