Risk is the uncertainty of an event happening in the future. This uncertainty deviates an organization from achieving desired outcomes and hence it has to be managed. Enterprise Risk Management (ERM) involves various strategies that identify potential business risks and analyze them to provide appropriate responses to mitigate and minimize any losses that would have to be dealt with as a result of taking a risk. Every organization whether large or small needs to have an effective risk management process in place in order to reduce additional expenses and losses.
ERM is a systematic and structured process that enables organizations to make informed and effective decisions both operationally and strategically.
I. Benefits of having an effective ERM system:
- Increases the efficiency of operational functions
- Early recognition of risks and quick and effective response
- Enhanced legal and regulatory compliances requirements
- Improved methods and techniques to achieve organizational goals and objectives.
An organization faces various types of risks while performing its regular activities. These risks have to be identified and categorized under any one of the four below stated types of risk;
II. Types of Risks
1. Hazard risks:
It includes damages, natural calamities, diseases, etc. which cause disturbance and pose a hazard to life and property.
2. Financial risks:
It includes interest rates, foreign exchange, cash flow fluctuations, inflation, default risk, etc. which may lead to increased costs and reduced revenues.
3. Operational risks:
It includes product failure, capacity efficiency, accounting process, planning and budgeting, investment planning, technology changes, change in leadership, etc. that directly affects the working of the organization.
4. Strategic risks:
It includes competition, decreased brand image, customer demands, capital availability, demographic, social, political, and regulatory trends, etc. that influence or affect the decision-making capacity of the organization.
III. 5 Steps in Risk Management Process
ERM is a proactive thinking approach that is used by organizations to make strategic changes to increase their productivity and profitability. Once the organization identifies the risk that can cause a threat to its value, it begins its risk management process which involves five steps:
- Identify risks and categorize them
- Analyze risks and quantify each risk
- Evaluate risks and based on priority give ranks to each risk
- Exploit every risk and find measures to treat or control risks
- Monitor and review risks on a regular basis
IV. Response Strategies Used:
Every organization responds differently to a similar risk facing the entire industry based on their market value, exposure to the risk, their position in the market, etc. However, some commonly used response strategies are:
1. Risk Acceptance:
The acknowledgment of the risk and its associated consequences is a part of risk acceptance. A company may have to face some kind of loss or setback for taking up or avoiding risk. This is a response wherein the management is willing and ready to accept any losses arising because of the risk.
2. Risk Reduction:
This response strategy involves mitigating risks in a particular manner that reduces the severity and likelihood of losses or expenses. Risks can be reduced by taking insurance or by hedging.
3. Risk Avoidance:
This involves the termination of any activity that poses a risk. It eliminates any potential loss or negative impact that can be caused by simply not taking the risk. Risks can be avoided by implementing better policy, procedures, improved software and technology, and by providing regular training. Risks can also be avoided by taking up alternative or different methods of doing activities or processes.
The ERM process has to be kept as simple as possible. The more complicated it is, the more difficult it would be to find quick solutions to the risks faced and the chances of losses or additional expenses increase. Organizations can focus on growth and productivity along with facing various risks if they focus on getting the ERM right. An organization needs to focus on some important areas to get its ERM functioning perfectly.
V. Focus Areas for ERM:
1. Risk management committee:
It is important for organizations to form a risk management committee consisting of trained members from different departments within an organization. The role of this cross-functional committee is to conduct regular meetings and understand the various risks that are faced by the organization and how the risk would affect the organization as a whole.
2. Organization values and culture:
The risk management committee understands the organization’s working culture and the values it is built on. It is important to know the desired behavior and the outcomes that are expected from action and to build solutions based on what the organization stands for. The risk management solutions should represent the ideals of the organization and should be an integral system of the organization.
3. Policies and Procedures:
An organization’s work is affected by internal and external factors as well as the legal and political environment. In order to work in all these conditions, organizations frame policies and procedures keeping in mind all the risks involved and also the permissible loss that is acceptable. These policies and procedures provide a clear guideline that helps every stakeholder to carry on their activities and avoid or reduce some of the most certain business risks and give them the confidence to carry on regular activities with ease. The risk management committee is regularly updated with all practices, employee assessments, and other related internal reports in order to regulate any deviations and mitigate risks.
4. Regular and constant improvements:
The ERM of every organization evolves slowly and gradually over the years of its operations. It is a continuous process that requires regular communication of all policies, procedures, and organizational values communicated to every stakeholder of the organization so that it can build its core value and grow strong while deriving the expected results and claim its value and position in the market.
VI. Challenges to have ERM:
Every organization wants to set up an ERM to help itself from any risks, however, there are certain challenges that make it difficult for organizations to have ERM;
- ERM programs and solutions are capital-intensive specialized systems. Not all organizations are capable of investing their resources into ERM, especially small organizations that would like to use their money and time for other productive activities.
- ERM emphasizes governance, rules, and regulations and a regular assessment of the same. This requires both time and money which is not always available with the organization.
- Every member of the ERM committee would view each risk with different levels of severity and hence it would be difficult to arrive at a consensus.
Over to you
Diligen operates with a specialized team of experts who work on specialized ERM software to provide clients with a consistent approach in order to identify every associated risk and also provide strategies to mitigate the same. Diligen provides clients with real-time data reports that provide in-depth analyses of both operational and organizational risks as a whole. Our ERM team helps clients to form their own risk management programs in the simplest and cost-effective manner to detect, evaluate and mitigate risks. Our ERM programs help clients to reduce any loss or costs of risk and help to anticipate any risks incidents helping clients to adopt a proactive approach in their operations.