Decision Analysis for Management Judgment, 6th Edition

12Structured risk management

Introduction

In earlier chapters, we have shown how decision models can help managers to gain insights into decision problems that involve substantial elements of risk. However, the risks themselves have been treated as being unchangeable, and we have assumed that the manager simply has to accept them and make the best decision in light of them. This is not the way that many managers view their role.¹ In fact, rather than passively accepting risks, managers see it as their duty to take actions to reduce them. Indeed, many managers would go further than this and say that their role is also to identify opportunities.

With this perspective, the development of the decision model is seen as only part of a process that is designed to stimulate further thinking on how risks can be modified or actions made to yield even better returns than the current model indicates.² As Chapman and Ward³ point out, the two goals of reducing risk and pursuing opportunities need to be balanced – some opportunities will lead to increased risk, while reducing risk may be achieved at the expense of forgoing new opportunities. Decision models can provide a structure for achieving this balance. For example, a model may indicate that we should go ahead and launch a new product, but that this is associated with a 20% risk of a net present value (NPV) of −$15 million. The model can now be used to identify the sources of risk and select those that provide the best prospects ...