Risk Management

Looking at Risk Three Dimensionally

Risk managers who collaborate throughout their organizations improve awareness, agreement and alignment of tactical plans.
By: | December 1, 2015 • 4 min read
Topics: ERM | Risk Managers

There is a direct relationship between strong risk management practices and superior operating performance, according to several reports.

The “2015 Aon Risk Maturity Index Insight Report” released in November analyzes the inverse relationship between a higher “risk maturity rating” and lower stock price volatility, as well as a direct relationship between a higher risk maturity rating and superior operational financial performance.

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Additionally, the report’s findings reinforced the relationship between a higher risk maturity rating and the relative resilience of an organization’s stock price in volatile equity, currency and commodity market scenarios.

Organizations with a high risk maturity rating differ from those with lower ratings in several ways, said Kieran Stack, managing director at Aon Global Risk Consulting in Chicago.

“If organizations try to increase the performance across those dimensions, that helps them also improve building awareness, agreement and alignment of tactical plans to execute.” — Kieran Stack, managing director at Aon Global Risk Consulting

Typically, he said, they communicate their risks across the organization, they collaborate across functions and they form consensus in both determining the key strengths and weaknesses of mitigating the risks and formulating tactical plans to continue to improve their risk management programs.

Indeed, 60 percent of organizations with above average risk maturity ratings consistently and formally share the results of risk assessment activities across the organization, while only 19 percent of organizations with below average risk maturity ratings do so, according to the report.

Organizations with below average risk maturity ratings are more likely to communicate these risk assessment results only on an ad-hoc basis (68 percent of below average respondents versus 40 percent of respondents scoring above average).

Collaboration Counts

As for collaboration, 51 percent of organizations that score above average collaborate across risk functions while only 11 percent of firms scoring below average do. The report found that 72 percent of organizations that score below average only collaborate on an ad-hoc basis during data gathering or analysis activities.

“In the business world there is still a disconnect that risk management is an essential part of the strategic planning process allowing companies more certainty with achieving desired outcomes.” — Albert L. Sica, managing principal, The ALS Group

“If organizations try to increase the performance across those dimensions, that helps them also improve building awareness, agreement and alignment of tactical plans to execute,” Stack said.

High risk maturity organizations also tend to integrate quantitative modeling techniques in their risk management activities, he said.

“These organizations are not just looking at qualitative assessments of their key vulnerabilities, but also assessing these risks from a quantitative perspective,” Stack said. “For instance, they are using probabilistic modeling techniques such as stochastic simulations to better assess and quantify their exposures to these risks.”

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Another report, using data from the RIMS Risk Maturity Model, has similar conclusions: Organizations exhibiting mature risk management practices realize an increased valuation premium of 25 percent, according to “The Valuation Implications of Enterprise Risk Management Maturity.”

The findings by Mark Farrell of Queen’s University Management School and Dr. Ronan Gallagher of University of Edinburgh Business School are based on RIMS research data.

According to the report, organizations with highly mature ERM practices had formal processes for performance management, ERM process management, adoption of ERM-based approach, root cause discipline, uncovering risks, risk appetite management, and business resilience and sustainability.

Carol Fox, director of strategic and enterprise risk practice, RIMS

Carol Fox, director of strategic and enterprise risk practice, RIMS

Carol Fox, RIMS’ director of strategic and enterprise risk practice, said that the study suggests that firms that have successfully integrated these processes into their strategic planning activities and everyday practices have superior ability to understand the risk dependencies across the enterprise.

“The question we often get asked is, is risk maturity worth the investment?” Fox said. “I think the RIMS report and the Aon report tell a very compelling story for organizations that it is worth it to invest in risk management capabilities – not only for for-profit companies, but also for nonprofit organizations.”

Albert L. Sica, managing principal of The ALS Group, an independent insurance and risk management consulting firm in Edison, N.J., said that the concept of risk maturity is very important.

“Risk management in many cases has been synonymous with buying insurance, rather than a more thoughtful overall understanding of risks so companies can avoid surprises,” Sica said.

“In the business world there is still a disconnect that risk management is an essential part of the strategic planning process allowing companies more certainty with achieving desired outcomes.”

One example of this disconnect is not fully understanding the retained risk companies have through simple exclusions in their insurance policies, he said.

Albert L. Sica, managing principal, The ALS Group

Albert L. Sica, managing principal, The ALS Group

Companies should also determine where the pinch points are in their supply chains and how an occurrence could develop into significant financial issues for their product or project – such as a supplier going out of business or a critical part coming from overseas being delayed.

“The whole idea is to think about risk management a little bit more three dimensionally,” Sica said.

“Risk management should be working closely with senior leadership to help the company achieve a better understanding of unexpected events and related financial impact allowing them to eliminate surprises.”

Katie Kuehner-Hebert is a freelance writer based in California. She has more than two decades of journalism experience and expertise in financial writing. She can be reached at [email protected]

More from Risk & Insurance

More from Risk & Insurance

Cyber Liability

Fresh Worries for Boards of Directors

New cyber security regulations increase exposure for directors and officers at financial institutions.
By: | June 1, 2017 • 6 min read

Boards of directors could face a fresh wave of directors and officers (D&O) claims following the introduction of tough new cybersecurity rules for financial institutions by The New York State Department of Financial Services (DFS).

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Prompted by recent high profile cyber attacks on JPMorgan Chase, Sony, Target, and others, the state regulations are the first of their kind and went into effect on March 1.

The new rules require banks, insurers and other financial institutions to establish an enterprise-wide cybersecurity program and adopt a written policy that must be reviewed by the board and approved by a senior officer annually.

The regulation also requires the more than 3,000 financial services firms operating in the state to appoint a chief information security officer to oversee the program, to report possible breaches within 72 hours, and to ensure that third-party vendors meet the new standards.

Companies will have until September 1 to comply with most of the new requirements, and beginning February 15, 2018, they will have to submit an annual certification of compliance.

The responsibility for cybersecurity will now fall squarely on the board and senior management actively overseeing the entity’s overall program. Some experts fear that the D&O insurance market is far from prepared to absorb this risk.

“The new rules could raise compliance risks for financial institutions and, in turn, premiums and loss potential for D&O insurance underwriters,” warned Fitch Ratings in a statement. “If management and directors of financial institutions that experience future cyber incidents are subsequently found to be noncompliant with the New York regulations, then they will be more exposed to litigation that would be covered under professional liability policies.”

D&O Challenge

Judy Selby, managing director in BDO Consulting’s technology advisory services practice, said that while many directors and officers rely on a CISO to deal with cybersecurity, under the new rules the buck stops with the board.

“The common refrain I hear from directors and officers is ‘we have a great IT guy or CIO,’ and while it’s important to have them in place, as the board, they are ultimately responsible for cybersecurity oversight,” she said.

William Kelly, senior vice president, underwriting, Argo Pro

William Kelly, senior vice president, underwriting at Argo Pro, said that unknown cyber threats, untested policy language and developing case laws would all make it more difficult for the D&O market to respond accurately to any such new claims.

“Insurers will need to account for the increased exposures presented by these new regulations and charge appropriately for such added exposure,” he said.

Going forward, said Larry Hamilton, partner at Mayer Brown, D&O underwriters also need to scrutinize a company’s compliance with the regulations.

“To the extent that this risk was not adequately taken into account in the first place in the underwriting of in-force D&O policies, there could be unanticipated additional exposure for the D&O insurers,” he said.

Michelle Lopilato, Hub International’s director of cyber and technology solutions, added that some carriers may offer more coverage, while others may pull back.

“How the markets react will evolve as we see how involved the department becomes in investigating and fining financial institutions for noncompliance and its result on the balance sheet and dividends,” she said.

Christopher Keegan, senior managing director at Beecher Carlson, said that by setting a benchmark, the new rules would make it easier for claimants to make a case that the company had been negligent.

“If stock prices drop, then this makes it easier for class action lawyers to make their cases in D&O situations,” he said. “As a result, D&O carriers may see an uptick in cases against their insureds and an easier path for plaintiffs to show that the company did not meet its duty of care.”

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One area that regulators and plaintiffs might seize upon is the certification compliance requirement, according to Rob Yellen, executive vice president, D&O and fiduciary liability product leader, FINEX at Willis Towers Watson.

“A mere inaccuracy in a certification could result in criminal enforcement, in which case it would then become a boardroom issue,” he said.

A big grey area, however, said Shiraz Saeed, national practice leader for cyber risk at Starr Companies, is determining if a violation is a cyber or management liability issue in the first place.

“The complication arises when a company only has D&O coverage, but it doesn’t have a cyber policy and then they have to try and push all the claims down the D&O route, irrespective of their nature,” he said.

“Insurers, on their part, will need to account for the increased exposures presented by these new regulations and charge appropriately for such added exposure.” — William Kelly, senior vice president, underwriting, Argo Pro

Jim McCue, managing director at Aon’s financial services group, said many small and mid-size businesses may struggle to comply with the new rules in time.

“It’s going to be a steep learning curve and a lot of work in terms of preparedness and the implementation of a highly detailed cyber security program, risk assessment and response plan, all by September 2017,” he said.

The new regulation also has the potential to impact third parties including accounting, law, IT and even maintenance and repair firms who have access to a company’s information systems and personal data, said Keegan.

“That can include everyone from IT vendors to the people who maintain the building’s air conditioning,” he said.

New Models

Others have followed New York’s lead, with similar regulations being considered across federal, state and non-governmental regulators.

The National Association of Insurance Commissioners’ Cyber-security Taskforce has proposed an insurance data security model law that establishes exclusive standards for data security and investigation, and notification of a breach of data security for insurance providers.

Once enacted, each state would be free to adopt the new law, however, “our main concern is if regulators in different states start to adopt different standards from each other,” said Alex Hageli, director, personal lines policy at the Property Casualty Insurers Association of America.

“It would only serve to make compliance harder, increase the cost of burden on companies, and at the end of the day it doesn’t really help anybody.”

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Richard Morris, partner at law firm Herrick, Feinstein LLP, said companies need to review their current cybersecurity program with their chief technology officer or IT provider.

“Companies should assess whether their current technology budget is adequate and consider what investments will be required in 2017 to keep up with regulatory and market expectations,” he said. “They should also review and assess the adequacy of insurance policies with respect to coverages, deductibles and other limitations.”

Adam Hamm, former NAIC chair and MD of Protiviti’s risk and compliance practice, added: “With New York’s new cyber regulation, this is a sea change from where we were a couple of years ago and it’s soon going to become the new norm for regulating cyber security.” &

Alex Wright is a U.K.-based business journalist, who previously was deputy business editor at The Royal Gazette in Bermuda. You can reach him at [email protected]