While the global economic downturn has created volatility in the marketplace, CEOs should be looking at the current climate not as a threat but as an opportunity to capitalize on what may very well be “the new normal.”
Risk managers can help navigate this new terrain by using risk control and claims management strategies to mitigate the potential for retained loss costs to deteriorate from the amounts held for reserves on forecasts for the future. That can not only help preserve the value that has been established but can help deliver final claim closure results that are significantly better than forecasted, presenting an opportunity for risk managers to take advantage of the new paradigm and step into even more meaningful and visible roles in their organizations, says William E. Hughes, senior vice president, Aon Risk Services.
Smart Business spoke with Hughes about how risk managers create value for an organization and how to convert those new perspectives into action.
Why does value creation matter?
The risk management community has always discussed the need to bring value. However, it has never consistently articulated the distinction between preserving value, which is the perceived role of the risk manager usually through insurance and creating value, which is achieved by going beyond the steady state and driving incremental risk-adjusted improvement, or by creating new value where none existed before.
How can risk managers draw attention to their role and why it’s important to an organization?
When risk managers measure the impact and start talking about value creation on a risk-adjusted basis, they will attract more attention. It becomes a compelling story that a nonrisk management audience can understand. It is important for risk managers to understand how effectively they communicate and how clearly they demonstrate that modeling and mitigation strategies may also translate into strategies to address the kind of noninsurable risk factors that comprise the lengthy list of disclaimers found in forward-looking financial statements.
Risk managers will be in a better position to demonstrate why risk management should maintain a strategic decision-making role if they are able to articulate where they are actually creating value, measure the impact of risk management activities and share insights into how similar strategies can manage the volatility of noninsurable risk factors.
How can risk managers create value?
Value cannot be created in a vacuum. Rather, to be truly effective, risk managers should target value creation strategies that are aligned with the value creation strategies of the C suite. To do that, it is important to look closely at those value creation streams because they may be different than imagined. The world has changed, and a better understanding of the nuances of those changes offers insights into where risk management can play a stronger role.
How else can you successfully drive value?
It is helpful to have an infrastructure on which to build value creation strategies to drive the process, and Enterprise Risk Management (ERM) plays an important role in this initiative. There are several steps to successfully drive value. First, evaluate how risk is currently managed throughout the organization and assess overall effectiveness. Next, determine the organization’s ERM maturity target state and note that the optimal state for the organization might not be the advanced state. Then develop a practical strategy that leverages strengths, closes gaps and builds a sustainable ERM program.
After that, develop a well-defined corporate risk profile and quantify the potential impact of key risks on financial performance. Finally, embed risk information into management decision processes.
What characteristics make ERM successful in driving value?
- Board and senior management commitment
- Alignment with corporate strategy and corporate culture
- Appropriate flow of risk information and communication
- Integration with management decision-making, for example, strategic planning
- A dedicated risk executive
- Understanding of risk tolerance
- Qualitative and quantitative analysis
- Proactive scanning for emerging risks
- Risk management that includes seeking opportunities, as well as mitigating and avoiding risk
How can you successfully link to CEO and CFO value creation?
- Assess the organization’s CEO, CFO and board dynamics.
- Review both sets of CEO and CFO value creation strategies with an eye toward how they apply to the organization’s CEO, CFO and finance team.
- Identify where current risk management strategies and activities align and support the organization’s value creation strategies.
- Identify additional risk management strategies and activities that may further support value creation.
- Measure value creation results wherever possible.
- Remember that value preservation is still important.
Value creation is one of the most significant issues that risk managers will be addressing during the next year. Organizations are looking to grow but realize growth cannot happen simply for its own sake. Growth must be profitable and sustainable, and choices that are made about how to achieve it must be evaluated from a risk-adjusted performance perspective. The door is open for risk managers to step forward, and the ones who are prepared to do so will reap the benefits.
William E. Hughes is senior vice president of Aon Risk Services. Reach him at (317) 237-2413 or William_Hughes@ars.aon.com.