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CS Professional · Environmental, Social and Governance (ESG) - Principles and Practice · Risk Management

Gati Auto Components Ltd's board states that it will accept a maximum earnings volatility of 10% to pursue a new export market, but will not tolerate any breach of safety regulations. Under an ERM framework, the 10% earnings volatility limit is best described as which of the following?

The 10% limit is risk tolerance, meaning the acceptable variation in performance around a specific objective. Risk appetite is the broader, higher-level statement of the types and amount of risk the board will pursue. Inherent and residual risk describe exposure levels, not boundaries set by the board.

  1. ARisk appetite statement at the entity level overall
  2. BRisk tolerance, the acceptable variation in performance relative to an objectiveCorrect
  3. CResidual risk after all controls
  4. DInherent risk before controls

Explanation

Risk tolerance is the acceptable variation in performance linked to achieving a specific objective, so a 10% earnings volatility cap is a tolerance. Appetite is the broader amount and type of risk the entity is willing to pursue. Inherent and residual risk describe exposure before and after controls, not limits.

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