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ACCA Strategic Professional · Strategic Business Leader · Identification, assessment and measurement of risk

Zenith Foods assesses a supplier-failure risk with a 20% annual probability and an estimated loss of $500,000 if it occurs. A second risk, a regulatory fine, has a 5% probability and a loss of $1,800,000. Using expected value as the only measure, which statement is correct?

The supplier risk has an expected annual loss of $100,000 (20% x $500,000), while the regulatory fine has $90,000 (5% x $1,800,000). Expected value therefore ranks the supplier risk higher, even though the fine has the larger potential impact.

  1. AThe supplier risk has expected annual loss of $100,000, higher than the fine's $90,000Correct
  2. BThe fine has the higher expected loss because its impact is larger
  3. CBoth risks have the same expected loss of $100,000
  4. DThe supplier risk has expected annual loss of $25,000 and the fine $36,000

Explanation

Supplier: 0.20 x 500,000 = 100,000. Fine: 0.05 x 1,800,000 = 90,000. The fine looks worse on impact alone, which is the error in the second option. Expected value, however, ranks the supplier risk higher.

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