Disclosing Risk in Annual Reports

International Journal of Applied Finance For Non-Financial Managers (ISSN: 1742-528X) Volume 2 Issue 2

Philip Linsley


The importance of risk management and related risk management techniques has increased significantly within the corporate sector recently. Alongside this rise in the status of risk management, the issue of transparency has also gained a high profile in the last few years particularly following events such as the Enron and WorldCom accounting scandals. Although these two areas of risk management and transparency might be thought of as unrelated there is an important connection within the context of corporate governance. Corporate governance is often defined in different ways but good corporate governance should lead to the successful operation of an organisation (Keasey et al, 1999). At another level corporate governance is concerned with the balance of power between the various stakeholders involved in the business and with the way in which the company is governed. Risk management is therefore an integral part of good governance; for example, if directors choose to ignore risks (whether upside or downside) or choose not to manage risks then this can have implications for shareholders and other stakeholders. This agency problem has a number of elements, one of which is a differential risk preference issue. Shareholders and directors may have different attitudes to risk and this can lead to situations such as directors not managing risks that shareholders would in fact prefer managed. To assist in overcoming the agency problem within the context of risk and risk management directors have to be accountable to shareholders. This accountability may be achievable through the public disclosure of risk and risk management information, for the transparency resulting from this disclosure of risk information enables shareholders and other interested parties to better understand both the risk profile of the company and the ability of directors to manage the risks that the company faces. The ultimate outcome of transparency of risk information is that shareholders and other stakeholders are then better placed to manage their own risk profiles. As shareholders have to bear residual risks it is only reasonable that they receive proper information that will facilitate their management of this.

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