Sector - Finance & Legislation
Managing Low-Probability, High-Impact Risks
Bill Zuurbier is chairman of risk management consultancy, Equib, which specialises in advising teams involved in the delivery of major-scale infrastructure programmes.
Since the start of the coronavirus pandemic, project managers, through no fault of their own, have been in reactive mode, moving quickly to mitigate the impact of the crisis on construction project outcomes. However, it’s now vital that they dedicate time to reflecting on what they have learned about managing low-probability, high-impact risks and make positive changes for the future.
Among many project managers, there may be a tendency to shelve concerns about extreme risk events on the basis that they are unlikely to happen. However, renowned mega project expert, Bent Flyvbjerg, has recently coined the term “law of regression to the tail”, arguing that it is only a matter of time until an event even more extreme than the current pandemic comes to pass; such crises can no longer be considered once-in-a-lifetime occurrences. He suggests that for a number of reasons, including humans’ increasing impact on the natural world, extreme events are becoming the ‘new normal’ and low-probability, high-impact risks should therefore be a key consideration in risk management plans.
An essential aspect of planning for extreme events, such as future pandemics and natural disasters, is to focus on impact over risk probability. Rather than simply hoping that risks won’t happen, project managers should identify a range of risks and rank them according to the severity of their potential impact in the early stages of a project. This will ensure stakeholders are better prepared, with plans in place for a range of potential situations.
It’s important to bear in mind that for every project, there will be a tipping point where investment in the management of low-probability risks becomes uneconomical. Making effective use of cost-benefit ratios can aid decision-making by enabling project managers to assess when to invest in risk, and to what extent.
From the early planning phase of a project, project managers should ensure that all parties involved have considered and understood a range of possible risks. Holding risk awareness workshops and conducting assumption analyses enables them to explore how stakeholders feel about specific risks and their likely impact, supporting informed decision-making. Raising risk awareness also educates staff on site about the importance of informing clients if they become aware of any risk, no matter how extreme.
The pandemic has also highlighted the importance of ensuring that insurance policies cover events that may seem unlikely to happen. When taking out cover, it’s essential that project managers carefully consider the wording and terms of individual policies, looking for any exclusions or limitations that could mean they are not covered for business disruption.
With business interruption insurance premiums likely to increase significantly after the pandemic, another important strategy is to determine risk allocation carefully when negotiating commercial contracts, from a whole of supply chain perspective. This should involve considering which party is best positioned to manage risk, before discussing a number of possible mitigation strategies. Once risk allocation has been agreed, this should also be clearly recorded in any terms and conditions. In some instances, a business may be willing to take responsibility for managing a key risk, but not necessarily wish to assume any liability.
For every risk identified during risk assessments, project managers should use one of the five key principles of risk mitigation – eliminate, transfer, mitigate, accept or exploit – to manage it to a tolerable level. With regards to the final principle, it’s important to note that risks can sometimes pose opportunities for project outcomes, which project managers should look to take advantage of wherever possible.
As demonstrated by the coronavirus outbreak and the increased prevalence of natural disasters in recent years, the incidence of low-probability, high-impact risks is increasing. By ensuring such risks are considered at the planning stage and mitigation strategies secure adequate investment at the outset of programmes, project managers can be prepared for the unexpected.
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