business risk formula
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Formula of Integral Business Risk

Decision makers at enterprises believe the progress is closely linked to the use of models and methods that apply to different situations.

It is difficult to make a decision when there is no possible option for solving the problem. When the situation is unique and the models of solution do not exist at all, the probability of taking a right decision seems even more unsubstantial. If you cannot identify the risks and calculate their impact on business, it is difficult to define the direction in which the company should move.

Risk and Losses

Quite often, the experts simply identify the risks. They perform risk assessment in several ways. The first one is to express the impact of risk through the losses it may cause.

Losses are the unscheduled costs of an enterprise to finance the needs that might not have occurred. For example, if an enterprise struggles with a new competitor on the market, the loss of revenue from sales may represent a measure of the risk. To calculate the losses, you should add revenues from the sales of all players on the market and divide them considering an additional competitor. Of course, such calculations cannot be accurate, but they allow understand the approximate volume of losses.

If the situation relates to the risks associated with business decisions at the enterprise, then the losses are estimated by the amount of investments that may not generate income. When it comes to the release of a new product, then the risk is the total of all costs the enterprise incurs to manufacture this product.

How to Calculate the Value of Risk

There is no generally accepted formula for calculating business risks. However, a methodology helping determine the degree of the risk exposure still exists. To begin with, the experts identify all types of risks the company encounters. The results form a list as follows:

  • political risk
  • risk of legislation changes
  • risk of the appearance of a new competitor
  • ecological risk
  • scientific and technical risk
  • risk of staff shortage.

Formula of Business Risk

Business Risk = W*R + W1*R1 + … + Wn*Rn

where

  • W – weight of risk factor;
  • R – risk factor;
  • 1-n – amount of risk factors

For each of the risks, the experts assign the significance from 0 to 1 or from 0 to 100% (if they measure the risks in percentage). After, it’s necessary to form the list of risks with the greatest or smallest impact on the activity of the enterprise.

Next, each of the specialists who are aware of certain types of risk assesses their significance among all other risks. For example, if the media reported about legislation changes regarding the import of certain goods and the company actively purchases goods from abroad, then the risk of legislative change is 0.8 or 80%. Thus, each of the risks has an assessment and significance for the enterprise.

Multiplying the assessment and significance of each type of risk, you’ll receive the overall impact of a factor on the company’s activity. The procedure requires to sum up all of these risks. Then it’s necessary to compare the obtained results with the previous metrics or average values in the industry. The smaller the value of the indicator, the more favorable the situation for the business is.

Never combine the factors of external and internal influence calculating the integral index. Assessing internal factors requires the application of a similar method of calculations or any other one. Experts do not sum up the risks of the external and internal environment. Each of them has an individual impact on the company. Therefore, they are considered as separate indicators.

For more information on the issue, read in our article about external and internal factors of influence on business risks.

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