Questioning the foundations of the economy
In the previous post, issues were raised about the Canadian financial system: Is Canada relatively immune from a deepening depression in the US and Europe? Are Canadian banks, in particular, on solid ground? The main implication I am trying to point out for risk managers is that, in whatever context you happen to be working, a multi-faceted risk assessment that questions common assumptions is needed.
Questioning the foundations of the economy
In a previous post on Canadian Financial Risk, I reported on commentator Bob Chapman’s assessment. He had said that Canada has a very solvent financial system; has always been very conservative; and that while the US and Europe are headed for a significant crisis, the magnitude of its effect on Canada should be about half of what they will experience. I expressed doubt that Canada’s isolation is really guaranteed.
This is part 2 of financial commentator Bob Chapman’s answer to my question about the actions of speculators targeting countries’ economies, and Canada’s position. In my last post, he covered Canadian Financial Risk; here I paraphrase his answer about Greece. The interview was podcast by James Corbett.
What happened in Greece was a combination of things…
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I sent in a question on Canadian financial risk to be posed to financial commentator Bob Chapman, who is interviewed every Monday by Canadian expat James Corbett. Corbett lives in Japan, where he produces The Corbett Report on political, educational, financial and other topics. The Q/A begins just before the 31:00 mark in the podcast. I will summarize the main points of Chapman’s answer here, with the caveat that it is a paraphrase, and for the exact language, readers must go to the interview itself.
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Traditionally confined to either loss control in the realm of commercial insurance, or financial controls and audit, enterprise risk management has now taken an evolutionary step to encompass the entire spectrum of strategic and operational risk.
Risk has gained, in recent years, a high profile in the public mind, as waves of corporate malfeasance, natural disaster, security threats and economic meltdown have rocked the foundations of organizations in all sectors, and created profound distrust among stakeholders. ERM implementation is now proving its value as conventional risk management duties expand to embrace strategic planning and innovation.
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How to Write a Risk Statement
I would say there are five rules to writing a risk statement:
- Write a complete sentence, consisting of a cause and effect.
- Link the two clauses by a phrase such as “leads to”; “causing’; “results in” (without using conditional terms like “might”; “may”; “could”).
- State the cause as an event, or as a set of conditions.
- State the effect upon the program goal, objective, or value criterion under consideration.
- Identify and state the risk that lies as far upstream as is practical to manage in the chain of cause and effect.
Risk Statement Examples
Manufacturing process, using a critical fabricated aluminum part sourced from a supplier which has just been bought out.
Changes to management of supplier X leads to faulty weld, heat treat and QA of our special-order welded 6061-T6 aluminum part.
Private school language program, expecting foreign student contingent from a country where political unrest is imminent.
Communication ties severed with institutional contact Mr. X within next 3 weeks results in inability to arrange permissions, visas and travel for September cohort.
Custom web security firm plans to set up a new office in Hong Kong. They are inexperienced in international business and getting help to apply for a business license.
Professional services Co. XYZ prepares deficient business license application, causing delay to planned September launch.
Explanation of Risk Statements
Notice that the statements could easily have read, for example, in Context A: “Customers injured” (characterizing this as a product liability issue); or in Context B: “September students don’t show up”; and in Context C: “Office opens late.” But the offhand, short keyword approach to risk ID doesn’t serve you very well.
I identified causal events, as far upstream, so to speak, as I could, in the hope of taking action to prevent the risk before it even matures.
So in Context A, I didn’t focus on the end product failing; nor on the faulty part entering our plant. I focused on the supplier’s new management somehow compromising the weld, heat treat and QA process. Can we take steps to guarantee that process?
In Context B, it was the communications drop that was going to cause our risk to manifest. Therefore, could we look at back-up communications channels?
In Context C, there is still time to do due diligence on firm XYZ and explore options, and so build extra assurance that the Hong Kong business license application will succeed.
At the same time, by describing the effect on our plan, I have made it possible to think more clearly of alternatives to the plan and post-event mitigation (contingencies).
You can imagine a risk register of, say, 50 risks on a critical initiative. If they are all just vague keyword phrases, then their assessment and associated treatment plans will be just as vague. But if the risk statements are complete, time-specific, directly targeted to goals, and indicate upstream opportunities for prevention and mitigation – then you will have a tightly defined risk profile that you can act on.
Risk Statements vs Risk Categories
I’m creating the first draft of the exam for an upcoming Enterprise Risk Management certification, and in the text they are using, the idea of writing a cogent risk statement is not addressed. But I think it is relevant: recent years’ risk management surveys show that people have little confidence in the effectiveness of their risk methodology.
There is a distinction between a risk category and a risk statement. Many people identify risks with two-word phrases: “reputation risk”; “construction risk”, and so on. These are not risk statements, they are general rubrics within which you must specify the risk. I’ve heard of consultants presenting lists of risk categories as if they represented the sum total of identified risks. The trouble with that is, while a two-word phrase is fast and easy to say, the threat that it denotes in relation to your organization is unsaid.
Now lists of risk categories, derived from loss history in a given industry (often sourced from brokers) are undoubtedly useful to help you identify relevant risks – but you have to use them correctly. They are not a substitute either for a comprehensive risk identification exercise, nor for writing complete risk statements.
A complete risk statement, whether or not inspired by or derived from a risk category, is formulated in direct association with a task, goal, objective or value criterion in your business or organizational plan. In the context of Enterprise Risk Management, the concept of risk goes beyond potential loss due to exposure of assets to hazards. The ISO 31000 defines risk as the “effect of uncertainty on objectives”. The older AS/NZS 4360 says: “the chance of something happening that will have an impact on objectives”.
You can find further discussion, with examples of good and poor risk statements, in the prior version of the ERM Guideline I wrote for BC government (section 2.3.2, page 20). You can email me if you want to see this — the current version doesn’t have it.
In this series on risk methodology, so far I’ve covered:
How to do Risk Assessment-Establish the Context–Part 1
How to do Risk Assessment-Establish the Context–Part 2
Pitfalls in Writing the Risk Context
Using Risk Categories
Risk Categories: Strategic and Operational
A client sent me a question today, which I quote with permission:
I’ve been tasked to go over the strategic (corporate) risk register done by the exec… The question I have is, there are 14 separate risk categories, while the operating depts. have been using 4. Is it worthwhile to keep them consistent, or would it make sense in any universe to use different ones for strategic vs. operating risks?
I definitely want to cut the number of categories down from 14 to 4 or 5; please advise if this makes sense also.
Here is the short answer: there is no strict rule about whether operational and strategic risk assessment can use the same risk categories. Nor is there a prescription about the number of categories you must use. Rather, you would make those decisions based on how you need to manage your information. First, you work to identify risk using categories; then, the categories work for you to manage the results. Let me explain.
Risk Categories: Generic and Specialized
Aside from the question of scope (operational/strategic), risk categories fall into two classes: generic and specialized. The generic risk categories are the familiar ones that apply to any organization; here’s a partial list drawn from the Guidelines for Managing Risk in the Western Australia Public Sector:
- national and international events
- personnel/human behaviour
Specialized risk categories are the ones that belong to a specific vertical (industry, profession, field or practice). They are categories of analysis that subject matter experts can bring to the table. Project risk categories are a good example – especially useful if they are arranged by project stage. Here is just a sample of risk categories that would be relevant to the analysis of, for example, an IT implementation initiative:
- process and system training
- process compliance and user acceptance
- security and privacy
- release management
How to Use Risk Categories
Use risk categories in two stages; there’s a kind of shifting gears in the way you use them.
Stage 1: Peruse risk categories and consider each one to identify risk and create risk statements. As facilitator of the risk ID session, you present all of the risk categories that you can get your hands on (that are relevant), and that you have time to cover.
Get the session participants to consider the whole list, so that you “map” each individual viewpoint against each of the categories. It’s unlikely you’ll have time to do this line-by-line: send out the lists ahead of time, and then do a walk-through at the session. The idea is to use the risk categories to inspire people’s thinking and jog their work-related memories, so that they can formulate risk statements about the project at hand.
Stage 2: Once you have completed your risk ID, you may have a list of, say, 30 to 50 risks within a specific context. Now that you and the group have worked so hard to delve into each of the categories, you have to decide: how do you want categories to work for you?
Are they an administrative tool? You will likely want to sort on the material by department, business unit, risk owner, or by project stage. You might therefore need to create new categories or spreadsheet columns, and re-categorize certain risks. For example: something originally identified under the rubric of “Financial” may belong more properly under “HR” or “Marketing”, depending upon who is looking after mitigation. You could invent a code or category to coordinate mitigation, such as a communication plan to address 30% of the risks identified across various departments.
Are categories an analytical tool? It makes sense to arrange categories to reflect the perceived source of the risk – good for analyzing the strategic view of things. You might be able to discern where the most critical risks are coming from, or what function they are affecting, and draw useful conclusions. You can imagine the richness of the analysis if your department heads agree to categorize (accurately, with consistent criteria) an aggregated 250 risks across the organization in several columns.
There is no end to the nature and number of categories, nor a minimum. It all depends upon the number of risks, the complexity of your risk information, and what you want to get out of it. Sorting by categories helps you manage mitigation, as well as to interpret the risk profile and write your report.
You work to extract the risks from categories. Then you make the categories work for you.
In How to do Risk Assessment–Establish the Context Part 1, I gave references to risk context in ERM standards, and described a dual purpose for writing the risk context statement (scope/assumptions and risk ID agenda). Also, I posted a template pdf Risk Assessment Template-Establish Context with some commentary to help you (or the project manager) write a context paper.
Here is a little more detail to help anyone responsible for setting up a rigorous risk identification and assessment process.
First, the philosophy that informs this approach says that risk is relative, and identified in relation to planned goals and values – whether for operational or strategic risk assessment. A valid risk assesment process is logically consistent, reasonably comprehensive, and transparent. Using the context paper helps meet these conditions and leads to high quality results.
You know, the more I think about the context paper, it occurs to me how many conceptual difficulties get sorted out when you do the preparatory work.
The project lead can actually write the draft of the context paper. That means that you, as the risk professional, need only provide guidance. Keep the paper concise; use attachments or references to existing documentation to avoid duplication.
If the plan in question is informed by an environmental scan, so much the better. The scan should paint a picture of fairly well understood and predictable conditions (demographics, industry developments, etc.) that have some effect on the organization’s strategy. Once these are set out in a report, it is easier to discern specific threats and thus compile a strategic risk assessment.
The items in the context paper template – project goals and detailed tasks; professional values; stakeholder interests, etc. – should be considered sources of risk. You should list them carefully because you will review each to identify risks that can impede the success of the project. The context paper will help you trace through the project and ask: “What could stop us from achieving this goal?”; “What could affect our efforts to accomplish this task, with respect to cost, quality, or timeliness?”
The value of leading the session participants through such a list is that you “map” several uniquely informed brains against the key elements of the project. Each round table member will have a different response to the context, and different ideas of risk, which means you increase the chances identifying all of the most critical risks.
Well, it happens that people sometimes do not like, for political reasons, the risk profile you develop and the conclusions of your risk report. But when you share the context paper and make your scope and assumptions transparent, critics will be hard pressed to fault your method. More often, you will find that uniting a diverse array of opinion around a common context leads to effective solutions. This only adds to the credibility and strategic value of your risk management program.