Risk in All Its Guises
Lindorff, Dave, Global Finance
Gone are the days when risk was the responsibility of CFOs. Risk is increasingly part of every aspect of a business operation.
When BellSouth International began its cellular operations in Israel, it was used to dealing with pent-up demand. Even so,"We were hard-pressed to keep up with the orders," says vice president Mark Criser. When "a guy showed up with a live grenade in the office, demanding immediate service," the local joint venture went into an extreme form of risk management. "We signed him up," says Criser,"then called the police!"
While the marketing department might dream of customers beating down the doors, clearly threats of blowing the door off are a bit too much customer enthusiasm. In fact, however, the BellSouth situation is a dramatic example of the need to assess risk in all its guises-market risk, as well as currency and interest rate risk. Gone are the days when risk was the responsibility of CFOs and treasurers. Risk is increasingly part of every aspect of a business operation.
As the globalization of business continues apace, companies increasingly find that getting risk analysis and risk mediation right is a key competitive factor. If, for example, a company overestimates market demand when it launches a new product in a new country, it can find itself saddled with huge costs and nothing to show for it. That's Business 101. But, as Criser discovered, underestimating demand can also be a problem, if it leads to poor service and damages a company's reputation.
Indeed, in researching this article, it became apparent that companies are taking a much more secretive view of their risk management practices. Citicorp, for example, which has a much-- heralded program called Windows on Risk, declined to provide any details, saying it was "proprietary." Where companies in the past were generally happy to detail their techniques for hedging currency or interest rate risk, now even those arcane procedures are locked up in a file designated for management eyes only. Some companies, which lost a bundle during the Asian currency crisis, are simply embarrassed to talk about what they did wrong. But clearly, for many companies, risk management is part of the strategic competitive picture, as important to profitability as R&D or capital spending plans.
"Risk," says Duncan Galloway, manager of Deloitte & Touche's Enterprise Risk Services business,"is basically anything of variable uncertainty and significance that interferes with the achievement of objectives." In this holistic view, Galloway divides risk into three categories: "value visioning," or how the company plans to create value; "value creation," or how it will execute the plan; and "value preservation;' meaning keeping the value a company has created. "Traditional risk management has always concentrated on the third category," he says.
But ignoring the other two forms of risk "can create enormous problems," says Galloway. Airplane manufacturer McDonnell Douglas, for example, hedged currency risk in an airplane building venture in Shanghai, yet ignored the risk that its product might be wrong for Chinese airports. The company's Trunkliner aircraft turned out to have too heavy a "footprint" to land on many of the municipal airports it was supposed to have served and had to undergo a major redesign of its landing gear to better spread the weight.
Manufacturers also might disregard the risk that political and economic systems sometimes change, which might mean that a central government could no longer order national companies to buy previously contracted goods. In McDonnell Douglas's case, when China gave its regional airlines management autonomy they opted heavily for Boeing planes. This became less of a problem when Boeing eventually bought McDonnell Douglas, but it still left the Shanghai venture without orders.
Risk management can also be taken too far. With the increase in currency volatility over the past year and a half, some US companies have discovered that the standard practice of translating overseas business operations into American dollars sometimes can lead to the wrong investment decisions in countries where they are trying to build local business. …