In the present-day business scenario, the ever-evolving threat landscape poses compliance risk, cybersecurity and fraud risk, and even climate change risk, which can significantly affect a company’s profitability. External factors such as the COVID-19 pandemic emphasize the urgent need for businesses to devise a risk assessment plan that assists them in executing strategies and accomplishing objectives.
While it is impossible to eliminate business risk entirely, taking preventive measures is the best insurance against loss. A risk assessment matrix aids in defining, assessing, and analyzing risks, which helps businesses gain a thorough understanding of their risk environment and manage risks before they occur. This not only saves the company money, time, and resources but also helps build trust among stakeholders.
This article will break down the process of creating a risk assessment matrix in four easy steps and guide you on how to maintain your risk matrix to identify emerging threats continually.
Table of Contents
What is a Risk Assessment Matrix?
A risk assessment matrix, also known as a Probability and Severity risk matrix, is a visual tool that represents potential risks affecting a business. The risk matrix is based on two factors, namely the likelihood of the risk event occurring and the potential impact that the risk event will have on the business.
In other words, it is a tool that helps businesses visualize the probability and severity of potential risks.
Based on likelihood and severity, risks can be classified as high, moderate, or low. As a part of the risk management process, companies use risk matrices to prioritize different risks and develop an appropriate mitigation strategy.
For instance, in the case of biotech healthcare enterprises facing the risks of the coronavirus pandemic, the supply-chain disruption would be classified as high-level risk, an event with a high probability of occurrence and a significant impact on the business. On the other hand, the need for first aid or minor medical treatment for staff would be a low-level risk, an event that might occur but would have a negligible impact.
However, even rare risk events can have a considerable impact on business outcomes. For instance, although rare in the biotech industry, a fatal workplace injury would be a high-impact event and would be reported to OHSA. Therefore, it is essential to have an accurate picture of all the potential risks your business faces to assess their impact and develop a successful risk management plan.
Having a risk assessment matrix in place can help companies manage potential risks proactively and reduce the impact of any adverse events on their business operations.
The Function of a Risk Assessment Matrix Explained
Risks can take many forms, ranging from strategic and operational to financial and external. To provide a comprehensive overview of potential hazards, a risk assessment matrix is utilized. This chart displays different types of risks in various colors, each representing their severity: red for high risks, yellow for moderate risks, and green for low risks. Additionally, the risk matrix includes two axes: one measures the probability of a risk event, and the other measures its impact.
For example, a likely risk event may have a 61 to 90 percent chance of happening, while highly unlikely events are rare, with less than a 10 percent chance of occurring. Depending on a business’s risk appetite, a minor impact may cause a negligible amount of damage, such as a loss of less than a thousand. However, a catastrophic impact could cause losses of a million or more.
By setting parameters for a risk event’s likelihood and impact, the risk assessment matrix provides an overview of the threat landscape. This visualization allows audit, risk, and compliance professionals to identify “value killers,” loss events that can substantially impact a company.
Why is a Risk Matrix Significant?
A risk assessment matrix is essential to help businesses develop a solid understanding of their risk environment. It enables them to manage risks proactively, minimizing the possibility of unforeseen issues. With the ongoing COVID-19 pandemic, unprecedented natural disasters, and global civil unrest highlighted as significant risks by KPMG’s Internal Audit, businesses need to identify, analyze, and mitigate potential hazards promptly. The risk assessment matrix provides a quick and easy way to identify potential risks and develop strategies to mitigate them.
The risk assessment matrix is a vital tool in risk management, and it serves three critical purposes:
1. Prioritization of Risks Made Easy
Not all risks are equal. A risk matrix enables you to prioritize the most severe risks that your company may face. Having a comprehensive understanding of the current threat landscape is crucial in preventing loss of value. While every business must undertake some level of risk to succeed, calculated risks based on a thorough risk analysis will help businesses take on risks that aid in achieving objectives.
Although it may be tempting to devote resources to all possible business risks, some operational risks, such as severe reputational damage due to the breach of private data or a significant increase in operational costs resulting from a natural disaster, must be given priority over others.
By using color coding to identify these risks in a risk assessment matrix, audit, risk, and compliance professionals can pinpoint the most pressing threats to the business and plan accordingly.
2. Targeted Risk Management Strategy
Just as all risks are not created equal, not all risks carry the same impact. With the prioritization of the most critical threats, the risk assessment matrix enables professionals to develop a targeted strategy for managing high-risk events. Focusing attention and resources on the most significant risks benefits overall business strategy, as these risks pose the most substantial impact and can lead to the most significant value losses.
For example, from a project management perspective, a minor bottleneck in the project workflow would create little impact, provided there was enough float at the beginning of the project design. However, a cost risk that significantly escalates the project cost would have a severe impact and require a targeted management plan.
As any project manager knows, Murphy’s law is inevitable: what can go wrong will go wrong. Planning appropriately for cost risk due to factors like scope creep will ensure project success. With the aid of the risk matrix, planning for Murphy’s law becomes much easier.
3. Real-Time View of the Changing Risk Environment
Audit, risk, and compliance professionals understand that risks can emerge and recur. The risk assessment matrix allows you to identify specific risk types, their probability, and their severity, and maintain a real-time view of the evolving risk environment.
Although emergent risks are by definition unknown, businesses can identify strategic-level vulnerability areas by strengthening their enterprise risk management processes. By examining early warning signs or trigger events that indicate something is amiss, companies can maintain business continuity in an increasingly dynamic and complex risk landscape.
Strategic risk assessment tools, such as the risk matrix, also enable companies to track risk patterns, and threats that are likely to recur and, therefore, require a year-over-year mitigation strategy.
How to Make a Risk Assessment Matrix?
Creating a risk assessment matrix may seem like a daunting task, especially with the constantly growing magnitude and complexity of business risks. However, it doesn’t have to be complicated. In fact, there are four basic steps to making a risk assessment matrix:
Step 1: Identify the Risk Landscape
To begin, it’s essential to develop a comprehensive picture of the total risk landscape. This involves holding brainstorming sessions with key stakeholders in your organization to generate a list of ideas that will serve as the foundation of your risk assessment matrix. By categorizing risks into:
- strategic
- operational
- financial
- and external risks l>
- high
- medium
- low risk
You can ensure that you capture a wide variety of stakeholder input.
Step 2: Determine the Risk Criteria
Once you have identified the risks associated with the larger risk landscape, determine the criteria by which you will evaluate these risks. Typically, risk assessment matrices use two intersecting criteria: likelihood and impact. Achieving consensus on the risk criteria is critical, as it will impact not only the way you calculate your risk matrix but also the discussions you will have on how to mitigate your risks.
Step 3: Assess the Risks
After determining the risk criteria, assess the risks based on those criteria and provide a qualitative risk analysis according to a pre-defined scale. Most organizations use a three-part scale to assess severity:
However, expanding the scale to a “1-5” rating could provide more insight into levels of severity and help companies allocate resources more efficiently.
Step 4: Prioritize the Risks
Finally, compare the different levels of risk to the risk criteria and prioritize those risks that pose the highest likelihood and impact. Create a risk assessment plan that effectively mitigates these risks.
It’s important to keep in mind that the risk landscape is constantly evolving, and the risk assessment matrix should be updated multiple times a year to reflect the changing risk environment. Failure to update the risk assessment strategy could result in missing emerging risks that may disrupt business objectives and continuity.
Creating a risk assessment matrix can be a straightforward process by following these four basic steps. By identifying the risk landscape, determining the risk criteria, assessing the risks, and prioritizing them, companies can effectively manage their risks and ensure business continuity.
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How to Determine the Likelihood of a Risk Occurring?
To gauge the possibility of a risk, one must understand how likely it is to occur. Inaccurate assessments may lead to a missed chance to prevent unnecessary losses. To assess risk likelihood, companies usually utilize the five categories listed below:
Highly Likely: These risks have a probability of over 91% and are practically guaranteed to occur.
Likely: Risks with a 61-90% chance of happening fall into this category. These risks need regular attention and a consistent strategy to mitigate their impact.
Possible: Risks that have a 41-60% chance of occurring are classified as possible. They need attention and could occur at any time.
Unlikely: Risks in this category have an 11-40% chance of occurring. They may still affect the business, so it is wise to monitor them.
Highly Unlikely: Risks with a probability of less than 10% are classified as highly unlikely.
How to Take Care of Your Risk Assessment Matrix
To properly address the challenges of today and tomorrow, a risk assessment matrix requires consistent attention and iteration since the modern threat landscape is always changing.
Successful identification of emerging threats and proper allocation of resources to mitigate their impact requires regular assessment of both internal and external risk events. Professionals in the audit, risk, and compliance field are aware that change is the only constant.
By utilizing the risk assessment matrix, businesses can more easily establish a solid enterprise risk management program or strengthen internal controls to prevent fraud and other risks.
Are You Prepared to Minimize Risks?
Utilizing a risk assessment matrix for risk management is not only capable of reducing the likelihood of risks that your business may face, but it can also diminish the impact of these risks on your business operations. Managing risk effectively has always been crucial for success in any business, but it is even more crucial today.
A crucial aspect of your risk strategy should involve managing your company’s risks by incorporating integrated risk management software that encourages collaboration and visibility of risks to enhance the efficacy of your risk management programs.
How to Utilize the Risk Assessment Matrix?
Upon completion of the risk assessment process, you can begin entering data into the matrix. A risk assessment matrix typically utilizes two axes, one measuring the likelihood and the other gauging the consequence result.
Likelihood: Probability of a Risk
Based on the likelihood of a risk occurring, the risk can be categorized into the following:
Almost Guaranteed Risks: These are risks that are likely to occur during the execution of the project, with a probability of over 85%.
Likely Risks: These are risks that have a probability of occurrence ranging from 60% to 80%.
Occasional Risks: These are risks that have a probability of occurrence of 50/50.
Seldom Risks: These are risks that have a low probability of occurrence.
Unlikely Risks: These are risks that have almost no chance of occurring.
Consequences: Severity of Impact or Extent of Damage Caused by the Risk
The consequences of risk can be categorized into the following five levels, based on the extent of the damage that can be caused:
Insignificant Risks: These are risks that can cause a negligible amount of damage.
Minor Risks: These are risks that have a small potential for negative effects.
Moderate Risks: These are risks that do not pose a significant threat but can cause considerable damage.
Critical Risks: These are risks that have substantial negative effects and can seriously impact the success of a project.
Catastrophic Risks: These are risks that result from human error, procedural deficiencies, environmental factors, or major system loss. These risks require the operation to be closed and are potentially catastrophic.
Knowing the components of a risk assessment matrix is critical. This knowledge will assist you and your organization in managing risk effectively and reducing workplace incidents.
The risk assessment matrix is a document that must be maintained and updated with curiosity, as risks are constantly evolving, and the matrix must reflect this evolution. Certain events may trigger the need for a refresh, such as establishing an enterprise risk management program.
How frequently should you update your risk assessment matrix?
The frequency of updating a risk assessment matrix depends on the type of project and the potential hazards it may pose. Projects that entail higher degrees of uncertainty may require more frequent updates, whereas projects with lower levels of risk may require more frequent but fewer updates.
In general, risk assessment matrices should be evaluated and updated frequently during a project to ensure that they accurately capture its current state and any changes in risk.
What are the limitations of a risk assessment matrix?
Despite their value, risk assessment matrices have significant limitations. Firstly, the accuracy of risk assessment matrices is affected by the quality of the data and the assumptions made about the likelihood and severity of hazards. Secondly, creating a risk assessment matrix can be time-consuming and resource-intensive, especially for larger projects.
Overreliance on risk assessment matrices may also lead to the identification and management of recognized hazards, ignoring developing threats. To ensure the successful detection and management of possible risks, it is crucial to use risk assessment matrices in combination with other risk management tools and approaches.
What is the difference between qualitative and quantitative risk assessment matrices?
When it comes to assessing potential risks, quantitative matrices utilize statistical information to determine the likelihood of a hazard occurring and its potential impact. In contrast, qualitative matrices rely on subjective evaluations of the probability and severity of the risk.
Quantitative matrices are more advanced and typically more appropriate for larger and more intricate projects, while qualitative matrices are simpler and more appropriate for smaller tasks.
By using statistical data, quantitative matrices provide a more objective approach to risk assessment, enabling organizations to make informed decisions based on reliable data.
However, qualitative matrices offer a more flexible approach, allowing for subjective assessments that are better suited to tasks that do not require complex calculations.
Ultimately, both methods have their advantages and disadvantages, and it is up to the organization to determine which method is best suited for their particular needs.
How is a risk assessment matrix used in project management?
A risk assessment matrix holds paramount importance in project management as it empowers project teams to identify and categorize potential hazards appropriately. Through the evaluation of the likelihood and severity of risks, project managers can strategize backup plans, allocate resources prudently, and minimize the impact of potential hazards on the project outcome.
Additionally, the matrix can play a pivotal role in notifying stakeholders about potential risks and implementing preventative measures to manage such risks.
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