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Who is the owner of risk in an organisation?

In Banking, CRO, Finance, Insurance, Legal, Risk Management on July 17, 2016 at 5:10 pm

In this blog, I indulge in a debate that who is the owner of risk – Is it CEO, CRO or different parties and how organisational risk is linked to society?

Chief Executives such as CEO and CRO provide foundation to a firm’s sustainability with their generic, specific capabilities, expertise and leadership to control and administer resources in current dynamic business environment. Role of CEO and CRO in relation to risk have presented greater ambiguity in practice and questioned the existence of widespread myth “CRO is the owner of risk and is the ultimate risk manager of the company.

Roles of CEO and CRO are significantly different however, often it is considered that CEO is expected to make risk based decision making while ownership of risk lies with CRO and accountabilities is set to the board.

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An actor is not implementer, an implementer is not decision maker and a decision maker is not held accountable.

During practice, a CEO acts as a ‘Risk Manager’, ‘Decision maker’ and ‘Influence of risk culture’.  To become a successful CEO, a CEO has to demonstrate his/her abilities to cope up with failures while gaining strategic leverage by exploiting opportunities.  A CEO influences significantly the risk culture of an organisation. Consider an organisation with Japanese, Chinese, British or American CEO, you may imagine the difference in culture as different expectations are set. A CEO style should complement with Company’s culture. If a company is relationship focused, and believes in shared decision making, its CEO should promote collaborative efforts. Another CEO may bring a ‘PUSH-PUSH BACK’ culture by enforcing rules without understanding the difficulties of ground staff.

A CRO acts as ‘Implementer and reporter of risks’, ‘Risk Advisor’ and ‘Communicator of risk culture’. CRO implements risk management policy and reports integrated risks to CEO. He/she also advises on critical risks for important projects, supports in formulation of risk policy when needed by the board and further to CEO on risk related matters. Expectations are set by the board, Chairman and CEO in risk related matters such as how much and what kind of risk the company is willing to take.

Other than CEO, CRO and board, there are other contender of ‘ownership of risk’ in the company.

  • Each and every person working in the organisation are the owners of their own risk.
  • Head of Departments are owners of their department’s risk
  • Shareholders are the owners of the company’s entire risk
  • Stakeholders are the owners of company’s entire risk
  • Risk and uncertainty is beyond the capacity of ownership

This week, I attended International Sociological Association (ISA) conference in Vienna which impacted my thought process of linking risk with society. A business success cannot be determined by its profit/loss or share market price without thinking of impact of its actions on society. Roots of organisations emerge from sociology as organisations are considered as ‘social entities’. Thinking about only economic benefits leaving society apart, may not be a sustainable long term strategy. This is perhaps the reason why ‘reputation risk’ has become one of the challenge for companies in global markets. Companies have burnt their fingers and learnt several lessons in recent financial crisis. The need of clear ownership, roles and responsibility of risk have been clearly known to companies and require attention in risk policy formulation and implementation. Michael Porter, a Professor of Harvard known for his highest influence on executives and countries, highlighted that businesses need to focus upon ‘shared value’ by integrating their economic interest with interest of the society to promote sustainability.  This raised a question “Should companies bother about ‘social interest’ in their risk related decision making process?”

Risk management based on ‘shared value’ for all stakeholders considering social interest has a great potential in promoting sustainable practices. Perhaps, this can deal with the issues of ownership of risk. It is usually debated who owns the risk but it is hardly discussed to whom this risk belongs to.

Reference:

http://aom.org/Multi-Media/Academy-of-Management-Perspectives/Interview-with-Professor-Michael-E–Porter-from-Harvard-University-.aspx).

 

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Role of CRO Forum in India

In CRO, Insurance, Risk Management on February 26, 2016 at 3:57 pm

 

This blog is in continuation from my previous blog ‘Do Indian insurance market need a professional CRO forum?’. Indian insurance market essentially needs a Chief Risk Officer (CRO) Forum to set new standards of professional practices. Most of the insurance companies in India are head-quartered in different cities. A CRO forum can bring together geographically spread talent and knowledge of CROs of various insurance institutions to benchmark good risk management practices. The overall aim is to promote robust risk management practices within insurance industry.

Most of the academics and practitioners such as Anette Mikes, Robert Kaplan (Professors from Harvard University) and James Lam (Famous Risk Practitioner and first CRO) in risk management area claimed that risk is evolving and need to be discussed. A famous Professor from MIT Peter Senge provides insights upon the stages of learning. He defined advanced stage of learning of experts is through discussion and participation.

 

At beginning level, the role of CRO Forum in India could be:

  1. To promote best practices in risk management to enhance business
  2. To discuss issues and challenges in dealing with risk and risk based decision making
  3. To provide insights on emerging and long-term risk
  4. To discuss regulatory shifts and implications
  5. Involves a theme based monthly learning and discussion eg: Fraud Control, risk reporting etc.

At later stage, A CRO forum may involve publication of white papers, special issues and risk based discussions.

Essentially, forming a CRO forum is a forward looking and proactive approach for the industry to spread awareness of emerging and complex risks and to enhance overall risk based capacity of the industry. The process can be started with five steps approach:

‘Identify’: The list of risks insurance companies are facing

‘Prepare’: A well discussed and repeatable plan for the risks faced

‘Capability’: Understand your industry capability to handle those risks

‘Detect’: A continuous monitoring plan to detect and monitor the risk

‘Share’: Sharing the risk learning (theme based) within the group every month

Kindly share your view points.

A Simple understanding of Complex Risk

In Banking, Insurance, Risk Management on July 5, 2015 at 5:43 pm

Many of us in our daily life struggle with understanding of risks.  A well-known risk among our community is easily understood by all of us because potential negative consequences are obvious to us.  We also support that the risk which have potential low uncertainty, can be called simple risks. There is hardly any issues in understanding such kind of risk. For example construction of a road, driving a motor vehicle. Also for these risk statistics for long timeframe is available such as some accident in last 50 years in particular region. Based on this understanding, we can drive conclusions very easily such as State A is more accident prone than B. But what if risk is not simple, it is rather complex.

A complex risk is commonly understood as the risk which is not simple risk. Think if same risk is understood differently by many people who lead to many interpretation. It may be called situation of ambiguity where no conclusion can be drawn. Will you call it simple risk? Professor Otwin Renn defined ambiguity arise when there is an existence of multiple values. So, if a same building is inspected by three engineers and all of them provided different risk ranking such as low risk, medium risk and high risk. How conclusions can be drawn about the risk profile of the building. It can be said that there is difficulty in understanding the risk of this particular building.

Another situation where a single risk may affect a large population. It generally comes to the mind that it may be some natural disaster such earthquake or flood. What if two different risks occur separately such as default of securities and natural disaster but with no interaction. The effects will be severe in each case. If interaction between two or more risk affects the large society and risk is embedded for long time so it is difficult to find how risk originates and who is responsible for this. This is certainly called a complex risk with ambiguity. Such type of risk is known as Systemic risk (don’t get confused with Systematic risk).  

Systemic risk does not confined to a particular state or region but it may accelerate across national boundaries and may result in crisis. Its analysis is dependent upon the interdependencies among risks in holistic manner and Ripple and Spill over effects. Can anybody outsider/stranger attempt to understand the risk within organisation, houses or societies? Is there any short cut to understanding of risks? It is difficult to answer because it requires deeper understanding of risk which requires time and flexibility.  A risk in-house A to F could be different than Risk of house G to N as “Not all risks are equal”stated by Dutch Health Council, 1995

Therefore, there is a greater need to understand our own risk, risks where we work and in our societies. A deeper understanding of risk can untangle the complex bunch of interconnected risks and simplify our problems. 

Is low quality marketing staff – a problem for insurance industry or a risk?

In Insurance, Risk Management on August 18, 2014 at 4:17 am

Last week, I had a meeting with HR head of a leading insurance company in India. I was surprised to know that the insurance companies marketing department is facing more than ‘90% attrition’ every month for last 3-5 years. Such high and consistent attrition has decreased the quality of hires and created pressure to recruit more agents. Insurance companies HR department has to recruit lower quality agents to fulfil the vacancies according to strict time lines given by the management. The consequence is the decreased sales output and mis-selling of the policies. The management expectation from these agents have grown over time, which created more pressure on existing employees and caused attrition. The problem has become spiral due to high growth expectations but eventually the circle is not completed. There is not much effect on the balance sheet of insurance companies because of high attrition – which creates a question of whether it is a risk or problem. It raises further questions –

          Why insurance companies are not able to retain good talent in marketing?

          Why Insurance products have push factors why not pull factors is generated?

          Does this pressure will ever bring “excellence in the services” of insurance companies?

          What is the big reason for increasing customer complaints and lapsation of policies?

          Will it degrade the trust of existing and potential policyholders?

Spiral Problem of Insurance Industry

Insurance products have so many terms and conditions and involves complicated language which is difficult to understand. The industry is based on trust as insurance product/services are intangible in nature. What an agent communicate, customer believes and product is sold, in addition to this, the payment is also given in advance. What worries – the declining trust of customer?

Obviously, development of talent of the marketing agents can be helpful. We should try to understand the current process. How much time an agent spend on building a company’s product knowledge. Does he only want to understand the benefits of the products which he can sell to the customer or have interest in spending time the needs of customer and have reliable growth. From insurance agents’ point of view – to accomplish high targets and to save his job, selling fast is the most logical solution in the current scenario. Therefore, we may see some instances where some insured are sold more than 10 life insurance policies of different companies by informing numerous benefits to gain advantage of commissions and targets rather than single policy which is suitable to person’s need.

Low quality marketing staff is not considered a major risk until its interconnection to other problems is easily overlooked by insurance industry. There is a growing need to have better quality marketing people in Indian insurance industry which require extensive training in this area. If bonus of the marketing employees are set on the basis of retention of customers with the company, I think they can be better motivated to understand customer needs.

Comments welcome.

Ruchi Agarwal

Owner of my own Risk – Me or others ?

In Banking, Finance, Insurance, Risk Management on February 25, 2013 at 8:11 am

When an individual see the Risk – it looks 4 letter words. It is well said “This will not happen to me”, it is unusual not to avoid it. Actually what is the risk? It is a threat, loss of opportunity, unexpected happening of loss. Who is the owner of the risk – individuals themselves? It is the duty of risk owner is to prevent, reduce, transfer and control the risk.

 

It is just a Four letter word – RISK

Corporates also own the risk; risk manager owns the risk of each department. He/she may set procedures/systems to prevent/reduce the risk, he may transfer the risk to the insurance companies. Insurance companies owns the risk of various corporates and individuals but here the system works little different. Although insurance companies manage the risk however the risk lies in the hands of insured, It is also in the hand of GOD which can be seen any time in floods, earthquake. Its invisible based on set of calculations and predictions.

These insurance companies retain certain part of the risk in their hand and transfer the risk to the Reinsurance companies. Now situation changes dramatically – Reinsurance companies accepts the risk of same individuals/corporates from Insurance companies without knowing who actually they are, only based on set of terms and conditions and documentation submitted by insurance companies. The ownership of the risk is still in the hands of insured.

The reinsurance companies transfers this risk to Retrocession companies who practically don’t know the country of origin of the insured at the time of acceptance of risk, only a set of group risk based on certain conditions are accepted. The ownership does not change hands, insured still can increase or reduce own risk. Finally the set of risk reached through derivative market eg; CAT bond to the public. Individual own their own risk. “its better not to avoid risk rather deal with that”

James bond or CAT bond, who is our saviour from catastrophic losses

In Banking, Finance, Insurance, Risk Management on October 22, 2012 at 7:17 am

 

“Shocking! Positively shocking!” – Sean Connery as James Bond in Goldfinger

In show business, it is easy to save humankind from catastrophe by James Bond. He can avert nuclear disasters, stop tsunamis and change course of meteorites. The real life is different. Catastrophe means loss to people, society and economy.

The biggest challenge today to the insurance companies is not mere fraud risk, low reserves or depression of the economy – it is the risk arising out of catastrophes, which can severely affect their solvency position.  In last 10 years, catastrophes like 9/11 attacks on WTC, hurricane Andrew, Katrina and Wilma have shaken the reserve and stability of the insurance industry in United States. According to Swiss-Re, a leading reinsurance firm, year 2011 witnessed losses from catastrophes totalled $35.9 billion, greatly surpassing the average of $23.8 billion for the years 2000 to 2010. The insurance company solvency is endangered, when losses increase up to a substantial level – to safeguard either insurance company has to raise the premium or its reserves will be gobbled up by single big catastrophe.

In past 36 years, catastrophic losses have hit the insurance companies’ very hard and resulted in insolvencies of small and large insurers (Stipp, 1997; Swiss Re, 2000; Mills et al., 2001). Between the year 1969 and 1998, nearly 650 U.S. insurers became insolvent (Matthews et al., 1999). According to Guy Carpenter (2007), if one considers the 20 most costly insured catastrophes that occurred in the world (1970–2006) – half of them happened in the United States. Thus, it does not come as a surprise that the Gulf of Mexico has become a world peak zone for the insurability challenge.

Insurers use many tools for reducing their financial vulnerability to losses (Mooney, 1998; Berz, 1999; Bruce et al., 1999; Unnewehr, 1999; III, 2000). These tools include raising prices, nonrenewal of existing policies, cessation of writing new policies, limiting maximum losses claimable, paying for the depreciated value of damaged property, non-actuarially based discounts instead of new-replacement value, or raising deductibles, better pricing & claim handling (Dlugolecki et al., 1996 & Born et al.,2006 ). The catastrophe events will also effect insurer’s pricing policies, shift the default risk indicator and change the risk assessment methods. Sometimes, insurance firms also face regulatory intervention to reduce insolvencies (eg: Solvency II, SOX).

Currently, few Insurance firms hedge their portfolio by catastrophe risk financing by going into equity market. Catastrophe risk securities are of two types – catastrophe bonds (CAT bonds) and catastrophe insurance options. Both types benefit insurers by making money available to offset catastrophic losses. Insurance companies issue CAT bonds to transfer extreme losses from natural catastrophes such as windstorm, earthquake and floods. Property and casualty insurers typically develop catastrophe risk management strategies that combine determination of risk appetite, measurement of exposures, pricing considerations, processes to limit exposure and utilization of reinsurance or capital markets to transfer risk to third parties.  Due to massive increase in insured losses from natural catastrophe, catastrophe bonds (CAT bonds) played a vital role in increasing the underwriting capacity and reducing probability of default for the insurance companies.  There is a wider chance that insurance companies who use securitization methods will be able to reduce or completely avoid the default risk.

There are many similarities between James Bond and CAT bonds. Like James Bond, CAT bond is the hero of Insurance and reinsurance world to save average person from natural catastrophes losses like flood, storms and typhoons etc. James bond will complete his mission by using modern gadgets; CAT bond use advanced equity market financial tools to get success. No doubt, the CAT bond is James Bond of financial world.

But ofcourse nobody entertains the way James Bond 007 does. Like you I am eagerly waiting for the new movie Skyfall. Comments welcome !

How do you perceive risk

In Finance, Insurance, Risk Management on May 7, 2012 at 1:38 pm

Risk perception is the subjective assessment of the probability of a specified type of accident happening and how concerned we are with the consequences. To perceive risk includes evaluations of the probability as well as the consequences of a negative outcome. It may also be argued that as affects related to the activity is an element of risk perception.

how do you perceive risk

Perception of risk goes beyond the individual, and it is a social and cultural construct reflecting values, symbols, history, and ideology.” (Weinstein, 1989).

Risk Perception follows from the specificity and variability of human social existence that it should not simply be presumed that scores and ratings on identical instruments have the same meanings in different contexts” (Boholm, 1998).

Adams (1995) claimed that “the starting point of any theory of risk must be that everyone willingly takes risks”. He concluded that this was not in fact the starting point of most of the literature on risk.

Dodd and Mills, 1985 developed model FADIS (fear of accidental death and injury scale)

There is various perception of risk by key decision maker in insurance organization.

  • Risk perception for human factor – Some financial directors does not consider risk management importance, some consider it very seriously and spend lots of money in buying insurance. Some takes it as financial burden and in other cases it is out of his scope.
  • It depends upon Organization culture and competency.
  • Financial strength and scale of organization is key factor in determining level of loss. Example furniture manufacturing Organization is having higher risk of fire than a Software company.  It is very much possible that a Company like Microsoft, CSC has big risk management department because of its size rather than a small company which even might exposed to higher risk.
  • Culture of market place:  In Dubai, most of insurance company and banks have risk managers and Heads and follow most of the international standards if we see same in India, very few organization have them.
  • Flexibility: Flexibility within an organization that will enable it to meet urgent needs also taken into consideration.
  • Future effect of risk on various activities of organization also needs consideration

Insurance Defined

In Finance, Insurance, Legal on May 3, 2012 at 8:05 am

Insurance is a form of risk management primarily used to hedge against the risk of contingent loss. Insurance is a contract between two parties where in exchange of premium, the risk is transferred from one party to another party.

Insurance classical definition

Insurance is an agreement where, for a stipulated payment called the premium, one party (the insurer) agrees to pay to the other a defined amount upon the occurrence of a specific loss.  The party who pays the amount to the party on occurrence of specified loss is called Insurer. The party who pays a stipulated payment is called Insured. A defined amount which insured pay to Insurer is called Premium.

Financial definition of Insurance

Insurance is the financial mechanism by which cost of unexpected loss is redistributed. Here, loss expenses transferred to insurance pool and loss is redistributed to the members of pool.

We see losses at many stages in our day to day life whether it is corporate or individual. Losses may be of high or low severity, may affect single or group of persons. It may involve single region or multiple region and even countries. Sometimes losses are too low which can be ignored but on the other hand, it can be so severe that it can eat up whole life saving of a person.

For example:

Let’s take an example of Fire insurance pool where losses are redistributed among masses.

In the Mumbai Trombay area, many oil refining and petroleum units have high risk of fire. They transfer their fire risk by paying Rs 50,000 in fire pool. In total 50 units agreed and pool reached to the (Rs 2500, 000). Fire broke out in one of the unit of Trombay area and it affected the one adjoining unit also which resulted loss of Rs 2500,000. Now loss expense of 2 units can be paid from fire insurance pool. If no insurance pool existed, the unfortunate victims will loose 2500,000. Here loss expense incurred by two units will be redistributed among 50 corporates.

Legal definition

Insurance definition under Indian law: “Insurance is legal contract where one party agrees to pay another party an agreed amount to compensate its unfortunate losses.” Here ‘amount’ is called premium and contract is called policy.