A project manager makes decisions based on their risk perspective. That is to say, he or she perceives the organization and stakeholders’ desires and seeks to fulfill them. However, the project manager may miss the mark. Why? Misunderstanding of the stakeholders’ risk appetite. In this article, let's explore the what, why, and how of project risk appetite.
What is Risk Appetite?
Risk appetite is “the degree of uncertainty an organization or individual is willing to accept in anticipation of a reward” (PMBOK® Guide, Seventh Edition).
Let’s look at this definition closer. First, risk appetite is the degree of uncertainty. We don’t have certain knowledge, or things are not clearly defined. And there is a degree of uncertainty that may be expressed qualitatively (e.g., low, medium, high) or quantitatively (e.g., willing to accept a $100,000 risk exposure).
Second, the risk appetite may be for an organization or individual. Furthermore, we may analyze the risk appetite of a group of individuals or stakeholders. These stakeholders may have different opinions about the amount of acceptable risk, and their opinions may change during the project.
Risk appetite is “the degree of uncertainty an organization or individual is willing to accept in anticipation of a reward” –PMBOK® Guide, Seventh Edition
Third, we define the risk appetite to clarify the amount of risk that one is willing to accept. There is the possibility of losing the investment once we fund a project. How? The project could fail, or we may cancel the project halfway through and write off the loss.
Fourth, we anticipate a reward. Why do we invest in projects? Because there is a cost/benefit, we expect a return on our investment.
Lastly, the risk appetite defines the types of risks one pursues. For example, a project sponsor may be willing to take a higher budget risk but has a zero-tolerance for missing a deadline. Therefore the project manager may develop appropriate contingency and management reserves.
Why Appetite Matters
My wife and I have been married for more than 30 years. She knows me very well. Imagine the two of us standing in a buffet food line with her behind me, looking forward. Before I pick my food items, she could tell you my choices. How can she do that? Because she knows my appetite – what I like and what I don’t like.
If you’ve worked with project sponsors and stakeholders for years, you likely know their desires. Of course, this is no excuse for poor stakeholder analysis. We should interview each one and ask about their needs and the amount and types of risks they are willing to accept.
A project manager has the basis for making better decisions once the risk appetite has been discussed and documented. Consequently, a project manager can meet the stakeholders’ expectations better.
How to Analyze Risk Appetite
There are several ways in which one may analyze stakeholders’ risk appetite. A project manager may use a list of risk categories (e.g., schedule, budget, scope, quality) and ask each stakeholder to rate their willingness to take risk (e.g., low, medium, high).
Another method is to use scenarios to gauge the risk appetite. Describe different scenarios of loss and ask which scenario(s) would be acceptable.
The project manager should use conflict management strategies (e.g., consensus, problem-solving) to resolve conflicts and reach an agreement on the risk appetite.
Enterprise, Portfolio, Program, and Project Risk Appetite
Risk appetite may be defined for each domain of risk, such as
- Enterprise risk management
- Portfolio risk management
- Program risk management
- Project risk management
The risk appetites should be aligned to ensure that each domain supports the organizational strategic objectives.
Project Risk Appetite Example
So, what does a risk appetite statement look like? Risk appetite may take several forms and may be both qualitative and quantitative. Here is an example:
The Magic Tech Project Team seeks to decrease threats and increase opportunities to achieve the project objectives. There is a low appetite for requirement defects. The project schedule should not slip more than two weeks. Modest appetite for budget increases. Contingency reserves should not exceed $125,000.