Risk Assessment Process: What Is It and How it Differs from Risk Management and Risk Analysis?

Running a business comes with different types of potential risks. These risks can arise from malpractices, lack of efficiency in operations, cyber-attacks, exposed vulnerabilities in your firewall, failed internal control processes, loss of key people, external events, and more. Some of these can destroy a business, while others can cause severe damage to business operations that is costly and time-consuming to repair.

But although risks are implicit to doing business, and their consequences can be destructive, it’s possible to identify and anticipate risks and be prepared to avoid, prevent, or minimize their damage when they occur. Companies of all sizes use the business risk assessment process to identify potential hazards and their consequences, take measures to reduce them, create disaster recovery plans, and purchase insurance to protect against what might be outside of their control.

Risk Assessment Process

Risk can be defined as the probability of harmful consequences or expected losses resulting from interactions between natural or human-induced hazards and vulnerable conditions. Risk assessment is the systematic process that involves identifying hazards that could negatively impact an organization’s ability to conduct business. Assessing risk is just one part of the overall process used to control risks. It’s essential to proactively identify risks, analyze what could happen if risky events occur, and address risks in all settings.

An effective risk assessment process is based on a series of steps that include:

  • Identifying risk
  • Assessing the extent of the risk
  • Determining whether action needs to be taken to reduce the risk
  • Taking action and evaluating the results of the action.

This process typically starts with a series of questions to establish an inventory of assets, procedures, processes, and personnel. This allows you to understand which of your assets pose the highest risk. Usually, the risk is calculated as the impact of an event multiplied by the frequency or probability of the event. You need to provide a cost/benefit analysis to determine which risks are acceptable and which must be mitigated.

Different business risks can be internal or external. They vary by industry, and thetypes of risk you face are specific to your business and its objectives. But it is vital to assess all potential risks to get a bigger picture and manage them effectively.

Some common risk categories you need to consider are:

  • Natural disasters, such as floods, storms, and drought
  • Legal, such as insurance issues, contractual breaches, resolving disputes, non-compliance with regulation
  • Regulatory and government policy changes, for example, water restrictions, quarantine restrictions, carbon emission restrictions, and tax
  • Economic and financial, for example, global financial events, interest rate increases, cash flow shortages, customers not paying
  • Technology, including computer network failures and problems caused by using outdated equipment
  • Work health and safety, including serious injury or illness, dangerous incidents, accidents caused by materials, equipment, or location of your work
  • Security, for example, data breach, theft, fraud, loss of intellectual property, and online security and fraud
  • Property and equipment, including damage from natural disasters, burst water pipes, robbery, and vandalism
  • Market, for example, increased competition and changes in consumer preferences
  • Environmental, for example, climate change, chemical spills, and pollution.

You should also consider third-party risks that can significantly affect your business. To protect yourself, you need to thoroughly assess all risks associated with vendors, suppliers, service providers, partners, consultants, and contractors. It’s critical to perform due diligence using a risk-based approach to vet the third parties you want to do business with. Assessing vendor risks involves a lot of work and can be very time-consuming, so using software to improve efficiency is the best approach.

Risk Assessment Methodology

There are two prevailing methodologies for assessing the different types of internal or external risk: quantitative and qualitative. Methods for risk assessment may differ between industries and organizations, but you should choose the risk assessment methodology that is best suited for your organization’s process.

Here are some of the most used methods of risk assessment that can help identify risk, assess it appropriately, and help in the risk management process:

  • What-if analysis is a structured brainstorming method of determining what things can go wrong and judging the likelihood and undesired consequences of those situations occurring.
  • Fault tree analysis (FTA) is a risk assessment tool that takes undesirable events or faults and represents them in a tree-like structure, using simple logic and graphical design.
  • Failure mode event analysis (FMEA) is a step-by-step approach for identifying all possible failures in a process, product, or service, prioritizing them, and studying the consequences of those failures.
  • Hazard operability analysis (HAZOP) is a systematic assessment tool used to identify and address potential hazards in industrial processes before an incident occurs; it can be used for a periodic review of existing operations.
  • Incident Bowtie method is a visual way of understanding the impacts of a hazard, the risk it presents, the possible negative consequences, and the adequate controls that should be put in place.
  • Event tree analysis can be used in risk assessments to determine the probability of possible negative outcomes that can cause harm. It makes it more straightforward to assess what pathway creates the most significant probability of failure for a specific system.

Quantitative Risk Assessments

The quantitative risk assessment is used to measure risk by assigning a numerical value using algorithms and collected data. It is based on objective processes, verifiable data, and metrics. The results can be expressed in management-specific language, such as the monetary value of expected losses associated with a particular risk and probability. You get monetary results that could help you avoid spending too much time and money on reducing negligible risks.

This approach to assessing risk can be complex and rather time-consuming because it requires preliminary work to collect and quantify different information related to risk. Besides, you should keep in mind that quantitative measures of risk are only meaningful when you have good data.

Qualitative Risk Assessments

The qualitative risk assessment is the most common form of risk assessment. It is based on the personal judgment and expertise of the assessor, and it is more experience-based than quantitative risk analysis. Qualitative risk assessment categorizes risks based on probability and impact. Each risk might be ranked with such adjectives as:

  • Low – unlikely to occur or impact your business
  • Medium – possible to occur and impact
  • Severe – likely to occur and impact your business significantly.

When you determine your ratings, you create a risk assessment matrix that allows you to increase the visibility of risks based on multiplying the likelihood that an event will occur by the impact the event will have on your company. The qualitative approach is simpler because there are no complex calculations, but the quality of its results depends on the expertise and quality of a risk management team.

Often, the best approach to risk assessment is to combine elements of both quantitative and qualitative analysis. You can use the quantitative data to assess the value of assets and loss expectancy and also involve people in your company to gain their expert insight. It may take time and effort, but it can also result in an in-depth understanding of the risks and better data than each method would provide alone.

Risk Assessment vs. Risk Analysis

Although many people use the words “to assess” and “to analyze” interchangeably, they have different meanings for risk management. So what is the difference between risk assessment vs. risk analysis?

Risk assessment is a broader process that focuses on the risks that internal and external threats pose to your company’s data availability, confidentiality, and integrity. To assess risks thoroughly, you have to spot all the possible events that can negatively impact your data ecosystem and data environment. You need to review all the potential threats to your business data. That means you need to be aware of the risks that are inherent in your company’s data environment and the risks posed by vendors, suppliers, and other third parties.

As to risk analysis, it is often a subcomponent of the larger risk assessment process. Risk analysis deals with identifying specific risks and potential threats to a company’s operations or processes. Then, analyzing those risks to measure their severity of impact and likelihood of occurrence.

When you analyze risk, you start by focusing on the certain risks that you identified and then determine the extent of the potential damage they can cause. A meaningful analysis evaluates the significance of certain risks and enables the comparison of different options to prioritize them and inform the decision-making process. This micro-level process aims to provide the best possible information about loss exposure and the options for dealing with it. Risk analysis provides a basis for risk evaluation and decisions about risk control.

Risk Analysis Methods

Risk analysis examines each identified risk and assigns it a score using one of two scoring methodologies: quantitative or qualitative.

Qualitative risk analysis methods can be used when the level of risk is low and doesn’t warrant the time and resources necessary for a full analysis. Companies can also use these methods when there are no adequate numerical data available for more quantitative analysis.

The qualitative methods include:

  • Brainstorming
  • Questionnaire and structured interviews
  • Evaluation for multidisciplinary groups
  • Judgment of specialists and experts (Delphi Technique)

Quantitative methods enable risk management teams to assign values of occurrence to the various risks they identify. In other words, these methods make it possible to calculate the level of risk. Some quantitative risk analysis methods include:

  • Analysis of likelihood
  • Analysis of consequences
  • Computer simulation

Risk Assessment vs. Risk Management

Now let’s take a closer look at the difference between risk assessment vs. risk management. Risk management is an overarching umbrella term which includes both risk assessment and risk analysis. It’s a macro-level process that involves identifying, analyzing, evaluating, and prioritizing current and potential risks to build a strategy to mitigate threats to a company’s assets and earnings.

Effective risk management allows you to address loss exposures, monitor risk control and financial resources to minimize possible adverse effects of the potential loss. It also involves taking steps to reduce risk to an acceptable level. Moreover, a comprehensive risk management strategy allows you to maximize your efforts in using all available opportunities to avoid risk and identify potential opportunities that may be hidden in the situation.

Types of Risk Management Strategies

There are four fundamental ways to manage risks and respond to them:

  • Avoiding risk works to remove the chance of a risk becoming a reality or posing a threat altogether. Avoiding an activity or position that may cause risk is the most straightforward risk management strategy you can take.
  • Accepting risks might be the best response when risk is unlikely to occur or if the impact is minimal. Then you choose to live with consequences.
  • Mitigating risks may be the best option if a risk poses a real threat or problem, and avoidance or acceptance won’t work. It involves identifying the risk, assessing all possible solutions, devising a plan, taking action, and monitoring the results.
  • Transferring risks is the option when you can’t accept, avoid or mitigate risks. Then you can transfer them to the other parties, for example, an insurance company or a business partner.

Final Thoughts

The business risk applies to any event or circumstance that has the potential to prevent you from achieving your business goals or objectives. You should understand what type of risk you are facing before you decide how to deal with it.

Without identifying risks and evaluating them, it is difficult to successfully define your business objectives and set out strategies for achieving them. The best practice is to integrate business risk management with developing your strategy and business planning. An efficient risk assessment process allows you to control and often prevent the financial, organizational, legal, and other ramifications of different internal and external risks.

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