Question

Using Net Benefit to Evaluate Risk Response Alternatives

Cooper Movie Studio Corp. makes movies and is interested in lowering its operating costs for the following year, while maintaining the high quality and appeal of its movies. Cooper’s management is concerned about the additional costs the company would have to incur if new industry regulation is passed by Congress. The chart at the top of the next page contains a description of this top risk, an inherent risk assessment, three risk response alternatives, and a residual risk assessment for each response alternative.

		Inherent Risk				Risk Response		Residual Risk
Risk		Likelihood		Impact (on operating costs)		Alternatives		Likelihood		Impact (on operating costs)
Poor behavior by others in the industry results in Congress passing costly new legislation that regulates the behavior of all movie studios.		30%		$80,000,000		A—Share Cooper’s effective marketing processes with competitors to help mitigate poor industry behavior		20%		$80,000,000
						B—Lobby Congress on behalf of the movie industry generally and Cooper in particular		15%		$50,000,000
						C—Take no action in response to possible new regulation		30%		$80,000,000

Finally, Cooper’s management accountants estimate that the incremental cost of implementing risk response A is $3,000,000 and the incremental cost of implementing risk response B is $13,000,000.

Required:

If an amount is zero, leave it blank or enter "0".

1. Calculate the inherent risk for Cooper.

$

2. Calculate the residual risk for Cooper associated with each of the three risk response alternatives A, B, and C.

A.	$
B.	$
C.	$

3. Calculate the benefit for Cooper associated with each of the three risk response alternatives A, B, and C.

A.	$
B.	$
C.	$

4. Calculate the net benefit for Cooper associated with each of the three risk response alternatives A, B, and C.

A.	$
B.	$
C.	$

5. Using net benefit as the criterion, which risk response should Cooper choose to implement?

The risk response alternative with the greatest net benefit is alternative A

Answer 1

1. Calculation of Inherent risk for Copper:-

Operating segment Likelihood Impact Inherent risk

Copper 30% 80,000,000 24,000,000(80,000,000 * 30%)

2. Calculation of Residual risk for Copper:-

Operating segment Likelihood Impact Residual risk

Copper:-

A 10%(30-20) 80,000,000 8,000,000(80,000,000 * 10%)

B 15%(30-15) 50,000,000 7,500,000(50,000,000 * 15%)

C 30% 80,000,000 24,000,000(80,000,000 * 30%)

3. Calculation of benefit for Copper with each of the risk responses:-

Operating Segment Inherent risk Residual risk Benefit

Copper:-

A 24,000,000 8,000,000 16,000,000

B 24,000,000 7,500,000 16,500,000

C 24,000,000 24,000,000 0

4. Calculation of net benefit for Copper with each of the risk responses:-

Operating segment Benefit Incremental cost Net benefit

Copper:-

A 16,000,000 3,000,000 13,000,000

B 16,500,000 13,000,000 3,500,000

C 0 0 0

5. The risk response alternative with the greatest net benefit is Alternative A.