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7. The Concept of Project Risk

Introduction

Risk is inherent in all project activities and can be managed provided it is understood. The author in a survey of members of the Australian Institute of Project Managers (AIPM) found that 'understanding the risk concept' was the greatest concern to participants among the project risk management issues that they ranked (Fink 2012). The finding questioned the ability of project managers to recognise the complexity of project risk. A detailed discussion of the study and its findings is provided in Appendix 1.

What is Project Risk? - The Basics

There are many definitions of risk as it relates to projects. Among the more common perspectives is that project risk is an uncertain event or condition that, if it occurs, has a positive or negative effect on the project objective. An alternative view is that the accomplishment of a project is rarely possible without taking risks. Project risk is like exercise: no pain, no gain. Two important conclusions can be drawn from the definitions. First, risk can be any uncertainty in a project and, second, it is possible to control risk. This means that risk is integral to project planning and therefore can be managed. However, as experience has shown, not all risks can or should be managed. Project risk management should focus on high-risk, resource-consuming tasks to obtain the best cost-benefit effect.

RISK SOURCES

Risks arise from a wide variety of sources. They are both internal and external to the project and one could think of many examples. Take the risks involved when embarking on a construction project overseas. Internal risk to the project could be the lack of management experience in overseas project activities or costs increase beyond the financial capability of the firm. External risk for such a project may arise from regulatory requirements (e.g. causing lengthy approval processes) and political problems (e.g. the extent of corruption) encountered in the foreign country.

There are many factors that determine the presence of risk. The following are examples of how risk can be identified:

• By uncertainty. The term is often used interchangeably with risk, although the classic view is that they differ. This is explained in a following section.

• By insurable risk. Risks can be quantified and included in an insurance policy. The amount insured when a specified risk event or condition occurs is determined by agreement between the insurer and the insured.

• By impact on project elements. Components that are critical to the execution of the project are identified and assessed for risks. An example is if project members critical to the completion of the project because of their specialised skills suddenly depart from the project.

• By their nature. Project risks can be of a positive or negative nature, as reasoned in previous chapters.

• By their probability of occurence. The likelihood of the risk to occur can be estimated. The higher the probability, and its likely consequence, the greater the need to develop a risk response strategy.

• By the amount at stake. A cost-benefit analysis determines the nature of the risk response so that the cost of reducing or exploiting the risk does not exceed the amount to be protected or gained.

UNCERTAINTY SPECTRUM

Risk is often, and one can say usually, associated with the term uncertainty. Uncertainty can be viewed like an iceberg: much is hidden under the surface. On a continuum, uncertainty ranges from total uncertainty to total certainty. Or, differently expressed, the uncertainty spectrum ranges from 'unknown unknowns' to 'known knowns'. There is a link to the availability of information, i.e. 'no information' to 'complete information'. The scope of project risk management covers the full spectrum of uncertainty, as shown in Figure 7.1.

Uncertainty spectrum of project risk management

Figure 7.1 Uncertainty spectrum of project risk management

Obviously, risk is easier to identify, manage and monitor where information is complete ('known knowns') than when uncertainty is high. At the extreme end ('unknown unknowns'), it is not possible to 'manage' risk except to provide what is termed a 'reserve' to cater for risk exposure that may occur in future. It is the extent of the unknowns that represents the unseen aspect of the iceberg.

 
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