Process Of Effective And Efficient Project Risk Management Finance Essay
The main purpose of part one aims to solve the question that what aspects should be focused in the process of an effective and efficient project risk management. After a general comprehension of this unit, the answer can be found in the course materials and associated reading. The following part will pay attention to these key aspects need to be concerned.
An effective and efficient project risk management process can be divided into nine phases. The following five phases are belonging to the qualitative part of the process.
First of all, at the stance of the whole project risk management process, the phase of defining the project is essential. In this phase, all the project definition for the risk management purposes should be clarified. It requires the risk manager to integrate the relevant information and cover the gaps in the process at a strategy level with a familiar to the nature of risks. It also asks all the staff involved in the process to finish some common tasks such as document, verify, assess and report. In addition, feedbacks should be taken in time when the definition confronts flaws in 6Ws framework and stages of life cycle. The importance of this phase is based on the purpose that it is the foundation of every following phase. When every detailed specification is emphasized, the process of delivering the project will be quite simple.
The second aspect need to be concerned in an effective and efficient project risk management process is “focus the process” phase. First of all, it is essential to identify process parties. Senior managers, all other relevant managers, all relevant technical experts and risk analysis team involves in this phase need to be dealt with. Secondly, it is crucial as well to clarify process objectives for reasons that the objectives may be relevant with risk efficiency and others. Besides, some other process issues like approach, process resources, timing and plan need to be emphasized. Some key concerns need to be addressed in practice. For example, in a particular application, generic process objectives may be not appropriate. In addition, the process should be shaped according to appropriate objectives and other important drivers.
The third aspect in a process is “identify the issues”. In this phase, the key point is to finish the issue identification that whether it is fit for the purpose or not. First of all, two specific tasks need to be focused and finished. The first one is searching for source of risk and responses and relevant techniques. The second one is classifying a suitable structure. Besides, the threats and opportunities need to be identified as well as the corresponding responses.
After discussing the third part, it can move to the next phase of “structure the issues”. As it has structured in the former phases in the process, this phase is concerned with reviewing and extending the former structure. Four specific tasks need to be undertaken. They are developing orderings, exploring interactions, refining classifications and other restructuring. After finishing these tasks, it is necessary to check whether it is fit for the purpose or not which is the same with the identification phase.
The last qualitative aspect in the process is “clarify ownership” phase. Some failure of risk management normally associated with an incorrect allocation of ownership and risks which shows the importance of clarifying ownership in an effective and efficient project risk management process. It involves two specific tasks: scope the policy and plan the contracts. In this phase, the nature of the phase needs to be change according to the different position of iterative cycles.
Move on to the next part, it is the quantitative part of the process. Two main phases will involve in this part.
First of all, in the estimate phase, the purpose of this phase is to identify the areas in a project which is uncertainty and therefore analyzing them in terms of data. The three specific tasks are selecting an appropriate risk, scoping the uncertainty and refining earlier estimates. The estimate phase is the basic of the judgements of risks and its responses. Specifically, it is necessary to assess whether it is useful to quantify the risk after selecting a risk. If the answer is yes, move on to the next task for scoping the uncertainty. In this step, some modeling and probability problem which is based on current perceptions will involve and they need to be addressed to measure the risk. Based on the result of scoping, we need to make a decision to assess the necessity of restructuring. Similarly, a procedure of refining earlier estimates should be undertaken by analyzing the impact of the estimated risk. At the same time, the usefulness of refining needs to be assessed.
The next aspect in quantitative part is the evaluate phase. The purpose is to evaluating the results of the estimate phase. There are some specific tasks. The evaluate phase specific tasks can be described as follows. The first point is to select an appropriate subset of risks from the estimate phase. Then it should be integrated for assess whether it need to restructure to clarify dependence or not. When passing these two tasks, it is necessary to portray the effect to provide an overall insight for the result users. The final task is to diagnose the implications including sensitivity, data needs, decision needs, risk efficiency and risk trade-offs. Assessing the best next step would happen after finishing both of these tasks.
After understanding and refining each phase details by qualitative and quantitative analysis, it is crucial not to forget to harness the plan which is limited to the life cycle. It is an essential part for implementation that it plans every detailed phase and the whole project at a strategy level. It should not only consolidate reference plans and explain the risk analysis, but also select action horizons and elaborate effective and efficiency base plans as well as contingency plans. At last, it need support and convince the rationality of the plans. The project can be stopped or revisit earlier phase by assessing the problems. If everything is good enough, it can be move to the manage phase.
With the harness phase finished, it is certainty to start to manage implementation. It means the project started. Some issue need to be addressed in the manage phase. Getting the result from the harness phase, we should pay attention to manage planned actions, roll actions plans forward, monitor and control, manage crises and disasters. It has to re-plan for the significant problem and repeat the former steps unless everything is good in the control assessment.
As it is described in the part one, we can find that there are lots of aspects need to be focused on if it tends to be an effective and efficient project risk management process. Both of these factors have their points to support themselves.
Some of them believe that the cost estimating, planning and control caused by uncertainty are quite important in the process of project risk and uncertainty management. Actually, any project risk management cannot leave the process of cost estimating, planning and control. Stephen grey (1995) point out that the assessments of uncertainty affecting cost should be made before any commitments, which shows the importance of uncertainty management.
Some of them hold a view that a good understanding of relevant historical background and knowledge about the evolution of concepts, model and process is crucial to an effective and efficient project risk management.
Another opinion is that we should put an emphasis on the project risk management process and project life cycle including risk drivers, assumptions in terms of phase details, harness plans and manage implementation. Chapman et al (2006) concluded that in the uncertainty management, the use of a process which distinguish different stages of the project life cycle will promote a systematic approach to stakeholder management.
It is clearly seen that each of them play a key role in an effective and efficient project risk management process. Any effective and efficient project risk management process cannot be without any of them. However, Goodwin &Wright (2004) argues that the decision analysis is only intending to solve a decision problem but not to solve a decision problem. Their purpose is to help the decision makers make better decision by producing insight and promoting creativity. It will involve a question that how to convert the qualitative result into measurable quantitative factors which can make a visible effort on the decision.
There are some views that the most important part of an effective and efficient project risk management process is the overall project evaluation in which risk decision-making is based on the whole project life cycle. The framework they believed is the net present value (NPV) method. Dale cooper et al (2005) points out that the net present value is the criteria for project decisions about the acceptability or feasibility. This kind of project evaluation is based on the discounted cash flow analysis. For a single project, if the NPV is positive, it means it is worth doing. If the NPV is negative, the project is not worth doing. For a comparison of two selective projects, the more the NPV is, more reasonable it should be adapted. Some issues need to be aware. Firstly, an analysis to the parameters is necessary, which ensuring the NPV model is suitable to the project. After that, we should choose the right test framework on the basis of purpose, because every test should be used in different situation and requirement. In addition, the scenario analysis can always depict uncertainty. So it is important to illustrate with scenarios. Dale cooper et al (2005) also claims that there are lots of advantages of undertaking risk assessment for project including economic evaluation, financial feasibility, project optimization and project management. Firstly, it meets the requirement of transferring the qualitative to quantitative. Almost every factor which can influence the project will be reflected on the fluctuation of the cash flow or discount rate. Secondary, Compared with other key aspects, it is an overview sight at a strategy level, and it is easy to connect to other project at a corporate level. Besides, it can be viewed as a conclusion of former analysis steps. Any result got from the former steps will contribute to consummate the NPV model.
Chapman & Ward(2006) describe the decision making analysis framework into two objectives. First of all, it requires maximizing the expected net present value of the planned investments. After that, the objective is seeking for the best balance point between maximizing NPV and associated downside risk. At the same time, it should take other reasonable concerns and other portfolio into account. Dale cooper et al (2005) give us two approaches can be adopted when risk and uncertainty involve in the cash flow, increasing the discount rate as a result of risk premium and generating a distribution of NPV by using a tool.
According to Dale cooper et al (2005), the net present value structure framework can be divided into four steps. First of all, it requires find supporting models by estimating cost, predicting on sales and operations. After that the supporting model can be integrated into some financial sub-models such as the capital sash profile, revenue profile and operating cost profile. In the third step, all the information and models can be concluded into a main risk model which is based on the cash flow risk model. At last, we can get the risk model outputs by using software to analysis the main risk model.
In the first two parts, some key aspects in the project risk management process have been discussed. In the Part three, the main purpose is critical thinking that how to apply this aspects into practice in other risk management areas. In the part one, there are a large number of aspects need to be focused on, NPV is just one of the methods can be involved in an effective and efficient project risk management process for an overall project evaluation in some phases. However, in the part2, according to further analysis, NPV framework can be used in quite a wide range and the references has showed the importance of NPV in project risk management. Simultaneously, some flaws and key aspects need to be noticed. In this part, the concentration will move to other risk management areas. The application of the net present value framework in financial risk management will be emphasized and discussed.
Take a bond investment case as an example, if there are two bond investment products with the same issue price, the same coupon rate and the same period, both of them are a portfolio of par bond. However, one is Japanese government bond while another one is corporate bond issued by Google. In this case, these two choices are in different background so that the risk they face will be distinct which can influence the cash flow in the future.
According to the NPV framework, if there is no risk and uncertainty involving, the yield to maturity is fixed which can be calculated considering the inflation factor and other factors which will influence the yield to maturity value. It is evident that the comparison between the two NPV values will be processed. When the NPV value is negative, it means the bond is not worth to invest because the return on this investment cannot balance the borrowing cost. When the NPV value is both positive, it means the bond is worth to invest because the return on this investment will excess the cost of borrowing. But a comparison is necessary between these two. It is tend to choose the bigger NPV value one without considering the exchange rate or other factors. However, in practice, risk and uncertainty is always company with investments. The Japanese government bond is facing interest risk, default risk and other risks while the corporate bond issued by Google is facing operating risk, market risk and liquidity risk. So it is not possible to calculate the yield to maturity value directly. It requires us select between the two approaches mentioned in NPV framework. The first approach is to collect risk information such as the inflation level or interest trend in the future to calculate the risk premium which raise the requirement of cash flow. However, this approach is not always appropriate in practice, because some information especially subjective factors like operating risk cannot be collected currently. The second approach is more popular in practice which is generating a distribution of NPV by using a tool for decision making. According to Dale cooper et al (2005), it has a large number of advantages. Specifically, at first it allows the decision makers to select a risk level they can tolerate. Normally, Default rate of bond cannot be estimated from the historical data, the change of interest rate depends on the government judgement and the operating risk is decided by the quality of the staff. Besides, the distribution can provide some additional information of risks and their responses which are important in planning phase and managing phase in the process. The risk evaluation model should be structured by a main risk model which requires financial sub-models. In this case, some factors need to be considered. First of all, it is the capital cash profile of investment on the bond from the financial sectors. In addition, the revenue profile model which is fluctuated according to different interest and inflation level in every particular time period need to be considered. Besides, the operating cost here is equal to cost of keeping the bonds well.
Based on the analysis and discussion above, it can be concluded that the NPV framework can not only apply in the project risk management area but also in other risk management areas, because the generic issues is same in different areas. However, some adjustment is also need to make it suitable to the NPV framework.
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