What Is Risk Management and Why Is It Important?

Risk management is the process of evaluating and controlling an organization’s internal and external risks. It mitigates reputational and financial damage, but it isn’t always easy to implement. Various risk management frameworks, most popularly the ISO 31000, provide roadmaps for businesses to follow.

Human beings encounter risks every day. We even have strategies to mitigate them: We wear our seatbelts. We look both ways before we cross the street. We may not even think twice about it. 

Businesses also encounter risks — and they need to think twice about them. This calls for a foolproof risk management strategy that protects their reputation and revenue, so they can focus on growth. In this article, we’ll go over what risk management is, why it is important and how to implement a risk management plan in your organization. 

What Is Risk Management?

Risk management is a process that identifies, analyzes, responds to and controls risk within an organization. Its goal is to anticipate internal and external threats and mitigate damage. It has many applications: Investment firms, financial advisors and healthcare institutions all implement risk management systems. Businesses also apply risk management to help them determine how risks could affect their growth and revenue. 

Why Is Risk Management Important?

Every business needs a risk management protocol to help its leaders prepare for every possibility and make smart decisions. Unforeseen events can negatively impact a business in a number of ways, from damaging reputation and customer trust to lowering stock values and sales. With a plan in place to address and control risk, businesses can protect themselves from financial burden and improve their chances of success.

Pros and Cons of Risk Management 

As with any protocol, there are both pros and cons of risk management. The advantages include:

• Improved risk identification, mitigation and avoidance
• Established company-wide best practices for risk response
• More accurate decision-making and goal setting
• Better communication and more engagement among team members
• An atmosphere of openness and visibility

Business leaders should also be aware of potential drawbacks:

• A large investment of time and money
• Problems integrating into existing systems
• Employee nonadherence
• Introduction of new risks as business treats existing risks

Risk Management Frameworks

Businesses follow several risk management frameworks (RMFs), based on their size, processes, technology integrations and compliance requirements. Below is a brief list of the most common ones in use today.

ISO 31000

The International Organization for Standardization first published the ISO 31000 standard in 2009 and updated it in 2018. It outlines a framework and process for managing risk effectively and consistently. 

BS 31100

The British Standard (BS) 31100 is a set of recommendations for implementing the concepts described in ISO 31000. The British Standards Institution published the first edition in 2011 and updated the guidelines in 2021.

COSO ERM Framework

The Committee of Sponsoring Organizations (COSO) is a risk management, governance and fraud deterrence firm that first published the Enterprise Risk Management—Integrated Framework in 2004 and updated it in 2017. 

Risk Maturity Model 

The Risk and Insurance Management Society publishes the Risk Maturity Model (RMM). Businesses take a free assessment, and the model then helps them integrate any of the various specialized ERM frameworks, including the ISO 31000 and COSO ERM. 

ISO 31000 Five-Step Risk Management Framework

Many businesses choose the ISO 31000 framework because it is an international standard and one of the oldest. It outlines five steps for risk management.

1. Identification

The organization identifies all possible risks, both within and outside of its control. These risks can be tangible or intangible, direct threats or vulnerabilities, internal or external and existing or emerging. The organization also identifies existing attitudes and knowledge about its risks.

2. Analysis

The organization uses qualitative and quantitative techniques to evaluate each risk, including its source, consequences, complexity, volatility and effects on business objectives. The organization also establishes the likelihood that the event will occur and its level of confidence in dealing with it.

3. Evaluation

The organization now evaluates how to proceed with each risk, using established risk management criteria to prioritize risks based on their probability and consequences. The organization can choose to do nothing, keep remaining controls in place when adequate, undertake further analysis or treat the risk.

4. Treatment

An organization has several options for risk treatment, including avoiding the risk, sharing the risk, removing its source, altering its probability or minimizing its consequences. To treat the risk, the organization must select treatment options, make and implement a plan, assess its effectiveness and decide if the remaining risk is acceptable or if further treatment is needed. 

5. Monitoring and Review

The organization records every phase of its risk management process, including its plans, implementation and outcomes and periodically reviews this information. This helps the organization see what works, what doesn’t and how to improve outcomes.

Risk Management Best Practices: ISO 31000's Eight Principles 

ISO 31000 also includes a set of eight principles for organizations to follow as they implement the framework:

1. Risk management is fully integrated into the organization’s processes and is part of the decision-making process for all leadership.
2. Risk management is structured and comprehensive, with standardized guidelines and procedures that result in consistent, comparable results.
3. Risk management is customized to the organization’s unique internal and external environments and is related to its objectives.
4. Risk management is inclusive of every department and all stakeholders, does not use confusing jargon and considers a variety of viewpoints.
5. Risk management is dynamic and responds with agility to emerging and changing threats, as well as changing knowledge and context within an organization.
6. Risk management uses the best available information, both historic and current, presented in a timely and clear manner.
7. Risk management recognizes human and cultural factors that influence the organization’s capabilities.
8. Risk management requires continual improvement based on learning and experience for the organization to gain resilience.

How to Create and Implement a Risk Management Plan 

Risk management involves framework development and integration, assessment, treatment when needed, monitoring outcomes and continually improving processes. Businesses interested in creating a risk management plan should:

1. Choose a risk management framework
2. Ensure buy-in from top leaders and stakeholders 
3. Customize the framework for their organization
4. Integrate risk management processes company-wide
5. Assign risk responsibilities within each department
6. Allow each risk owner to identify, evaluate and mitigate risks
7. Record and review all strategies and outcomes
8. Refine processes as both risks and the organization evolve

Final Thoughts: Risk Management Trends

Risk management is always evolving. Business leaders need to stay up to date on their organization’s growth, culture and processes, as well as the latest risk trends, including:

• Increasing risks to reputation in a hyper-connected world of socially conscious, connected consumers. 
• Leveraging behavioral science to understand how cognitive bias affects risk, what drives risky decisions and more.
• Using machine learning and artificial intelligence to predict future threats, monitor emerging threats and reduce the impact of risk.
• Shifting the organizational mindset from fear, avoidance and compliance to one that embraces risk as a performance driver.

Top Takeaways

What Is Risk Management and Why Is It Important?

• Risk management is how an organization identifies, analyzes, responds to and controls risks to its growth and revenue.
• Organizations that manage risk well protect themselves from financial problems and make better decisions. 
• Risk management frameworks include ISO 31000, BS 31100, COSO ERM Framework and the Risk Maturity Model.
• ISO 31000 is a popular framework that includes five steps for risk management: Identification, Analysis, Evaluation, Treatment and Monitoring and Review.
• Business leaders should stay up to date on trends like increasing reputational risks, emerging science and technology and shifting mindsets.

(Reporting by NPD)