Simply put:

Financial Impact of Risk = Probability of Risky Event Occurrence * Financial Impact (Cost) of the Risky Event

Let’s walk through two examples:

Company CleanAll is exploring the possibility of introducing a new product “Engine Cleaner Pro” which will add to its current line of engine cleaning products. So what could possibly go wrong in this situation? There is a 30% chance that current consumers of CleanAll could get confused between the new product and its current line resulting in a loss of market share. “Engine Cleaner Pro” has a 50% chance of cannibalizing the market share of the older product “Engine Cleaner 1.0”.

Shirkforce Inc. is interested in investing in modern workplace tools that will significantly enhance the productivity of its desk workers through faster and efficient collaboration. The new tool has significantly unique workflows that are likely to disrupt productivity in the short term. There is a 50% chance that the first month after the adoption of the new tool, workers would be extremely confused with the new process flows resulting in a significant loss of productivity. Given the already alarming employee turnover in this industry, it is likely that the new tool would further increase HR turnover by another 2%.  

Using the two examples above, it is important to realize that the probability of a risky event is not the same. For example, in the workforce example, the likelihood of confusion is going to decrease over time once the employees complete their training. Similarly, with greater penetration of “Engine Cleaner Pro”, consumers could get less confused with CleanAll’s product line.

In my next post, I will discuss how a risk calculation is almost similar to cost calculation except for the probability of occurrence.