Understanding The Worth Of Enterprise Risk Management
Does the risk management function really add value to the Board and Management of companies? Research has shown that companies which have implemented risk management do generate better business outcomes. In fact, the more mature a firm’s risk management function, the better the firm is likely to perform. This implies that risk management is not a short-term exercise; it has to be implemented over the long term, to be truly effective. So, ironically, the Board and management which initially implements it for the firm, may not see their efforts bearing fruit – but they would have laid the framework for the benefit of future Boards and management!
One of the best ways of getting buy-in for risk management is to demonstrate that it can create value for the company, or at least protect its value from deteriorating. This cannot be gauged overnight or in the short term. Results would have to be measured over at least a year or two before an assessment can be made. Even then, the firm’s performance, whether good or bad, cannot be said to be caused solely by effective risk management. Such is the character of risk management: organisations have to plan to manage risk incidents which they hope will never happen. If nothing happens, the worth of risk management may be questioned; if the untoward happens, risk management may still be blamed.
However, there are some outcomes of risk management that have resulted in helping Boards and management perform better, thereby increasing their value. One of these is the information that comes to light with the implementation of risk management frameworks. It helps Boards and management understand their organisations better, and can support better decision-making. Not all risk is bad; some of it can be beneficial. Risk management helps Boards decide the organisation’s risk appetite while also identifying new opportunities that the firm could consider diversifying into. These may not have been obvious before risk management processes and procedures were applied.
Smaller companies may want to consider how risk management can help in identifying opportunities, and not just threats; it can be wielded as a value-creating tool as well. New opportunities increase the organisation’s value over time, and with it, the value of Board and management. It is also likely to increase shareholder confidence. At the very least, having risk management processes in place will increase the Board and management’s understanding of the firm, its resources and the challenges that confront it. This goes a long way in helping to make appropriate decisions and formulate strategy.
Risk management stresses proper documentation. Analysis of this type of content builds a comprehensive picture of the organisation, and shows up shortfalls. Even without applying the full range of risk management processes and procedures, potential hotspots and problem areas can be identified and – hopefully – fixed before they become disruptive. The company will find itself dealing with fewer shocks and unpleasant surprises, and be able to focus more concertedly on doing business. Shareholders gauge Board and management efficacy based on the company’s performance. Better performance translates to more confidence in the people running the company.
By understanding the company in-depth, Board and management will be more responsive to the company’s challenges, becoming more agile and adaptable to change. Besides this, it is an indication that the company’s resources and capital are being prudently managed. The Board is providing the required oversight of processes; management is responsible and accountable; and the right level of corporate governance is in place. The company is thus at least maintaining its value, if not increasing it – and its Board and management will become more valuable in tandem. There are other benefits as well when practical and effective risk management processes and procedures kick in.
For instance, through data collection and staff feedback, a number of processes and procedures may be identified for automation, allowing staff to be redeployed more effectively. Operational costs may be reduced, and the firm could improve organisational learning through better-informed employees. With procedures in place to manage operations, the Board and management will be able to focus on matters that affect the organisation over the longer term, including monitoring, reviewing and evaluating performance for better control. All this can be linked back to the Board and management making better-informed decisions, which increases tangible and intangible value.
While risk management enables better decision-making that supports more robust corporate strategy, it only works provided enough effort is put into it. It supplements and is supplemented by the resources, particularly human resources and talent, that already exist in the company. The frameworks of risk management help the firm by focusing its strategies and energies in ways that ultimately improve its value. They provide guidance and help to optimise functions in the process of executing the firm’s strategy. As Board and management oversee these processes, a better understanding of risks confronting the firm will emerge.
But will the risk management function really add value to the Board and Management? Suffice to say that if the Board and management are fully involved with the implementation of the risk function, they will not be able to avoid becoming more valuable to the company!