PM 508: Managing Risk – Project and BusinessWeek 1 – Lecture

A Company’s Behavior and Perception of Risk Organizational Tolerance to Risk and the Value

of Risk ManagementPrepared by: Dr. P. SaadatCity University of Seattle

April 4, 2016

AgendaA company’s behavior and perception of risk

The key element that shapes and influences the firm’s risk-taking behavior

How to gain an understanding of a company’s perception of and behavior towards risk?

Tolerance to risk and value of risk management How is tolerance determined? What is the firm attempting to achieve by adopting a

specific risk management approach?

Behavior and Perception of RiskRisk: Rosa (2003) defines risk as “a situation

or an event where something of human value (including humans themselves) is at stake and where the outcome is uncertain” (p. 56).

Behavior and Perception of RiskRisk Perception: Sjöberg, Moen, and Rundm

(2004) define risk perception as, “the subjective assessment of the probability of a specified type of accident happening and how concerned we are with the consequences” (p. 8). It includes evaluations of the probability as well as the

consequences of a negative outcome.Perception of risk goes beyond the individual, and it is a

social and cultural construct reflecting values, symbols, history, and ideology (Weinstein, 1989).

Behavior and Perception of RiskRisk behavior and perception is primarily shaped

and influenced by:Trial and error (i.e., experience) conducted by the company

Dependent on quality of organizational learningMental models or strategic frame: How the company

perceives the world and the way it operates (Senge, 2006). Employment of “vicarious selection system”: Replacing

time with intelligence (e.g., IBM took option B and failed, so we should be careful with this alternative) (Cohn, 2009; Cox, 2008).

Behavior and Perception of RiskIdeal trial and error process (Taleb, 2012):

Managing the process in a way to obtain more gain than loss,

Keeping generative results,Disregarding 50/50 options, Creating options to choose from (i.e., optionality), andSetting the process in a manner in which the failure of

one component (i.e., error) does not lead to the failure of the rest of the system (e.g., Banks affecting other sectors during the 2008 market crash).

Gaining an Understanding of a Firm’s Behavior and Perception of Risk

Reviewing the company’s history (related to results gained via trial and error): How has the company evolved since establishment?Highly Important: Has the company been learning

effectively from its mistakes (i.e., what to avoid)? How has the company utilized and treated lessons learned?

(e.g., Is “Solution A” that was considered high risk a few years ago still a high risk alternative?)

Simply ask yourself, “Why is the firm currently behaving this way towards risk?” Explore and extract the influential factors from the firm’s evolutionary path.

Let’s Get Technical: A Risk-Focused Assessment of a Company

Analyze the position of and behavior towards risk within key organizational components.

Make sense of the firm’s risk tolerance (risk taker vs. risk avoider) by conducting internal and external assessments/analysis, which is a key step in strategic planning.

Analyzing Risk within Key Organizational Components

Sample components (informed by McKinsey 7-S Model):

Strategy: “How much risk are we taking by implementing this strategy?” Structure: “We have adopted a decentralized (i.e., temporary and loose) structure to foster innovation,

despite potential risks.” System: How does the workforce network manage and respond to risk as a whole? (a holistic

perspective) Style: Do managers foster employee autonomy and self-management (e.g., Google) or a top-down

approach (e.g., construction firms)? An emphasis is placed on the nature of decision-making: collective vs. individual; a tradeoff between the risk that the company takes in decision-making and potential gains that could be achieved by moving beyond conventional ways of thinking and decision-making.

Staff: How does the company train its staff to prepare them for risks? Shared values: Some values are consistent with a high degree of risk-taking such as ones set by software

companies, whereas other values are more consistent with risk avoidance (firms within slower industries such as construction).

Skills: What dominant attributes and distinctive competencies related to risk management exist in key personnel and the organization as a whole? (Waterman, Peters, & Phillips, 1980).

Making Sense of the Firm’s Risk ToleranceUltimate goal: Preparing the workforce

(internal resources) in a way that it could manage risk and respond to external factors and conditions effectively, in a timely manner.More knowledgeable and skilled staff (high intellectual

capacity) = More robust against random events Less knowledgeable and skilled workforce = Less risk

taking

Making Sense of the Firm’s Risk ToleranceKey factors to analyze (David, 2013; Porter,

2008): Internal assessment

Planning Organizing Motivation Staffing Controlling Marketing Finance/Accounting Operations and technology

Making Sense of the Firm’s Risk ToleranceKey factors to analyze (David, 2013; Porter,

2008): External assessment (an emphasis on environmental

factors) Rivalry among competing firms Potential entry of new competitors Potential development of substitute products Bargaining power of suppliers Bargaining power of consumers

Value of Risk ManagementBecome robust Gain from randomness a.k.a becoming

antifragile (Taleb, 2012). This is a very ideal state and highly difficult to achieve. Example: Trump

Negative publicity = More votes Positive publicity = More votes No publicity = More votes Thus, he gains from randomness, disorder, and time (i.e.,

antifragile).

References Cohn, M. (2009). Succeeding with agile: Software development using scrum. Boston, MA: Addison-Wesley

Professional. Cox, R. (2008). Vicarious learning and case-based teaching: Developing health science students’ clinical

reasoning skills. Retrieved from http://www.tlrp.org/pub/documents/CoxRB54final.pdf David, F. R. (2013). Strategic management: Concepts and cases. Upper Saddle River, NJ: Prentice-Hall. Porter, M. (2008). The five competitive forces that shape strategy. Harvard Business Review, January, 2-18. Rosa, E. A. ( 2003). The logical structure of the social amplification of risk framework (SARF):

Metatheoretical foundation and policy implications. In N. K. Pidgeon, R.E.and Slovic, P (Ed.), The social amplification of risk. (pp. 47-79). Cambridge: Cambridge University Press.

Senge, P. M. (2006). The fifth discipline: The art & practice of the learning organization. New York, NY: Doubleday.

Sjöberg, L., Moen, B., & Rundmo, T. (2004). Explaining risk perception: An evaluation of the psychometric paradigm in risk perception research. Retrieved from www.svt.ntnu.no/psy/torbjorn.rundmo/psychometric_paradigm.pdf

Taleb, N. (2012). Antifragile: Things that gain from disorder. New York, NY: The Random House Publishing Group.

Waterman, R. H., Peters, T., & Phillips, J. R. (1980). Structure is not organization. Business Horizons, 23(3), 14-26.

Weinstein, N. D. (1980). Unrealistic optimism about future life events. J. Pers. Soc. Psychol., 39(5), 806-820.