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ACCA Strategic Professional · Strategic Business Leader · Managing, monitoring and mitigating risk

Kallis Energy's board has set a risk appetite and now wants management to apply it in practice. Management has identified a project whose expected residual risk exceeds the board's stated tolerance for that objective. Under good ERM practice, what is the most appropriate implication?

Management should respond to bring residual risk within the board's tolerance, by avoiding, reducing or sharing the risk, or escalate so the board consciously revises the tolerance. Simply accepting the risk because returns look attractive would bypass the board's stated risk appetite and tolerance.

  1. AAccept the risk because the project's expected return is positive
  2. BTransfer responsibility to the internal audit function for acceptance
  3. CRespond to bring residual risk within tolerance (for example by avoiding, reducing or sharing the risk) or seek board approval to revise the toleranceCorrect
  4. DIgnore the tolerance as it is only advisory to the risk committee

Explanation

Risk tolerance is the acceptable variation around objectives within the board's appetite. Where residual risk exceeds tolerance, management should choose a response (avoid, reduce, share) to bring it within tolerance, or escalate for a deliberate board decision. Accepting merely because returns are positive overrides the board's stated limits.

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