Published here January 2004. 

PART III | Reason 4 | What is Risk? | Project Risk Management
The Need for Project Selection Risk Management | Hurdle Rates
Characterizing Risks with Probabilities | Characterizing Project Risks
Organizational Risk Tolerance | PART V

The Need for Project Selection Risk Management

Important types of project risk are best addressed by project selection because they are outside the scope of project managers. As an example, a company conducted a project to install new equipment to increase capacity. However, the project planning team failed to evaluate whether there was a market for the increased supply made available by the added capacity. Narrowly defined, the project was a success because the new equipment was installed successfully, on time and on budget.

However, because there was insufficient demand, the company could not sell its extra output at its prevailing price. It ultimately had to shut down some of its production lines. As illustrated, risk management within project planning and project execution often fails to address external project risks. Project portfolio management provides an opportunity to account for external risks and to get senior executives to take some ownership of project risks before the project commences.

Risky Projects May Be Good Projects

For many organizations project risk is simply something to be avoided. But, as Alan Greenspan stated "Risk-taking is indeed a necessary condition for the creation of wealth".[1] Successful organizations deliberately take risks when it is to their advantage. According to Suzanne Labarge, Vice Chairman of the Royal Bank of Canada, "Risk in itself is not bad. What is bad is risk that is mismanaged, misunderstood, mis-priced, or unintended".[2]

Failure to recognize, understand and accept risk leads to project portfolios skewed toward low-risk projects with little upside potential. It can also lead to an occasional, unrecognized, high-risk project that endangers the enterprise.

Treating Risk as an "Intangible"

When evaluating projects to support project selection decisions, many organizations view risk as an "intangible." To describe risk, they use qualitative terms such as "likely" versus "unlikely" and "significant" versus "insignificant." Such words are insufficiently precise and mean different things to different people. For example, a lower-level manager might have a very different notion of what qualifies as a significant risk compared to that of the CEO.

The fact that most organizations do not have a clear policy on risk-taking is a major reason project portfolios tend to be biased toward low-risk projects. Unless risk is measured, it is difficult to use it as a consideration for project selection.

Project Risk Management  Project Risk Management

1. L. Kahaner and A. Greenspan, The Quotations of Chairman Greenspan, Adams Media Corporation, 2000.
2. S. Labarge, "Valuing the Risk Management Function," Presentation at the Risk Management Association's Capital Management Conference, Washington DC. April 10, 2003.
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