The weather is always a major source of uncertainty for all agricultural businesses and as a manager in the feed and grain industry, you know this very well. Certainly those of you operating in the Midwest did not expect the drought to be as long and devastating as it was during the summer of 2012. Yet, there were some regions where there was ample rain and agricultural production was very good to excellent. Still others of you in places like Texas are dealing with drought conditions extending beyond a single season. In the feed and grain business these dramatic weather conditions greatly affect your volume of business and your bottom line.
Risk and uncertainty are a reality for your business — so what are you doing about it? How are you planning for it? Three common ways of dealing with risk are: ignore it; extrapolate from current trends; and raise the hurdle rate (the minimum rate of return on a project or investment) on all new projects. While there are instances where any one of these reactions may be appropriate, a systematic plan for dealing with risk and uncertainty can help put your business in a better position.
Uncertainty creates both opportunities and challenges. When the discussion of risk and uncertainty comes up, usually the negative or downside aspect of uncertainty is what is considered — but there can be opportunities as well. A systematic approach to evaluating, planning for, and implementing a strategy to deal with uncertainty is needed. In this article we discuss some of the different sources of uncertainty and then lay out a plan for developing a strategic response to uncertainty and the risks created.
Sources of risk and uncertainty
Uncertainties can be broad-based, like the weather example noted above or they can also be more local and specific. Have you ever seen prices make rapid movements when you have been concerned about your exposure in the market (having bought grain and not yet sold it, or having sold it but not yet bought it)? Even with the best hedging policy, you may find your business exposed if price fluctuations happened quickly — before you got your original decision hedged. All businesses, at one time or another, face the unexpected departure of a key employee, another source of business risk. On the upside, uncertainty can bring about positive events. The important thing is to plan for risk and uncertainty.
Sometimes events happen that are totally unexpected. It is generally not the case that no one ever imagined that something might happen — rather, when the idea was raised, the reaction was “no, that could never happen.” With the news of Hurricane Sandy fresh in our minds as we write this column, we see one such example. While there were many who talked about the possibility that a major hurricane could hit New York City, many dismissed those calls of concern, noting one reason or another as to why such a catastrophic event would not actually happen.
Still further, the possibility that just days after a major hurricane hits New York City and the East Coast the chance that a second storm would bring ice cold temperatures and snow was yet further outside of the realm of possibilities.
The purpose of this article is not to scare you into running out there to put a plan in place for every remotely possible event that could happen. While it is important to be prepared in business, you also have to pay attention to your use of scarce resources. Being fully prepared for that once in every 200-year event will most likely cost your firm more than its worth. However, systematically developing your plan for dealing with risk and uncertainty is what is needed.
A six-step approach
We borrow the planning framework from Elizabeth Teisberg (Harvard Business Review, 9-391-192) as a step-by-step approach for developing your plan for dealing with risk and uncertainty.