Enterprise risk management (ERM) is a systematic approach to managing and addressing risks that can affect an organization’s success. If the risks are not identified and resolved early, they can have considerable effects on businesses. While some may cause a minor difference in the day-to-day operation of a particular line of business, others may cause catastrophic losses to the entire business. Irrespective of the effect and impact on a business, all risks must be identified, assessed, categorized, managed, tracked, and reported. This calls for companies to have a proper risk management framework in place.
Before discussing more about this process, let’s first understand the type of risks a business may encounter while operating.
Internal risks: These risks are related to internal processes and operations of a business organization and can be controlled. The risk of employee misconduct, including fraud is an excellent example of internal risk.
Strategic risks: These risks are taken by an organization to pursue value. The risk related to investing in building a new product line is an example of strategic risk.
External risks: These risks are largely beyond the control of the organization. A natural disaster like an earthquake is an example of external risk.
Legal risks: These risks may arise due to a business’s failure to adhere to established laws and regulations. It can lead to the imposition of heavy penalties due to lack of compliance – which may lead to loss of business reputation.
Environmental risks: Climate-change-related risks can cause businesses to have increased insurance costs. Also, they may cause more damage to their property and resources besides disrupting their power and water supply.
Market risks: These risks involve losses on financial investment brought on by adverse price movements. Changes in equity, commodity, or foreign exchange fluctuations are some examples of market risks.
Regulatory risks: These risks can arise due to new changes to laws and regulations, which might cause business losses. In some instances, the changes can be so drastic that current business activities may be deemed illegal by the regulatory authorities.
These are just examples of various risks that may impact an organization. To mitigate and reduce their impact, businesses need to have a mechanism that helps them identify, assess, and manage risks in advance. Such processes can take the form of a risk management framework based on the following steps.
- Risk identification
In this initial step, your in-house financial experts or an outside financial advisory firm will work to identify various risks that your business may get exposed to in its operating environment. These risks can be of different kinds as discussed earlier.
To identify the risks, the experts will study the data related to various processes, analyze market scenarios, and talk with multiple stakeholders of your business.
- Risk analysis
After the experts identify the risks, they will deeply analyze them – to determine the scope of the risk. It also enables risk management analysts to understand better how risk influences various aspects of the organization.
Model validators and auditors will analyze which business functions are affected by a given risk. Accordingly, they will be able to determine the severity and seriousness of the risk – including a risk rating for each line of business. Different risks will have different impacts on your business. While some risks materiality effect can bring the entire business to a standstill, others may cause minor inconveniences.
- Risk evaluation or risk assessment
Before planning solutions for managing, resolving, or mitigating risks, they need to be categorized, ranked, and prioritized.
The risks that may cause some inconvenience to your business are rated lowly by the experts. However, the risks that can cause severe loss to your business are given the highest rating. Ranking the risks is essential as it gives a holistic view of the risk exposure to an organization. By understanding the highest-rated risks, business leaders can intervene immediately and allocate the required resources to mitigate such risks. There are two types of risk assessments, namely Qualitative Risk Assessment and Quantitative Risk Assessment.
Qualitative Risk Assessment
Risk assessments are intrinsically qualitative. While metrics can be derived from the risks, most risks are not quantifiable. As an example, the risk of climate change cannot be quantified as a whole, only different aspects of the risk can be quantified. Financial experts perform qualitative risk assessments while maintaining objectivity and standardization throughout the entire business enterprise.Quantitative risk assessments are the best way to assess finance-related risks. Such risk assessments are widespread in the financial sector because they primarily deal with statistics. This number can be the amount of money, the interest rates, the metrics, or any other data point. Statistics are critical for risk assessment in the financial sector. Quantitative risk assessments are generally more objective than qualitative risk assessments.
- Response Planning
After the risks have been identified, assessed, ranked, and categorized, the next step is to develop solutions that reduce the impact of the risk to a bare minimum. As a result, financial experts may contact various stakeholders affected by a given risk – to better understand the implications for risk management. This may include a discussion on strategies and solutions for risk governance practices for risk management purposes.
- Risk mitigation
The strategies and solutions that have been planned for use in the previous step will be used in this step. Financial experts will ensure the strategy and solutions are correctly, completely, and effectively implemented, thus resulting in effective management, elimination, or limiting of the damage/impact caused by risk.
- Risk monitoring and review
While some risks can be eliminated, others cannot be removed and always remain present. Market and environmental risks are two examples of ever-persistent risks that always need to be monitored. Your financial experts may use manual risk monitoring systems like spreadsheets and templates or automated and digital-based risk monitoring systems to monitor the risks. Systems can also be used to recognize any risk changes or associated factors. If model validators feel these changes have a potential impact on the business, they will accordingly take necessary remedial actions.
This step-by-step and structured process undertaken by the financial experts of a specialist financial advisory firm will help manage, resolve, or mitigate various risks encountered by your business. Also, this process will form a basis for creating an Enterprise Risk Management (ERM) framework. An ERM framework provides structured feedback and guidance to your business’s owners, directors executive management, investors, and other stakeholders regarding the risk exposure of an organization. With such a proactive risk management culture and setup, businesses can effectively ward off various business risks and threats. Also, it can maintain business continuity and disaster recovery, to keep its operations running smoothly.
To navigate business risks confidently and protect your business from their impact, you need specialist guidance from highly experienced and knowledgeable financial experts of a reputed financial advisory agency like Leka Research Institute. Speak to them today at
+1(855)-558-4774 or info@lekaresearchinstitute.com as risks won’t wait for your business to act.