From transactional risk management to risk-based decision-making

What are the top three challenges your firm will face over the next year? Financial market instability, competition from within the sector, macroeconomic uncertainty? 

When thinking about these challenges, are business leaders in your firm seeking the strategic opinion of risk leaders? If the answer is no, there is an opportunity to bridge the gap.

For many, strategy is the realm of the heroic chief executive. In practice, it is no more than common sense. While there is an important distinction between corporate strategy (choosing what businesses to be in) and business strategy (achieving and sustaining a competitive advantage in the chosen industry environment), there are many common pitfalls in its application:

• A failure to make tough choices
• A failure to describe your strategy in simple terms
• Thinking strategy is the same as planning
• A failure to be innovative, particularly when developing a differentiated value proposition

Traditional approaches to strategy

In most firms, there is an annual strategy process, although in reality business strategy doesn’t change every year. This process normally comprises a board away day, facilitated by the strategy & planning group (S&PG), where a number of strategic options are discussed.

SP&G would typically consolidate reporting insights from various functional departments including financial planning & analysis (FP&A), divisional chief executives and hopefully, the risk leader. The result is an operational plan, comprising financial and non-financial KPIs and several strategic initiatives.

As many industries face increasing competitive pressures to adapt business and operating models, what can the risk leader bring to the table to validate, or perhaps provide an alternative perspective on the strategic options being discussed?

Are the industry key success factors changing?

Leading up to the strategy away day, S&PG will have analysed the macro environment using several well-established strategy frameworks. This provides risk leaders with an opportunity to independently review the key insights and compare these with outputs from the enterprise risk framework, including the emerging risks profile and results from stress-testing various risk categories.

What are the drivers of short-term volatility in the operational plan?

Beyond any capital modelling that may have taken place, FP&A will provide insight as to any variation from forecasts and the drivers. This provides risk leaders with an opportunity to review risk appetite limits and tolerances in light of these variations and ensure the thresholds and limits are set at the right level. Too narrow and the escalation process is triggered without due cause. Too broad and problems have a habit of manifesting without sufficient oversight and challenge.

What are the potential sources of business model disruption?

Who are the start-ups/scale-ups, how are they deconstructing the value chain and what strategic partnerships are your competitors establishing? While there has been much speculation as to the risk of ‘adjacent competitors’ such as Google, Apple, Amazon entering various markets, don’t forget to track early-stage start-ups.

SP&G may have identified that strategic drift is occurring – a gap between the demands of customers and the current business and operating models and risk leaders may have already challenged the viability of the business model as a result of conducting reverse stress tests.

In helping business leaders think through the inherent challenges of implementing a successful change programme, risk leaders can assess the relative strength and strategic importance of existing resources and capabilities, facilitate a cultural audit to identify barriers to change or promote the use of storytelling and strategic narratives as a way to engage with internal and external stakeholders.

Current and future drivers of profitability

Both SP&G and FP&A departments will have identified opportunities to grow existing profit pools, either organically or through acquisition. Risk leaders working closely with the finance department will be able to establish how much capital has been allocated to each strategic business unit, which are most capital intensive and what efficiencies will increase the return on capital.

Summary

There is much opportunity to integrate strategy, risk and capital thinking. While the precise focus of the risk leader will depend on the firm’s stage in the business lifecycle (start-up, rapid expansion, high growth, mature), organisational agility and the ability to lead the business through complex risk and reward trade-offs can be achieved by integrating knowledge of both enterprise risk and strategy processes and frameworks.