a concept where a company/business identifies risk and deems any potential loss from it acceptable.
Accepting Risk Details
The world is full of many risks. As a business entity, there's always a risk associated with existing, growing, and thriving. Accepting risk or risk acceptance is a concept where a person or business identifies risk and decides that the potential loss from it is not significant enough to warrant spending money to avoid it. Identified risks considered bearable and or worth it by a business also fall under the risk acceptance concept.
Accepting risk is not a crazy concept. Think of your personal life. Every day you wake up and take certain risks to make it through the day, from burning yourself while you cook to getting hit by a bus on your way to work. Each day, people accept certain risks to live, grow and thrive.
Businesses apply this very same principle. While the concept of accepting risk is common in investment businesses and insurance companies, it is a standard business practice. A team can carefully look through certain risks before launching a product/service or investing and decide to accept it. This process, known as risk assessment, is done by every person subconsciously and consciously. And also by every company everywhere like insurance companies.
Significance of accepting risk
Many businesses employ a variety of risk assessment and management techniques to evaluate and classify risks properly. Accepting risk usually requires the business to carefully consider the cost of managing the risk versus the benefits of accepting it.
The sources of potential risk are usually many, including natural disasters, political unrest, customer dissatisfaction, and in recent days, cancel culture. Accepting risk, therefore, is equated to self-insurance. It is the strength to take on potential risk knowing that it could be detrimental to the business to gain more in the long run.
The choice a business makes in accepting risk is usually concerning small day-to-day financial distresses. However, business enterprises may sometimes accept the risk that could be potentially catastrophic and whose insurance costs are not feasible.
Risk acceptance is a valuable part of budgeting and financial planning/goal-setting for any business organization. Making minor tradeoffs to keep the business running is a crucial part of business growth. An informed and rewarding business practice is to approach each fiscal year knowing that certain risks are unavoidable. It is also rewarding to a business if the risk analysis team agrees not to avoid certain risks to increase sales/clients and give a better investment return.
Examples of Accepting risks in Business
To understand risk acceptance well, consider this example. A manufacturer of espresso machines gets their bolts from one machine parts company. Without these specific bolts, the manufacturing of the espresso machines at the factory is impossible. The probability estimate that the machine parts company cannot provide these bolts is 0.5% per annum. Espresso Machine company management decides that this is a risk worth taking.
Another valid example is one of a hair salon and spa. This spa and salon only use products from a natural product line. Since the spa's brand is all about au natural, clients come expecting these products. Without them, the salon would lose its clientele and either close or have to rebrand. The probability prediction that the natural products are unavailable is 1.12% per annum. The salon owner decides that this is an acceptable risk to take.
Accepting Risks vs. Avoiding Risks
While accepting small risks is a given in any business, taking risks with more catastrophic consequences is not always the answer. Risk avoidance involves eliminating any activity that poses potential loss. It is an ideal risk management system for risks that are more likely to cause a severe or fatal impact on a business.
Risk avoidance usually follows the same path as risk acceptance, but instead of writing off the risk, policies and procedures are put in place to avoid it. Avoiding risks is prudent for any situation that the business cannot come back from. It means that the consequences of the risk would have you restructure your business or completely give up on it.
For example, if a company produces bicycles and relies on only one tire production company. This tire production company is unreliable with delivery and the probability of them not delivering tires is 33% per annum. It is too great a risk for a bicycle company. They have to avoid the risk by hiring a new tire company and terminating the contract with the old one.
Accepting risks is all about risk analysis and management. Every business has to do what makes the most financial sense to them.