Benefits of Enterprise Risk Management
In the previous article, we have discussed the concept of enterprise risk management (ERM) and how it is different from traditional risk management. We also discussed how enterprise risk management (ERM) is now being adopted by an increasingly large number of companies across the world. This large-scale adoption is because of the various benefits which are provided by this model.
In this article, we will have a closer look at some of the significant contributions of enterprise risk management (ERM) to the field of risk management in general.
- The Upside of Risk: Enterprise risk management (ERM) is the first discipline of study within the risk management domain which has recognized the potential upside of risks. Up until that point, the definition of risk generally had a negative connotation. This meant that risk was only defined in terms of losses. However, enterprise risk management (ERM) became the first framework to identify risks as a possible opportunity.
It also needs to be understood that the enterprise risk management (ERM) framework pays a lot of attention to the relationship amongst various risks. Practitioners of ERM are always looking out for how changes in the risk management plan for one risk have led to a change in the overall risk portfolio. The enterprise risk management (ERM) framework also adds business and strategic risks to the list. This approach considers the failure to innovate to be an important risk.
- Identification of Risk Owners: The enterprise risk management (ERM) approach differs from other approaches in the sense that it makes it mandatory for the risk governance committee to appoint one single person to be in charge of every risk. The framework mandates increasing the knowledge of the risk owners. The organization should ensure that they have the requisite skills and tools required to perform the role.
- Risk Management across All Levels: The enterprise risk management (ERM) framework states that the organization is made up of several levels. For instance, there are activities that need to be performed which create value for customers. Then there are various relationships within the organizations. These relationships could be external in the form of relationships with customers or suppliers.
Alternatively, they could be internal in the form of reporting relationships amongst various colleagues. Also, there are physical assets such as land, machinery, and other capital equipment.
The enterprise risk management (ERM) framework ensures that the risk management activities are done at all these levels. The crux of the framework is that the enterprise risk management (ERM) model must ensure that risk management is completely aligned with the overall business model.
- Centralized Risk Management: Prior to the advent of enterprise risk management (ERM), the risk management function was scattered at various places in the organization. Every department would create its own risk management plan. These plans would often be contradictory and counterproductive. This is where enterprise risk management (ERM) came into the picture. One of the biggest contributions of the enterprise risk management (ERM) framework is that it encourages the organization to have a look at the risks from the top.
The enterprise risk management (ERM) framework recommends that there should be one person in charge of all the risk management activities within the organization. This person should be from the higher management. This is because they need to have access to the top-level executives as well as to the board of directors. Having a centralized risk function also means that the organization benefits from economies of scale while buying insurance, derivatives, or other such products which are used to transfer risks.
- Extensive Documentation: The enterprise risk management (ERM) framework forces the business to do extensive documentation. This is done to ensure that a knowledge warehouse is created. The purpose of creating this repository is to ensure that the knowledge resides within the organization and not within a specific person. The concerned risk manager has to ensure that a visual representation of the relationships between various risks is made.
These visual relationships can provide a more intuitive interface for the organization to learn about the risks. Also, the details of various mitigation plans, the various options which were considered, and the decision criteria which was used need to be documented. This will help future managers when they make their decisions. Prior to enterprise risk management (ERM), there was not much emphasis on the documentation aspect.
- Standardize the Process: The enterprise risk management (ERM) framework provides users with a framework to standardize the decision-making related to risk management. It must be understood that the tools being used for risk management will not be standardized and neither will the options to mitigate the risks.
The framework provides high-level guidelines to standardize the steps. That is done to ensure that the risk management decisions taken across different time periods as well as by different risk managers continue to stay consistent. The model provides enough wiggle room which can be used by risk managers if they want to customize a decision.
The bottom line is that enterprise risk management (ERM) has been a very valuable part of the overall risk management subject. It has led to radical decisions being taken in the right direction as far as identification and management of risk is concerned. It is these benefits that are leading companies of all sizes, across the world, to readily adopt the steps suggested by this framework.
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The article is Written By Prachi Juneja and Reviewed By Management Study Guide Content Team. MSG Content Team comprises experienced Faculty Member, Professionals and Subject Matter Experts. We are a ISO 2001:2015 Certified Education Provider. To Know more, click on About Us. The use of this material is free for learning and education purpose. Please reference authorship of content used, including link(s) to ManagementStudyGuide.com and the content page url.
- Risk Management - Introduction
- Benefits of Risk Management
- Principles of Risk Management
- Risk Management Process
- Risk Identification and Assessment
- Aspects of Risk Management
- Steps in Risk Management Process
- Approaches to Risk Management
- Risk Management Policy
- Commonly Used Measures of Risk
- Risk Management Plan
- Evaluation of Risk Management Plan
- Risk Treatment
- Role of HRD in Risk Management
- Enterprise Risk Management
- Implementing ERM
- Risk Management and Stock Market
- Outsourcing Risk Management Program
- Risk Management as a Profession
- Anticipating and Mitigating Organizational Risks in the Digital Age
- Challenges Facing the Australian Economy
- The Economic Costs of MeToo
- Automated Claims Processing
- Challenges in Global Insurance And International Claims
- Conflicts of Interest in the Insurance Business
- The Cost Structure in the Insurance Industry
- How Drones Will Impact the Insurance Industry?
- How Is Health Insurance Funded?
- How Self Driving Cars Impact Insurance?
- How Stock Market Volatility Affects Insurance Companies?
- Insurance Agents vs. Insurance Brokers
- The ABCs of Insurance Fraud in India
- Technological Advances in the Insurance Industry
- The Basics of Unemployment Insurance
- The Pros and Cons of Unemployment Assistance and Why it Matters in the Present Times
- The Role of Insurance In #MeToo Movement
- Why the Flood Insurance Market should be Privatized?
- Basics of Pet Insurance
- Cannabis Insurance
- Challenges Facing Cryptocurrency Insurance
- Evolution of Insurance Regulation
- Food Delivery Apps and Insurance
- How Does Captive Insurance Work?
- On-Demand Insurance
- Reinsurance vs. Double Insurance
- Solvency Regulations in the Insurance Industry
- Terrorism and Insurance
- The Basics of Microinsurance
- The Basics of Reinsurance
- Types of Captive Insurance Companies
- What is P2P Insurance?
- How Risks Affect Companies Providing Financial Services
- Risk Management Information System
- Disadvantages of Risk Management Information Systems
- The Known-Unknown Classification of Risk
- Operational Risk: Definition and Drivers
- How Regulations Have Affected Operational Risk?
- Identification of Operational Risks
- How to Identify Operational Risks
- Using Internal Loss Data to Mitigate Operational Risks
- External Loss Data in Operational Risk Management
- Risk Control Self Assessment (RCSA)
- Scenario Analysis in Risk Management
- Key Risk Indicators
- Basel Approaches in Operational Risk Management
- The Basel Risk Categories
- Cause Categories in Operational Risk Management
- Loss Distribution Approach
- The COSO Framework for Internal Control
- Mistakes to be Avoided While Building a Risk Management System
- Credit Rating Terminology
- Types of Exposures to Determine Credit Limit
- Types of Credit Events
- Active Credit Portfolio Risk Management
- Metrics to Measure Credit Risk
- Credit Derivatives: An Introduction
- Credit Linked Note
- How do Credit Default Swaps Work?
- Why are Credit Default Swaps Dangerous?
- Total Returns Swap
- What are Collateralized Debt Obligations and How do they Work?
- Collateralized Debt Obligations: Advantages and Disadvantages
- Mark To Market Accounting
- What are Recovery Rates? - Different Types of Recovery Rates
- Netting, Close Out, and Acceleration
- Expected Default Frequency (EDF)
- Expected Default Frequency: Advantages and Disadvantages
- Altmans Z Score Model
- Unexpected Loss and Economic Capital Buffer
- Stress Testing in Credit Risk Management
- Provisioning in Credit Risk Management
- How Corporate Governance Impacts Credit Risk
- Exit Strategies In Credit Risk Management
- What is Market Risk? - How its Measured and Sources of Market Risk
- Why is Market Risk Management Important?
- Introduction to Value At Risk (VaR)
- The Three Types of Value at Risk (VaR)
- Marginal, Incremental and Component Value at Risk (VAR)
- How Value at Risk (VaR) is Implemented?
- Backtesting Value at Risk (VaR)
- Advantages of Using Value at Risk (VaR) Model
- Disadvantages of Using the Value at Risk (VaR) Model
- How Margins Are Calculated Using Value at Risk (VaR)
- Market Risk Limits
- Tail Risk
- The Upside of Market Volatility
- Relationship between Volatility and Risk
- Importance of Data Quality in Risk Management
- Impact of Using Poor Quality Data and Metrics to Measure Data Quality
- Enterprise Risk Management (ERM) vs Traditional Risk Management
- Benefits of Enterprise Risk Management
- Corporate Risk Governance
- International Risk Governance Committee (IRGC) Framework
- Failure of Market Risk Management
- Mistakes to Avoid in Risk Management