Evaluate the role of theory in explaining corporate risk management Essay

Evaluate the role of theory in explaining corporate risk management practice - Essay Example There has been a vivid changes occur in the functions of risk management in corporations. In the past risk management was known as the activities connected with the purchase of insurance. Treasurers also carried out the duty of risk management, but their focus was on prevarication interest rate and foreign exchange risks. With the passage of time, corporations have taken into account other types of risk. On the other hand, corporations started to pay more attention to operational risk and reputation risk. Presently, strategic risks have been added to the categories of risks. The duties of the board in examining risk measures and setting restrictions for these measures are greater than before at many corporations. With the help of hedging, organizations can get rid of their experience to many risks at low cost. For example, a foreign exchange hedging program that makes use of forward contracts has usually very low transaction costs. If the hedging is inexpensive, then there is no good economic explanation for an organization not to hedge economic risks if it faces the risk of cash flow deficits that could force it to give up important projects. Many corporations face risks that they cannot beneficially arrange in the capital markets or other urbanized risk transfer markets. We can better explain it with the help of an example, an organization that discovers a mode to develop its business beneficially cannot hedge economically many of the risks from doing so. The organization recognizes the risks from the development superior than anybody else. If it finds a technique to hedge these risks, its hedging costs will be increased because possible counterparties will want to be compensated for trading with an improved knowledgeable party and for building models to judge the risks they would hedge. Agency theory is one of the most instructive, practical, and