Due to extreme liquid fuel price fluctuations, management decided to designate a specific price below which liquid fuel shall not be sold to…

Question breakdown

Tests

Classify risk responses

Difficulty

Medium

Key idea: Risk avoidance means exiting or not undertaking the activity that gives rise to the risk.

How to reach the answer

1. Identify the risk: selling fuel at prices that are too low during volatile markets.
2. Find the decisive clue: below the set price, fuel is not sold at all and is stored instead.
3. Ceasing the activity under the risky condition removes the exposure entirely, which is avoidance.
4. Rule out reduction, which lowers likelihood or impact while continuing the activity, and transfer, which shifts risk to a third party.

Each option

• AIncorrect. Reduction would keep selling while adding controls or hedges to lessen the impact; here sales stop entirely.
• BIncorrect. No third party, such as an insurer or hedge counterparty, takes on the risk.
• CIncorrect. Acceptance would mean continuing to sell at low prices and absorbing the loss.
• DCorrect. Management declines to engage in the activity, selling at low prices, when the risk condition exists.

Common trap: Setting a price floor looks like a control that reduces risk, but because it halts the activity rather than mitigating it, it is avoidance.

In practice: Commodity businesses use price floors, stop-sale rules, or exits from markets as avoidance responses aligned with their risk appetite.

Remember: If management stops doing the activity when the risk exists, the response is avoidance.

Drafted with AI assistance and checked against the answer key.