Magazine article Risk Management

Zen and 5 Steps to ERM

Magazine article Risk Management

Zen and 5 Steps to ERM

Article excerpt

[ILLUSTRATION OMITTED]

There is an old Zen story about a small fish that went on a long journey to find a Zen master. When at last he found the wise old master, he asked him, "What is this thing called water that they talk about?" How could a fish not know about water? The reason the concept of "water" presented such a challenge to the little fish was because he was so thoroughly immersed in it. Sometimes we overlook things because they are simply too obvious.

Human beings are immersed in risk and risk decisions in the same way that a fish is immersed in water. Every time we come to a stop light, we make a risk management decision. Every time we choose a low-fat meal off the menu, cross the street, buy a car or even put on our shoes, we are managing risk. The human brain is so hardwired for risk management decision-making that we often do not even notice that we are doing it--especially when it is our career.

So why do we then spend so much time searching for solutions to our risk management puzzles? Because like the fish looking for an understanding of water, it is just too close. So we instead go on searching out answers when they might be far more obvious than we suspect.

This explains why so much effort has been dedicated to looking for solutions to ERM. It is 30 years since Felix Kloman wrote about the concept of ERM in Fortune Magazine. In that time, there has been an increasingly large body of work on the subject. But there is still a great deal of confusion about how to implement ERM (especially in businesses that are not pure financial institutions).

In spite of the difficulties many have reported in implementing ERM frameworks, there is a very simple solution to most ERM problems. The good news is that almost every risk manager is already well acquainted with it. This solution is, of course, the five-step risk management process. It was first created by George Head in 1972 as part of the Associate in Risk Management designation and is so well known, so successful and so internalized within the risk profession that we often overlook it--just as the fish overlooked the water. This elegant and effective process is, in many ways, the key to cracking the ERM riddle.

The five-step process is essentially a sequence of activities that comprise risk management: identify, assess, evaluate, mitigate and monitor. When it was created in 1972, no one was thinking of ERM. For the risk manager of the time, the focus was on either insurance or loss prevention for risks of property damage or bodily injury. Regardless, it works perfectly on risks at any level, no matter how large or complex they might be.

Perhaps the reason that the five-step process has not been more widely used in ERM is that the traditional insurable hazards seem so different from the huge risks that ERM deals with. However, risk management is fundamentally the same regardless of what form it takes. It does not much matter whether the company will lose $1 million from a fire, flood, political uprising or a lost customer. The only real difference is the treatment.

ERM is simply good, old-fashioned risk management applied to a slightly different set of risks. Let us take a look at how the five-step process would be applied in real life at a factory that produces machinery:

1) Identification. The risk manager will usually interview or survey key personnel within the company in order to discover the largest risks. For example, senior management might identify product defect, brand reputation, supply chain disruption, etc. They could also name risks such as failing to meet specific goals such as a revenue or cash flow target. There are many methods of identifying the big risks; however, the basic principle of them all is the same: to gather a list of risks that matter most to the senior leadership of the company as well as to the board of directors and shareholders.

2) Assessment. …

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