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The Usefulness of Due Diligence in Risk Management In the investment business, as well as the lending business, due diligence is typically carried out as part of the financial risk assessment of an investment, acquisition, or before a lender loans out his/her money. Due diligence is none other than a process of investigation of a business or individual prior to signing a contract or it could also mean an act carried out with prudence or a standard of care. While it is voluntary, due diligence is considered a legal obligation. The establishment of due diligence is based on the theory that careful and prudent investigation carried about on a business entity or on an individual can help a lot in the decision-making of investors and lenders through the quality of information that was obtained from the investigation process. Technical and financial components comprise the process of due diligence, such that the investigation covers studying all contracts to check on provisions of risk management and allocation or to technically study the design of a proposed project. Due diligence can also be applied in determining the type of risks facing a business or project venture at a particular point in time. Due diligence is useful in both ways – for the business entity or individual who is applying for a loan or for the financial investor or lender who needs a risk profile to allocate potential risks in the contract before agreeing to the loan contract. The following points are included in a profile risk – potential causes of risk, potential consequences resulting from the risk, adequacy of the control environment operating around the risk, and adequacy of the quality and quantity of information available to monitor the control environment operating around the risk. The significance of risk profiling is that it provides awareness of the different forms of risks (technological, sovereign, political, economic, etc) which can affect the investment during the course of arriving in a business decision.
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Risk management covers the process of identifying, assessing, and prioritizing all identified risks, followed by a coordinated and economical application of resources to minimize, monitor, and control the probability or impact of unforeseen events or to maximize the realization of opportunities. The objective of risk management is to see to it that the element of uncertainty does not sidetrack the business undertaking and its goals. A prioritization process is usually employed in an ideal risk management set up, such that that the risks with greatest loss or impact and greatest probability of occurring are handled first and the risks with lower probability of occurrence and lower loss are handled in descending order. Risk management also includes allocating resources which is the prime basis in establishing opportunity cost, which is an alternative cost considered in undertaking a business investment.Getting Down To Basics with Plans