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RISK SCENARIO PLANNING

John P. Hewlett and Jay Parsons

Summary

Farm policy enacted since 1996 has created a need for agriculture producers to understand and manage risk. The Agricultural Act of 2014 is another example of the increasing shift toward a risk management framework in agricultural policy. However, risk is difficult to address because the concepts are challenging and breadth of solutions is wide. Even where the concept is well understood, few have mastery of the tools and skills needed to properly evaluate management alternatives. RightRisk has been involved in developing teaching simulations, online courses, and risk decision tools since its formation in 2001. The team’s recently completed Risk Scenario Planning (RSP) tool provides farm and ranch managers much-needed assistance in evaluating risk management alternatives. RSP utilizes a partial budgeting framework to evaluate proposed changes to a segment of the business. This approach is based on the four different effects changes may have on business returns, including: (1) added returns; (2) reduced costs; (3) added costs; or (4) reduced returns. From these, the net financial benefit of making a change may be calculated. While partial budgeting provides a useful approach for evaluating changes, it is not especially helpful in evaluating the impact of any risks that may be involved. The RSP tool offers users a chance to evaluate up to two factors tied to a management change that are uncertain or that may vary. The RSP tool describes possible outcomes using a cumulative distribution graph that indicates the probability of earning a net return at or below a given value.

Details

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