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Inherent Vs Residual Risk: Differences and Examples Explained

inherent-vs-residual-risk

In this post, we will look at what are the main differences between the Inherent risk and Residual risks. Both of them have their own implications, so let’s take look first at what is risk management.

What is Risk Management?

Risk management is one of the most essential processes that is carried out in companies and organizations. It can be explained as evaluating, recognizing, and managing the organization’s profits and resources risks. The concept is not new; however, how organizations look at risk has shifted.

The significant risks of any organization include financial security, regulatory liabilities, strategic management, natural hazards, and other incidents. Companies usually establish the risk without considering the risks and can fail the operations whenever unseen risks occur. The failure to manage these risks properly will make it quite difficult for the organization to determine its long-term goals.

The managers must be aware of the multiple types of risks that exist in operation. To correctly manage the risks, it is highly fundamental to understand how to evaluate them before and after certain controls are designed and implemented. This brings us to two terms that you may have heard before in terms of risks, inherent risk, and residual risk.

We will take a closer look at the two most common and applicable risks within the organization; they are correlated and must be managed well.

What is Inherent Risk?

Inherent risk refers to the number of risks that exist within the operation without implementing the restrictions and controls. In other words, intrinsic risks usually occur when there is no control over the operations. This type of threat naturally exists before any effort is made to solve them; hence it impacts the development of recovery strategy for the mentioned risks.

Inherent risk can only be determined after the company’s goals and objectives have been established, and all the hurdles that may obstruct the company from accomplishing the goals have been recognized. Apart from recognizing the effects, the risk may bring to the organization, managers should also consider identifying the cause and origin of the risks, whether they originated from natural causes or errors. This will bring out the risk’s characteristics and source, thus lowering the probability of occurrence.

Examples of Inherent Risk

While inherent risk can differ from company to company, let’s take a look at some of the common examples that have the potential to cause significant security issues when not addressed with controls.

  • Loss or mishandling of sensitive and personal data – Without proper controls, ensure that all the data is being protected and stored. Managers and companies could expose or lose company or customer data.
  • Lack of security software or device – Standardizing the employee’s guidelines and creating password rules for how the employees should cater to their devices are quite examples of controls that can assist in securing the company software and hardware. If these controls are nonexistent or too lax, data breaches will likely happen.
  • Unauthorized and improper user access – Access to the information must be monitored and regulated so that only authorized employees can view and handle specific information. Having the wrong set of eyes on certain information could lead to degrading the violation the privacy laws, potential lawsuits, a breach of contract, and so on.

Auditing involves multiple types of risk, and inherent risk is taken as one of the riskiest threats. It is not taken lightly to eliminate more safeguards or auditors. However, it must be addressed when analyzing the organization’s financial statements.

What is Residual Risk?

In risk management, there are multiple ways to overcome the risks in business operations. Residual risk is a risk that exists without control within the place. This type of risk can be easily brought up as the risk that still remains even after any organization has taken preventative measures to minimize the likelihood and the effect of the risk event.

Risk transfer is when the risk is shifted to another team or party. Lastly, risk acceptance occurs when the management is aware of a certain risk but decides not to invest in solving the risk. Despite all the efforts to handle the risks, it is quite complicated and impossible to eradicate all the risks that may or may not exist. The risks remain after the control’s mitigation and are usually known as residual risks.

Examples of Residual Risks

Just like inherent risks, the residual risks are different for every company. Some of the top examples of residual risks that must be monitored whenever the security is in control are as follows,

  • Email phishing – There is always a risk from external parties. Email phishing is when an attacker sends over an email to gain personal information or simply hacks into a system. The phishing emails are often built to look like they are coming from the senders of authority such as customer service, company executives or HR departments, etc. However, originally, the messages were being sent by third parties only with malicious nature.
  • Third-party cyber-attack – Such cyber-attacks usually happen when there is an external intent within the organization’s company network to disable, disrupt or control the stored information. As the attacks are carried out by third parties, it is highly impossible to know if and when an attack is bound to happen. Even with proper controls and checks in order, this still remains a residual risk.
  • Internal information theft – People often associate cyber-attacks with faceless third-party actors. You can address the inherent risks such as mishandling of personal data and misuse of any privileged accounts by logging and monitoring can assist the likelihood of this kind of attack, but still considered a residual risk. Sabotage carried out by people within the company must also be considered.

Risk assessments

Inherent risk assessments offer CISOS and security teams a framework for enhancing security controls. Besides the top-tier evaluation, inherent risk assessments have very little value. Residual risk assessments possess real value and assist in identifying and remediating exposures before cybercriminals can exploit them.

Residual Risk vs. Inherent Risk and How to assess them

how-to-assess-risks

After learning about all the explanations, examples, and how the inherent risk and residual risk are related. Let’s take a look at some of the steps that could be followed to assess and control the risks within any operation.

1. Establish the response toward risk

First, it is essential to come up with the response that must be taken if a risk has to arise. This could turn quite interesting in terms of the risk likelihood and the risk impact, the seriousness may bring to the operation and the business itself. The risk can be easily managed after the analysis has been carefully done.

2. Experimenting controls

Experimentation is essential to access the established risk controls and anticipate if they are as effective as the solution for the desired risks. It may or may not be perfect for eliminating the risk, but as long as the risk could be lowered down to a certain level, it should be the goal.

3. Establishing the risk controls

Risk controls are mainly done to resolve the risks and commonly implement risk reduction. In most cases, risk control requires an additional procedure in the business operation to lower the risks that may be affected by cost.

Reparation

All of the reparation and the correction plans were done while resolving the risks that should be personal. This could bring information for more enhancement or for future reference if the same threats were to happen all over again.

Inherent risk usually answers questions like these:

  • What general risk does this third party pose?
  • How is inherent risk distributed across my ecosystem of companies?
  • If this third party has a cyber incident, how bad could it be?
  • Which third parties pose the greatest and least inherent risk relative to one another?

Residual risk usually answers questions like these:

  • What risk specifically does the third party pose?
  • What is the type of risks that are likely to affect this third party?
  • How is residual risk distributed across the ecosystem of companies?
  • How is residual risk distributed within this individual third party?
  • Which third parties pose the least and the greatest residual risk for specific controls, types of cyber incidents, and other things?

Related:

The 24 Best Risk Management Software

Wrapping it up

A true understanding of organizational risk and how to manage risk is a part of everyone’s life. For any upcoming project manager, learning how to distinguish and plan for the different types of risks will assist you in more efficiently managing resources and time.

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