Risk Appetite, Tolerance and RBCWhat do they mean?

Is it all the same?Risk Appetite

Risk Tolerance

Risk Bearing Capacity

What is it?Risk AppetitePropensity to take risk

Risk ToleranceAbility to take risk

Risk Bearing CapacityAbsolute financial measure to survive risk

Risk AppetiteTotally subjectiveBased on perceptionsPersonalMay be measurable or notMay change very regularly as environment changes

Risk ToleranceStill SubjectiveMeasurableCriteria need to be identifiedCriteria need to be agreedMust take note of business dynamics

Risk ToleranceMeasured in terms of deviation from business objectivesPrioritised according to criticality to companyBoth upside and downside are identified and measured (each with own identity) KPIs

Risk Tolerance DimensionsEnterpriseBusiness unitRegionProduct lineBrandCustomer

Risk Tolerance DimensionsTimeRisk typeChange ValueOutcomeObjective

Risk Tolerance DimensionsRewardInterestAssetValueActionChange AgentsInfluence

Risk Tolerance DimensionsTimeProbabilityPositionInformation

RewardStrategic goalsFinancial targetsProduction targetsMarketing & sales targetsOrganisational objectivesBusiness objectives

InterestShareownersSuppliersCustomersEmployeesAuthoritiesCommunitiesBusiness PartnersIndustry Bodies

AssetsDynamic assetsValue based assetsLegal assetsHuman assetsPhysical assetsProduct based assetsIntellectual assetsFinancial assetsStatic assets

ValueFinancial valueStrategic valueCompetitive valueTime valueReplacement value

ActionIncoming corporate actionsCorporate financial actionsCorporate process actions

Change AgentsCompetitive FinancialFiscalOperationalIntellectualLegal

Change AgentsReputationSocialHumanEnvironmentalNaturalTechnologicalPolitical

InfluenceAccumulationAggregationArbitrageBackgroundComplexityCorrelationCriticalityCyclesDependency

Influence

DiversificationDurationInterdependencyLiquidityProximityReliabilityToleranceVolatilityVulnerability

TimeCyclical factorsSeasonal factorsTimingRegional cyclesDurationSimultaneity

ProbabilityLikelihoodStatistical probabilityCorrelationVolatilityAggregationTimingRelative frequency

PositionFlexibilityLiquidityCrisis responseContingenciesControl/influence

InformationValue at riskEarnings at riskCash flow at riskYield curvesRisk capitalStability ratiosLiquidity ratios

Some examples% of Revenue% of EBITDA% of Adjustable earnings% of Debt Service cover headroom% Leverage

Some examplesEmployee safetyStaff TurnoverManagement turnoverEnvironmental incidentsMachinery breakdown incidentsEthics (fraud, bribery incidents)Training as % of RevenueEmployee engagement scoresAverage machinery ageR+D spend as % of turnover

Risk Bearing CapacityDefinition:RBC is a prediction of the enterprises ability to endure losses and the effect such losses may have on the enterprises value and /or its ability to continue with its activitiesRBC is a monetary value which is used as a yardstick, measuring the maximum loss the enterprise can endure, without exposing it to the point where its existence and survival is under threat, given an equivalent loss.

RBC MethodologiesNet Working CapitalNet Working capital = Current Assets Current Liabilities

25%

RBC MethodologiesQuick Asset ValueQuick Asset Value = Current Assets Inventory

Quick assets = trade debtors +bank account25%

RBC MethodologiesCoverage RatioCoverage ratio : Times-interest-earned ratioHow many times the enterprises operating income covers its debt-service chargesT-I-c-v= earnings before interest and tax interest expenses10%

RBC MethodologiesAnnual Cash Flow Generated

Annual Cash flow Value = Annual cash flow-interest paid annually on long term debt10%

RBC MethodologiesSurplus Cash

Surplus cash (free cash) = after ops activities, interest, taxes, dividends and before investment

10%

RBC MethodologiesTotal sales

Total sales from income statement

5%

RBC MethodologiesNet Income

Net Income = Profits after tax and interest

10%

RBC MethodologiesRetained Earnings

Earnings after dividends

10%

RBC MethodologiesFixed Assets

Total value of Fixed Assets

5%

RBC MethodologiesDistributable Reserves

= Accumulation of profits retained and reinvested

10%

Risk Tolerance ValuePick a selection of RBC valuesSome may be negative or not applicable at allSelect as many as possibleCalculate the Average