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Understanding and managing risk
Understanding and managing risk

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1.1 Risk management

The objective of Managing financial risk is not only to investigate the nature of different financial risks – looking at how they arise and how their extent can be measured – but also to explore how these risks, along with non-financial risks, can be managed. In your working life you may not play a direct role in financial risk management, but it is virtually inevitable that:

  • Your organisation will, through its routine operations, generate or expose itself to at least some of the risks we examine. Understanding these risks is therefore essential for those wishing to develop well-rounded managerial competence.
  • Your internal dealings with staff may link you to those who do have direct risk management responsibilities and understanding the nature of financial risks will help when having discussions or negotiations with them.
  • For at least part of your career, you may work within your organisation’s finance department which has risk management responsibilities across the organisation’s balance sheet. Alternatively, you may have responsibility for auditing the work of the treasury function.
  • In your dealings with customers and clients, you need to be aware of financial risks that may arise from the sale of products and the provision of services.

Box 1 'Organisation'

Throughout this free course, ‘organisation’ will be used as the generic term when referring to companies, governmental and other public sector bodies and ‘not-for-profit’ entities. The specific term for a particular type of organisation – e.g. ‘company’ – will, though, be used when referring to matters that are solely related to that particular type of organisation.

Additionally, if you make it to a senior management position – and particularly if you are on the board of a company or the senior management committee (or equivalent) of a public sector organisation – you will have managerial responsibility for those in the front line of financial risk management. If you lack competence in financial risk management you will not be in a position to perform your executive responsibilities properly. Indeed, you may recall the global banking crisis in 2007 and 2008 when executive and non-executive directors manifestly did not understand the financial risks that their banks were running, or turned a deaf ear to internal whistle-blowers who had highlighted the risk management failures in their bank’s business activities.

In the future, you may want to pursue a career in risk management – with an organisation, an auditing company or perhaps a regulatory body. The risk management business has grown over the past three decades in reaction to the glaringly apparent risk management failings of organisations. Certainly, since the global banking crisis, risk management has become a major growth area for employment around the world.

The objective, then, is to teach you the skills you need:

  • in general management for managing financial risks
  • if you are a risk management practitioner.

The study of risk management also requires an understanding of the International Financial Reporting Standards (IFRS) that apply to how financial instruments are used by organisations to manage financial risks. The key standard in this regard is IFRS 7 which covers disclosures in financial statements in respect of financial instruments. While the disclosures relate to accounting matters, they are of key relevance to the subject of risk management. This is because investors and other stakeholders will examine the disclosures made under IFRS 7 to help ascertain how exposed an organisation is to financial risks. Additionally, the very fact that these disclosures have to be made places a requirement on the managers of organisations to consider how they are currently managing financial risks – and this requirement should focus their minds on whether they are managing these risks properly!

Benjamin Franklin said that nothing was certain except death and taxes; the economist and 1990 Nobel prize winner Merton Miller revised this in his work on capital structure to debt and taxes. I think they both left out one other certainty – risk – but at least we can sometimes do something about risk and not merely allow the inevitable to happen!