Edited by Bruce A. Seaman and Dennis R. Young
Chapter 11: Nonprofits and the Value of Risk Management
Martin F. Grace Introduction The use of risk management in nonprofits is really about the use of incentives to minimize the risk of loss as much as it is to increase the output potential for nonprofits. Fama and Jensen (1983) discuss various types of nonprofits, showing how agency problems are mitigated by a separation of management from control. In particular, while nonprofits do not have residual claimants, as a traditional corporation might have, they do have monitors who oversee the actions of the managers. In fact, the success of the nonprofit sector is testament to the fact that useful monitoring does exist. Risk management can thus be used to complement monitoring as well as to protect assets that give a nonprofit its comparative advantage. Further, risk management can be used to enhance the opportunity set for nonprofit organizations. Nonprofits have different missions and may have different objective functions. This is, in part, why individual nonprofits exist. The objectives and risks facing nonprofit hospitals are different from those of the Red Cross. The Red Cross, in turn, has a different risk profile from the local nonprofit performing arts theater or from Scouting. There is no one set of risk management tools that provides a one-size-fits-all method for managing the risks facing nonprofits. This chapter will provide background to the theory underlying risk management, which, in turn, is based upon the underlying theory of corporate finance and provides a starting point for the discussion of value of risk management in general. Second,...
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