Given the overabundance of uncertainties caused by several global events, such as the upcoming US election and the increasing political risk in the country, finding a thriving company with a low risk and high return profile is like searching for a precious golden needle in a haystack.
Over the past years, the world of business has seen few companies truly succeed. Even big companies suffer massive losses by accepting higher risk. For example, poor risk management has significantly increased the risk and proliferated several major issues in one of the largest global banks in the world. These issues resulted to a fine of more than US$22 billion since 2008 for violations of the US and UK regulations. Weighed down by regulatory fines, litigation charges, mark-to-mark losses, and awful performance of its investment banking division, a global bank reported a full year loss of approximately US$8 billion (or about seven billion euros) based on its 2015 annual report.
PwC’s 19th Annual Global CEO Survey, which studied over 1,600 company executives across 23 industry segments worldwide, shows that 66 percent of the senior level executives see more threats than opportunities for their companies. However, these threats are not irrepressible and can be turned into high return opportunities by companies with the right Enterprise Risk Management (ERM) in place. The Committee of Sponsoring Organizations of the Treadway Commission (COSO), with PwC as author, is currently developing the right ERM framework that goes beyond internal controls with the goal of assisting companies generate higher profits and contain its risk. The framework aims to lower risk and enhance the performance of an entity by including risk governance and culture, aligning risk to strategy and objective setting, managing risk in execution, monitoring of ERM performance and requiring a comprehensive stakeholder communication.
In fact, countless research have proven that organizations and companies with more mature ERM practices have yielded a much lower risk profile and higher net profits in comparison to its peers. These research further show that organizations and companies achieve higher returns by lowering its risks through MAP, which stands for the following: M – Minimize actual losses; A – Abridge unnecessary costs; P – Produce higher return and sustainable growth.
Minimize actual losses
During the 2008-09 financial crisis, Bloomberg estimated that the total credit losses and write-downs suffered by the global insurance industry to be around US$261 billion. While no company was immune to the impact of the global financial crisis, QBE Insurance Group’s strong ERM framework and its cautious approach to managing its balance sheet lowered its losses and contributed to the net profit of nearly US$2 billion, according to its 2008 annual report. By minimizing its losses and earning a profit during one of the most difficult years suffered by the global financial industry, QBE created more business opportunities by acquiring a number of low-priced assets and securing additional capital from its shareholders to strengthen its future financial capabilities.
To survive in today’s volatile market, organizations and companies should consider establishing an ERM framework that can ensure its resilience, mitigate its losses especially during worst-case risk events, and keep its business moving towards its long-term goal of generating higher returns amidst crisis.
Abridge unnecessary cost
Organizations can also abridge or reduce unnecessary cost by streamlining its business processes through an ERM. Recognizing that it operates in an inherently risky environment, the University of California adopted an ERM framework and recognized that the framework had reduced its probability of incurring losses, created greater financial stability, and protected its resources. As part of itsERM framework, the University of California moreover has developed an ERM information system that contributed to a lower accumulated general, automobile and employment liability charges or costs associated with claims and lawsuits of about USD 561 million from 2003 to 2010 based on its ERM report as of 2012.
To remain competitive in today’s challenging business climate, organizations and companies should deliberate investing in an ERM system that can support their ERM framework, lower their risk, streamline their business processes, and abridge unnecessary cost to increase their profits.
Produce higher return and sustainable growth
Throughout the 2008-09 financial crisis, there is another high performing global insurance company that not only earned a net profit of around US$3 billion, but also ensured sustainable business growth after the crisis. This company has relied on its ERM program as a means to contribute to more than twenty years of continuous positive net income and sustainable growth. This company also has been able to achieve long-term success with its ERM, because it has aligned its ERM program to its business strategy, used the appropriate ERM system to create new value, recognized that taking the right risks is a necessary part of growing as well as protecting shareholder value, and resulted to a risk-based approach in calculating capital requirements.
Another key factor to this company’s success is its risk culture and governance structure. Senior management established a culture committed to an effective governance structure with clear risk responsibilities and timely escalation procedures, continuous and constructive challenges, setting incentives that reward the right risk-taking behavior, and actively improving its risk management processes. In fact, one way this company added value through ERM was when it enhanced its operational risk management framework that freed up nearly22 percent of its operational risk-based capital. The freed up capital was then used to fuel profitable business endeavors and contribute to its five-year average return on equity of about 12 percent.
To achieve long-term success in today’s constantly changing environment, organizations and companies ought to consider instituting an ERM risk culture and governance structure that can maximize their ERM framework as well as system to accept the right risks and upgrade their risk management process to the next level — a level where the organizations and companies can transform these risks to create sustainable returns and value for their firm.
Our deep experience serving companies around the world indicates that there are indeed high performing organizations and companies that have low risk and high return profiles. These high performing organizations and companies have created a unique competitive advantage and 64 percent of these high performing entities viewed their chief risk officers as the key driver or champion for positive change based on a PwC global study.
This is the time for the chief risk officers and other senior business executives to evaluate its existing risk management framework and strive to move it towards an enhanced ERM that can turn risks into not only short-term returns, but also long-term sustainable business value.
Arise! Chief risk officers and other senior business executives, it is your responsibility to transform your company into a high-performing firm that outperforms the industry. You can start by investing on an enhanced ERM that can MAP and improve the chances of your company’s long-term success.
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Jonathan L. Uy is a director at the Risk Consulting practice of Pricewaterhouse Coopers Consulting Services Philippines Co. Ltd., Philippine member firm of the PwC network.
The views or opinions expressed in this article are solely those of the author and do not necessarily represent those of PricewaterhouseCoopers Consulting Services Philippines Co. Ltd. The firm will not accept any liability arising from the article.
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