Financial Risk Management Essay

  • Length: 8 pages
  • Sources: 4
  • Subject: Business
  • Type: Essay
  • Paper: #66778481

Excerpt from Essay :

Financial Risk Management

Over the past decade, there have been tons of arguments over financial risk management especially if it is logically defensible in financial terms. Most risk managers have been able to observe both a better acceptance of their discipline along with a better enthusiasm on the part of businesses to employ the word "risk management." In the financing and banking business, nevertheless, these attitudinal changes have donated to a condition where the manager of pure risk has gotten lost among the hordes of financial risk managers. The thing that makes this situation widespread and debatable by all sides is the fact that the management of financial risk, otherwise recognized as balance sheet, speculative market, or, more generally, business risk, is the financial society's trade and stock. The argument has always been that finance has been founded on two supports: risk and expected returns. In times such as today, it is very important to emphasis the necessity to properly weigh the latter when making, or instructing people in, investment and financial decisions. With that said, this paper will discuss engagement in the debate of the current issues in financial risk management; particularly the implications of the use of hedging techniques for firm value.

What is Risk Management?

Many argue that financial risk management has different meanings but most would say that it is a procedure that involves businesses setting up procedures to define their guiding principle on accommodating financial risk. People that have been working in financial risk management are not the ones out there making investment decisions for a corporation. Instead, those people are producing the rules that the risk-takers will have to pursue when examining investments that are being considered for the business. Financial risk management is described as the procedures and practices that a corporation utilizes in order to enhance the quantity of risk it controls with its monetary interests. Many debate that in a business, the senior leaders that practices financial risk management will need to create a policy that is written on financial risks they are ready to receive and follow that procedure (Buckley, 2005). Others argue that it is there job to also monitor all of the risks taken, and discharge reports on the outcomes of these risks to aid with examining them.

Management Strategies by Non-financial firms

There are a lot of arguments that are for Management Strategies by Non-financial firms especially those that are against the use risk management strategies by non-financial firms. According to Stephens (2001) besides aiding businesses in avoiding economic death, strategic management provides other noticeable advantages, for instance an improved consciousness of external threats, and better understanding of competitors' procedures, improved employee output, less resistance to change, and a clearer understanding of presentation-incentive relationships. Those that argued against would proclaim that strategic management increases the problem-prevention proficiencies of corporations for the reason that it endorses communication among managers at every functional and divisional level.

They believe that interaction is not good because it will allow companies to turn on their employees and managers by cultivating them, sharing organizational goals with them, enabling them to help make the service or product better, and identifying their contributions. Furthermore to bringing the power to the employees and managers, strategic management repeatedly brings discipline and order to an otherwise struggling company. To some critics, this could be the start of an effective and productive system. Strategic management could possibly reintroduce sureness in the present business strategy or possibly look at the need for corrective actions that are corrective. The strategic-management procedure is what gives a foundation for recognizing and justifying the want for change to all employees and managers of a company; it assist them as looking at change as an chance instead of as a threat.

Others would defend Management Strategies by non-financial firms because sometimes, particularly in a large business, it can be hard to appreciate a company's objectives or the developments utilized to get them. They make the argument that strategic management does do a good job in laying out a clear plan for an industry to follow. Even though this plan could more than likely change down the road because of unexpected circumstances, it aids to giving a rough outline for the business. A business is put together with a lot of people. Frequently, these people come up with some strategic decisions individually. If managers have a complete corporation strategy to go along with, they could unintentionally produce decisions and start developments that are at odds with each other, causing resources and time to be wasted (Buckley, 2005). Strategic management gives the essential general strategy for line managers to keep an eye on when making individual choices, therefore uniting decisions that are strategic.

Those that are for the use of risk management strategies by non-financial firms believe that there is a vital benefit of strategic management which is that it makes the company's presentation assessable. Those that are for the use risk management strategies by non- financial firms would argue that strategic management frameworks calculate multiple steady metrics as well as reputation, development efficiency and knowledge achievement. They would dispute that measuring performance is good for a firm because it shows they want to improve and grow. Those that are for the use of risk management strategies by non-financial firms debate that without strategic management, companies tend to just respond to alterations in the environment. Strategic management permits businesses to proactively plot for the future and to expect possible changes. This makes it possible for a firm to avoid potential threats in the market while at the same time identifying opportunities that can be exploited.

There are still some experts that believe that Management Strategies in regards to non-financial firms have no benefits because it has a lack of unforeseen results. They believe that Strategic management attempts to predict the future and has no right to do that. Regrettably, however, the future cannot always be foretold. A key environmental, political or monetary crisis can make drastically different outcomes from those that the company has expected (Bailly N, 2003). Furthermore, predictions can be challenging to come up with in an environment categorized by fast alteration. In these circumstances, strategic management can really have an impact that is negative on a firm.

Both sides would debate that strategic management is not something that is easy task to handle. Both sides would also come to the agreement of believing that developing and executing a strategy for a business necessitates highly trained and specialized people (Song, 2008). A lot of industries strategists have do have a master's degree or doctorate in the area. This sometimes makes it hard for them to pay these individual because of the funds being low.

Does risk management increase the value of a firm?

According to Buckley (2004) risk management does the complete opposite and actually decreases the value of firm. Some would make the argument that another class of hypothetical justifications for risk management behavior puts the highlight on risk management as a way of exploiting managers' private practicality. Agency theory upholds that management (agents) will act unscrupulously to raise their personal wealth at the expenditure of the proprietors (principal) of a business. Some critics suggest that risk management activities that have been introduced by managerial enticements may not be helpful to stockholders.

Adedeji (2002) makes the argument that corporate risk management is an addition of the risk abhorrence of managers. Even though outside shareholders' aptitude to diversify will efficiently make them uninterested to the quantity of hedging activity assumed, this cannot be said for managers, whose wealth and human capital are inadequately expanded. This lack of diversification could outcome from managers that have secure particular human capital that develops into a somewhat large share of the company's stock detained by managers. Therefore, risk management started by managerial inducements may not be helpful to stockholders and could decrease firm value instead of increasing it (Adedeji A, 2002).

Song (2008) theorizes that stockholders hire managers for the reason that they have particular resources that increase the value of the company. They go on to argue that Managers are not able to utilize their expertise except they have some form of caution in the choosing of their actions. However, except confronted with appropriate inducements, managers are not going to maximize wealth of a stockholder. Other argues that the managerial payment contract will have to be planned so that when there is increase the value of the firm, the corporation also raises their predictable service (J, 2001). As the administrator is risk averse, this person will select to accept risk simply if he is compensated for doing so by greater anticipated revenue. The organization of the manager's payment package will be able to persuade them to take the risk or not (Song, 2008). In actuality, on the other hand, stockholders are supposed to be the ones that choose the management.

The use of Hedging techniques for Firm Value

According to Buckley (2004) hedging is argued as…

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