What Is Risk Appetite?

Life would be great if you didn´t need to worry about failed projects, cyberattacks, shoplifting, or other business risks. Unfortunately, every business venture carries varying degrees of risk. Successfully managing these risks is the hallmark of experienced entrepreneurs. To implement an effective risk framework for your organization, you need to understand what risk appetite is and how it connects with each area of your operations.

What Is Risk Appetite for Modern Businesses?

Put simply, your company’s risk appetite is the maximum amount of risk you’re willing to take on. Risk appetite defines the boundaries you set for acceptable risk levels after everything is said and done. Businesses usually apply it to residual risk, the level of risk remaining after you take risk mitigation actions.

An Acceptable Operating Range for Risk

You can think of risk appetite as the safe operating range of a vehicle’s motor. It’s normal for the engine to heat up on long trips, so you don’t worry as long as the need stays below the red. Once your check engine light or radiator warning light comes on, though, you pull over immediately and turn off the motor.

Examples of Risk Appetite in Practice

A good risk management framework outlines your risk appetite, including what you consider acceptable risk and where you draw the line for normal business operations or projects. Here are a few examples:

• Healthcare: “We will never put a patient in harm’s way through inaction. In the case of non-critical or non-life-threatening conditions, it is acceptable for patients to wait a maximum of two hours for ER medical care.”
• Mobile devices: “We allow employees to use personal devices to connect to non-sensitive files on our system. All endpoint devices must have lock screen/biometric controls and be MFA enabled.”
• Email security: “Employees are prohibited from requesting or implementing password changes via email. Voice chat is acceptable for this use, except for administrator-level personnel.”

Risk management requires you to make dozens of decisions regarding risk appetite for each department, from your relationship with software vendors to the disciplinary actions you apply for non-compliance.

Levels of Risk Appetite

Your brand identity, organizational culture, and business plan all play a role in determining your attitude toward risk. For example, a strong brand identity may lead you to avoid risks that could harm your reputation, while an innovative culture might encourage taking calculated risks. Similarly, your business plan may dictate a conservative approach if focused on long-term stability or a more aggressive stance if aiming for rapid growth. There are three main approaches to risk appetite:

• Conservative risk: Your business limits risk as much as possible, often opting for avoidance tactics.
• Moderate risk: You take a balanced approach, implementing risk mitigation strategies but taking chances when the benefits outweigh potential losses.
• Aggressive risk: You like to move fast and break things, actively looking for high-risk, high-reward opportunities.

A business with a conservative approach to risk appetite is likely to focus on stability, efficiency, and productivity gains for growth. Overall profit margins may be lower, but revenue is consistent. For example, think of family-owned businesses that have been around for 100 years or more, doing everything possible to maintain a good reputation.

In the case of product development, moderate and aggressive risk approaches are tied to cutting-edge technology and emerging trends. Conservative frameworks focus more on producing the same high-quality products with incremental changes.

Risk appetite also affects your approach to compliance. Aggressive organizations are more likely to take an “it’s not technically against the rules, at least not yet” approach. Conservative and moderate risk appetites comply with regulations because they represent industry best practices.

What Is the Purpose of Risk Appetite?

Contrary to what you may think, there’s no “right” or “wrong” level of acceptable risk. In fact, taking a conservative approach all the time can actually hinder your company’s growth, keeping you bogged down in “what ifs” instead of looking to future possibilities. Instead, a good risk appetite framework helps you define the following:

• How much risk you can handle to achieve important business goals
• Where your investment thresholds are for financial gain or loss
• How much overrun is acceptable for project timelines or budgets
• When mitigating circumstances are appropriate for employee misbehavior
• Where your minimums are for equipment or system uptime

It’s normal for your risk appetite to vary in different areas of your operations. For example, a defense contractor is likely to take a zero-tolerance approach to anything that puts government contracts in danger. Cybersecurity and compliance with CMMC and NIST 800-171 are strictly enforced. For non-critical systems, however, there may be much more leeway, including the same products for clients in a different industry.

Your goal with risk optimization isn´t to completely eliminate risk but to manage it strategically so you meet short- and long-term objectives.

What Is a Risk Appetite Framework?

A risk appetite framework is the system that implements your risk posture throughout your organization. This framework includes:

• Policies:How you plan to manage, mitigate, and prevent risk
• Procedures: Actions you require employees to take for risk mitigation in specific circumstances, such as updating software vulnerabilities within X hours
• Technology:Firewalls, anti-malware, network monitoring platforms
• Personnel:Assigned in-house or outsourced parties responsible for each risk mitigation process

When creating your risk appetite framework, it pays to consider the points of view of all stakeholders, not just management. What you consider acceptable risk may be very different from what employees, customers, investors, or regulators think.

What Is a Risk Statement?

If your risk appetite framework is the complete list of decisions and processes you have in place for enterprise risk management, then your risk statement is where you put those agreed-upon policies in writing. Your risk statement shows investors, consumers, business clients, employees, and government organizations where you stand on each element of risk.

Here’s what a risk statement consists of:

• Your overall approach to risk in each department
• Mitigation strategies and risk avoidance measures in place
• The implications and estimated impacts of your posture
• The reasoning behind your approach
• Ways that you are meeting compliance concerns and operational objectives

Always state the scope of your risk statement. Include as many specific examples or theoretical scenarios as possible.

Determine What Your Risk Appetite Is With an Enterprise Compliance Platform

It’s normal for your risk appetite to change over time as you gain more experience, increase your available capital, or carve out a stronger industry position for your business. Compliance platforms such as Compyl help you visualize your organization’s workflow, risk factors, and regulatory scope. Define your risk appetite with accurate data by getting in touch with us today.