The great debate: Are risk professionals ready to consider opportunity alongside risk?

Gert Cruywagen, founder and chairman of the IRMSA Risk Foundation (and also director of risk at Tsogo Sun) said that the most profound change in the risk section of SA’s King IV code of corporate governance was the shift from the ‘governance of risk’ to the ‘governance of risk and opportunity’. Rule 4.1 of the proposed code which is headed ‘risk and opportunity governance’ reads: “The governing body should govern risk and opportunity in a way that supports the organisation in defining core purpose and to set and achieve strategic objectives.” The potential impact of this change on risk professionals was keenly debated by the 120 risk professionals who attended the Risk Summit held at the Hilton Hotel, north of Johannesburg, on the 5th May 2016. “We view this change as an opportunity for risk management and for risk managers as a whole; but we will allow today’s panellists to explore the concept further,” said Ms. Gillian le Cordeur, CEO at the Institute of Risk Managers South Africa (IRMSA).hideThe panel discussion was facilitated by IRMSA Vice President, Mr. Mark Robins, who was tasked with interrogating the new paradigm under which risk professionals might migrate from a ‘risk only’ focus to one that included ‘risk and opportunity’. His first question was how corporate boards and executive management teams who ascribed to the existing opportunity management process would adapt to the King IV proposal. Group Commercial Executive at Imperial Holdings, Ms. Berenice Francis, said that executives were concerned about how to internalise opportunity management within the organisational structure. Most firms already engage in opportunity management, whether formally or informally, so the challenge for opportunity ‘champions’ will be to formalise the practice, to document it and to develop and apply a common language. “We can apply the same principles to opportunity management that we use for other frameworks such as corporate governance, compliance management or risk management,” she said. The trick will be to ‘sniff’ out the informal processes already in place within firms and to formalise them. It was clear from the discussion that ensued that the ownership of the opportunity management function could present difficulties, particularly from a corporate governance perspective. Opportunity is traditionally discussed by teams tasked with business development and strategy and it will require a significant change in thinking to move this function to the risk division. Some summit attendees questioned the need for expanding the existing risk definition to include opportunity. The argument goes that King IV confuses the risk governance process by creating separate definitions for ‘risk’ and for ‘risk and opportunity’. Further to this the risk definitions provided in ISO 31000 already adequately address the opportunity side of the risk dimension. “Why the change when the opportunity side is already in the definition and thus included when we apply normal risk management practices,” asked an obviously frustrated delegate. The short answer is that the inclusion of ‘opportunity’ in the existing risk definitions is not obvious to the layperson. “People tend to focus on the negative or the loss side of risk only and for this reason the decision was taken to have ‘opportunity’ elevated as a separate feature in the governance definition,” said Mr. Cruywagen. “Risk means different things to different people and if we are trying to highlight the opportunity aspect for a good reason then we should do so,” said Mr. Robins. During his lengthy tenure as Senior Vice President: Group Safety, Environment and Risk at AngloGold Ashanti he learned that people often equated mining risk with safety or downsizing. Meanwhile in the United Kingdom risk is usually associated with the financial sector, possibly as a result of the aftermath of the 2008 Global Financial Crisis. It has taken years for risk professionals to elevate risk management to the status that it currently enjoys and there are genuine concerns that by splitting opportunity from risk some of these advances will be undone. The main fear seems to be that the layperson will isolate ‘risk management’ from ‘opportunity management’ and label the former as a negative pursuit. Despite this Mr. Cruywagen was adamant that the decision to notionally extract ‘opportunity’ from the governance definition of risk would not downplay or downgrade the risk management function. “How can risk officers practically incorporate opportunity management in the workplace,” asked Mr. Robins. At the outset is should be noted that the traditional assessment of high level risks already identifies opportunities. But what happens when opportunities exist that are not linked to a risk? A possible solution would be to include these opportunities as a separate risk titled ‘missed opportunities’. “The risk profile that we present to the board risk and audit committee does not focus on individual risks, but rather on risk landscapes,” said Mr. Cruywagen. By way of example he said that ‘rising electricity prices’ or ‘irregular power supply’ were not impactful when considered individually, however when combined as ‘costly and unreliable utilities’ they were elevated to a priority position in the overall risk landscape. “We rank and rate the missed opportunities in the same way as we rank crime and security, unreliable utilities or any other issue in our risk landscape,” he said. Mr. Hennie Thessner, Head: Enterprise Risk Management at Nedbank Corporate said that risk management teams should reinforce their relevance to the business by demonstrating value wherever possible. “The inclusion of opportunity in the risk definition is the next ‘big thing’ in risk management and will contribute to the further evolution of the field within business,” he said. Risk and opportunity usually go hand-in-hand with the result risk managers are well placed to assist firms by identifying potential opportunity when conducting their risk evaluations. A practical way to assimilate opportunity into the risk management process is for the risk committee to be more aware of the firms’ business strategy. “We consider the current business strategy in the risk committee – it gets discussed – we look at the opportunities – and it becomes a living document,” said Mr. Thessner. He concluded that the new definition would present risk managers with an opportunity to reposition within the firm, add greater value to the business and remain relevant: “Next time you are at the risk committee and you present the firm’s risk profile you can also tell your board and executive committee about the potential opportunities that have come to light through your involvement in the business.” Both King III and King IV seek to incorporate risk management into the business strategy making process, with the latter attempting to further reinforce the position. “Will King IV result in a repackaging of compliance-based risk management or do we stand a chance of achieving the Holy Grail wherein risk management truly informs business strategy?” asked Mr. Robins. He directed the question at Mr. Reginald Haman, Executive Head: Risk, Assurance and Sustainability at Royal Bafokeng Platinum. A business strategy exists to take up opportunities and to mitigate risks whether these are specific to the firm or the broader sector within which it operates. This means that the risk management and strategy processes are closely linked with each requiring an intimate understanding of the opportunities and risks facing the firm. One feeds off the other, as it were. Mr. Haman said that King IV attempted to balance strategy, risk, performance and reward: “If you look at business performance versus the management of risk within a strategic context it will give you a good sense of whether the business is successful or not.” One way for firms to sidestep the risk and opportunity issue would be to focus on identifying ‘material issues’ instead. “When you focus on a single material issue it becomes irrelevant whether it falls under a risk function, a strategy function or a stakeholder management function – positive and negative aspects of the issue will be easily identifiable,” he said. It is important to note that a risk assessment of each material issue might yield different results from one stakeholder to the next. The mining sector presents numerous examples of the risk and opportunity paradox. Global mining firms have struggled in recent years due to a severe slump in commodity prices. As a result many SA-based firms reported large impairments and suffered massive drops in their share prices. Soft commodity prices are seen as a serious risk to firms in the mining sector, but – and this depends on the overarching strategy – soft commodity prices could present incredible opportunities too. The same risk can be addressed from two different angles. One mining firm might react to low commodity prices by reducing its overheads through, for example, retrenching employees. Another firm might approach the risk by acquiring strategic assets at rock bottom prices. This fundamental difference in the strategic reaction to the same risk can be linked back to the particular firm’s risk appetite. “Risk appetite has a negative connotation because it has always been perceived as setting a boundary for the business to operate in; by introducing opportunity into the debate you have to allow for a strategic outer boundary,” said Mr. Haman. He added that risk appetite can become a weapon within a strategic function to execute overall business strategy. Risk managers are quick to point out that the formulation of a risk appetite statement presents significant challenges and it seems certain that an opportunity appetite statement will prove similarly trying. “Our risk appetite statements are based on the overarching strategic risk appetite of the firm,” he said. The situation can be illustrated by considering a firm’s appetite for gearing, the level of debt that the firm is prepared to carry on its balance sheet. Mr. Haman said that a flexible stance on risk appetite would enable a firm to set its gearing at a much higher level in a period during which merger and acquisition activity was likely. By increasing the gearing from 30% to 60% a firm would be able to avail of an acquisition opportunity that arose in the current period and may not present in the following cycle, for example. “If your strategy is focusing on growing your business by acquisition you will set a separate opportunity appetite, which allows you to take up an opportunity that might arise in that year – in failing to do that your risk appetite becomes a limiting factor,’ he said. Will risk managers have the appetite to add opportunity management to their portfolios? “Risk officers are responsible for the governance of risk, which means that we have to ensure the necessary frameworks are in place and that the risk management processes are followed in a transparent manner,” said Ms. Francis. She added that proposals in King IV would lead to a gradual change in risk management practices that would not necessarily require greater input from management teams. “Nobody has said the risk manager or director of risk or chief risk officer should necessarily take on the opportunity management responsibility – that is for the board to decide,” said Mr. Cruywagen. What the new code requires is that the board assigns the task to a division within the firm and that there is governance of this opportunity. Governance aside the biggest challenge facing the profession is to tackle the ongoing negative perceptions around risk. Risk has two elements, the downside (risk) and the upside (opportunity). “When you talk to people in general or you consider generic definitions of risk, as supplied by Wikipedia.org, you always find the focus on the downside,” concluded Mr. Cruywagen. “The reality is that risk and opportunity are two elements of the same thing – our focus should be on assisting businesses in converting the risk element into opportunity.” Harvesting value from the opportunity side of risk During her keynote address to the Risk Summit, Ms. Carol Fox, Vice President: Strategic Initiatives at RIMS, talked through a case study to illustrates how risk can be converted into value. The story centred on a grove of some 1200 olive trees located on the campus at UC Davis (the University of California, Davis). The trees contributed significantly to the beauty of the campus but presented a major threat towards the end of each olive season. Olives ripened, fell to the ground and created a ‘tripping’ hazard. Following a number of incidents involving students and an eventual seven-figure lawsuit the campus management had to tackle the risk posed by the falling fruit. The first proposal – easily dismissed due to the negative impact it would have on the campus’ ambiance – was that the olive trees be cut down. A second proposal was to increase the clean-up schedule and thereby reduce the chance of any student slipping on the fruit. Although more suitable than the first it became apparent that this proposal would add unnecessary costs to the maintenance budget. Finally the head groundkeeper came up with an ‘off the cuff’ idea to harvest the olives and process it into olive oil for sale at the campus bookstore. “Once everyone stopped laughing that is exactly what they did,” said Ms. Fox. The idea proved so successful that the resulting business venture was soon producing olive oil, body oil and canned olives. Interest in the product was such that the 1200 olive trees were insufficient to meet demands, sending the venture in search of product from surrounding olive growers! “The power of risk management comes down to the decisions that we take – in whether we choose to control or mitigate the risk or whether we find ways in which the business can exploit it,” said Ms. Fox. She added that the case study provided a great example of how value could be created from something that was first considered to be a total loss. The story is an excellent lead to a discussion of the emerging trend in risk management towards the integration of the risk management discipline with the strategy planning and execution function within organisations. What this means is that today’s risk professional is just as concerned with creating value as he or she is with protecting it. To quantify this value, Ms. Fox referred to the conclusion reached by Dr Ronan Gallagher and Mr. Mark Farrell who confirmed a high correlation between ERM and value by modelling RIMS Risk Maturity Model data. Their research suggested that firms with mature ERM in place realise a 25% value premium over those without.

The great debate: Are risk professionals ready to consider opportunity alongside risk?

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