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Is  Expected Monetary Value (EVM) Enough when Evaluating the Impact of Risk?

by Peter J Blok, Ph.D.,  CSCP, CLTD, LSSMBB, PMP    

I’ve been discussing supply chain risk with my CSCP classes and with a few clients so it got me thinking. Conventional wisdom focuses on evaluating the severity of risk based upon Probability of Occurrence and Expected Monetary Impact.  This is the classic Expected Monetary Value, EVM

EVM = Probability  x Monetary Impact

From this, we are taught to develop rating systems to categorize risks so we can prioritize the effort and funding in developing mitigation and response plans.

From CSCP 2018 Module 3B chap 2

 

In light of all the events that have happened in our collective experience,  Three Mile Island, Deepwater Horizon, and hurricane Katrina to name a few,  isn’t there another factor? What about our ability to respond. With hurricane Katrina and more recently Maria in Puerto Rico, while the event was bad the response was delayed and ineffective making a bad situation worse.  In these cases, there are multiple dimensions and I’m not trying to place blame, I’m just stating a simple fact: A risk situation is made more severe if:

We cannot detect it early enough and/or We cannot respond to it fast & effective enough.

So why don't we put these factors in our risk planning?

To eeffectivelydeal with a risk event you need to detect its happening early enough,  you need to communicate the event with all impacted parties, and you need to muster for resource and respond.  To assess this I propose adding the concept of REACTION INDEX.

Reaction Index = Detection Ability x Communications Effectiveness x Ability to Perform Action

Once we know how effective we can react we can update the conventional probability and impact matrix (above) with a new tool,  the Risk Index.

Risk Index  = Impact x Probability  / Reaction Index

This new tool allows us to rationally assess the full risk situation.

In some cases, more moderate EMV situation can be made much more severe because of weaknesses in our ability to detect or communicate or react.  Sometimes, we may feel these cases are “no big deal” because they are easy to handle. Sure they are if you detect them.

In our personal lives, have you ever found a mess in the basement from a leak in the hot water heater?  It easy to limit the damage, when it starts to leak just turn off the water and call the plumber. So why do we get a mess?  Because most times we don’t detect it soon enough.

Supply Chain disasters are the same.  Have you ever had to stop a production line because a shipment didn’t arrive on time? I have. Why? Our detection mechanism was an empty receiving dock. Truthful but not useful in a preventative sense.  Why didn’t you have an ASN? Great question. Do you get ASN’s from every supplier? I don't think anyone does. A topic for another SCC.

I use these examples to illustrate my point, A reaction Index needs to be added to your risk management thinking because plans alone are not enough, action is what mitigates risk events.

Adding Reaction Index thinking into your supply chain management risk process also helps us from better mitigation plans because asking the questions necessary to determine the Reaction Index forces us to be objective in how well can we really detect, communicate and perform in a risk situation.

 

If you have any comments or questions or ideas for future topics you can send me an email at SCC@APICS-PRSJ.ORG

 










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