Leonard C. Green, entrepreneurship lecturer at Babson College, once said, “Entrepreneurs are not risk takers. They are calculated risk takers.”
He was absolutely right. When assessing a business decision, one of the first and most important things for an entrepreneur to understand is the difference between risk and calculated risk.
Risk is dangerous; risk takers go all in and wager everything they’ve got on a win or lose result. Calculated risk however, is the opposite of that, and involves doing everything possible to mitigate disaster.
Calculated risk takers are actually highly risk averse because, every step of the way through a decision making process, they further reduce their potential to fail. They take every available opportunity to save time, money and resource in order to cover themselves.
So how can entrepreneurs ensure they take the latter kind of calculated risks?
1. Know the value of risks
One of the biggest mistakes entrepreneurs make when it comes to assessing risk is failing to correctly assess potential value.
There is a psychological tendency to overestimate the repercussions of failure, and underestimate the potential success. The best entrepreneurs are the ones that can effectively visualise a result and then decide whether the possible drawbacks outweigh the potential for success.
One way to do this effectively is to break down decisions and assess them based on smaller, individual risks. Measuring each risk by the consequences of its positives and negatives can be a lot less daunting and develop an instinctive sense of what is and isn’t a good overall idea. For example, if something actually turns out to have far more positive outcomes than negative ones, it could well be a calculated risk worth taking.
This technique also comes in useful for breaking down decisions and determining what an affordable loss is.
Another way to calculate the value of a risk is with the probability of loss * value of loss equation.
This formula states that every risk can be analysed by working out the probability of failure or loss, multiplied by the value that loss represents. For example, two PR campaigns, A and B, might have 30% and 10% probabilities of failure respectively. However, if campaign A has a value of loss of only £1,000 and campaign B has a value of loss of £10,000, campaign A represents a lower risk, despite being more likely to fail.
This particular risk equation doesn’t factor in the value of success, and so the best entrepreneurs will invest in developing their own robust risk management formulae.
2. Invest appropriately in research and planning
This brings us onto the next point, which is regarding research and planning, and entrepreneurs need to achieve the right balance of this to maximise their calculated risk taking.
To do this effectively, entrepreneurs need to take all of the above (assessing value, determining what they can afford to lose, etc.) into account, develop a plan and execute it.
Many entrepreneurs become so caught up in over analyzing each and every decision they have to make because of the associated risks, that they end up acting too slowly. (Or worse, not making a decision at all and missing out.)
There is a fine line between carrying out necessary research and taking so long over it that decisions lose impact. Entrepreneurs that take the most effective calculated risks assess the pros and cons, put a strong plan in place, then act with confidence based on their research.
3. Identify problems and develop solutions
Finally, the best entrepreneurs have contingency plans to mitigate loss. They know that taking calculated risks can involve errors, but the most important thing is that these do not completely derail a business and that entrepreneurs can learn from these mistakes, accounted for in advance, and adapt their approach in future.
Along the same lines, the most successful entrepreneurs will identify possible risks in advance of making decisions and develop strategies to overcome them.
This means that, if there are individual problems, these are factored into the process and there are pre-prepared solutions to implement.
This way, everything is calculated and, for the most successful entrepreneurs that are actually risk averse, calculated risks are as consistently effective as they possibly can be.
Chime in if you are an entrepreneur who has taken risks below.