Why risk management is vital

A brand new year is here with us again and companies and other institutions will unveil their strategic resolutions for the year. As companies strategise and set to scale the year ahead, it is critical we give a serious thought about risk management. Most businesses desperately need a paradigm shift. Why is risk management important? While many people continue to argue that risk management is good practice, the inescapable fact is that the market so demands it. Financial institutions usually understand the need more. The stock-in-trade is mostly liquid cash and any loss directly hits the bottom line. Nothing would explain it than a real life story.

In year 2008, Jerome Kerviel, a trader in a bank, made a mockery of the French Société Générale’s reputation as one of the world’s best-run banks by effectively “beating them in their own game” automatic warning systems designed to instantly flag up any unusual trading patterns. The rogue trader accused of the biggest fraud in banking history stayed “invisible” for weeks by hacking into his bank’s computer system and removing all traces of his multi-billion pound losses.

Mr Kerviel is alleged to have used his considerable computing skills and inside knowledge gained during five years working in the bank’s compliance department to hide up to £60 billion of illegal trading, which resulted in losses of £3.7 billion.

The chief executive, Daniel Bouton had a horrendous time trying to explain how an employee would make a “minced meat” of a compliance department constituted of 2000 employees. This was a classic case of failure of operational risk management a usually ignored facet of Enterprise Risk Management.

Proper implementation of risk management programmes often succeed more where the company’s board of directors and senior management has a vested interest in the quality of the risk management programmes. The turbulent financial climate that hit the business world-currently at a low ebb-in the better part of year 2008 brought to fore many lessons to the business managers.

It also brought into sharp focus the role of risk Management in our business operations. To some people, Enterprise Risk management is a discipline where jargon and technical lingo abound. This has partly made numerous organizations relegate this function to the back seat. Others have cluttered it together with functions such as Finance -as an auxiliary unit. The net effect is huge unmitigated risks glaring at the shareholders funds as well as the entire institution as a going concern.

Enterprise Risk management is designed to help businesses navigate their way through outcomes that threaten their future and is a strategy that many companies embrace during tough times.

Randy Pausch once said that, “One thing that makes it possible to be an optimist is if you have a contingency plan for when all hell breaks loose.” Organizations are today very keen in establishing risk functions in their strategies for growth probably in the “once –bitten- twice- shy” attitude. Financial performance reporting now includes a thorough analysis of the inherent business risks and the tools put in place to mitigate them.

Risks in an institution may be eliminated or avoided by simple business practices; transferred to other participants or be actively managed at the firm level. Practice of avoidance involves actions to reduce the chances of idiosyncratic losses by eliminating risks that are superfluous to the institutions business strategy. handle the inherent risks. Any organisation that seeks to implement a programme that can stand the test of time must be ready to invest in two main ingredients.

Firstly obtain a buy-in from the Board of Directors, senior management, business unit management and the rest of the staff. Secondly and equally important is installing the risk management culture through continuous staff training and development. Success stories are indeed accessible. However, it’s clear that without allowing the employees to understand their roles in the plan, any implementation efforts may be futile.

In a nutshell, one of the key lessons drawn from the staggering losses racked up during the global credit crisis is that risk management can no longer be relegated to auxiliary status. Treating risk as a mere compliance issue leaves businesses vulnerable to further market convulsions and shareholder value-erosion. Repositioning risk management as a fundamental part of institutional culture is essential.

Kihuro is a Risk Management Practitioner at Panafrican Housing Financial institution, Shelter Afrique. jkihuro@yahoo.com