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Risk Mangement Submitted by :Akhilesh Agnihotri BTB/08/1017 Section A ENTERPRISE / OPERATIONAL RISK MANAGEMENT At first glimpse, there is much similarity between operational risk management and other classes of risk (e.g., credit, market, liquidity risk, etc.) and the tools and techniques applied to them. In fact, the principles applied are nearly identical. Both ORM and ERM must identify measure, mitigate and monitor risk. However, at a more detailed level, there are numerous differences, ra
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  Risk Mangement Submitted by :- Akhilesh AgnihotriBTB/08/1017Section A  ENTERPRISE / OPERATIONAL RISK MANAGEMENT   At first glimpse, there is much similarity between operational risk management and other classes of risk (e.g., credit, market, liquidity risk, etc.) and the tools and techniques applied to them. In fact, theprinciples applied are nearly identical. Both ORM and ERM must identify measure, mitigate andmonitor risk. However, at a more detailed level, there are numerous differences, ranging from the risk classes themselves to the skills needed to work with operational risk.Operational risk management is just beginning to define the next phase of evolution of corporate risk management. Should firms be able to develop successful ORM programs, the next step will be for thesefirms to integrate ORM with all other classes of risks into truly enterprise-wide risk managementframeworks. See Exhibit 1 for an example of an ERM / ORM organizational structure representative of the banking industry WHY ENTERPRISE / OPERATIONAL RISKMANAGEMENT?   There are many reasons ERM / ORM functions are being established within corporations. The followingare a few of the reasons these functions are being established . ORGANIZATIONAL OVERSIGHT Two groups have recently emphasized the importance of risk management at the organization’s highest levels. In October 1999, the National Association of Corporate Directors released its Report of  the Blue Ribbon Commission on Audit Committees, which recommends that audit committees “define and use timely, focused information that is responsive to important performance measures and to thekey risks they oversee.” The report states that the chair of the audit committee should develop an agendathat includes “a periodic review of risk by each significant business unit.”  In January 2000, the Financial Executives Institute released the results of a survey on auditcommittee effectiveness. Respondents, primarily chief financial officers and corporate controllers, ranked “key areas of business and financial risk” as most important for audit committee oversight.  In light of events surrounding recent corporate scandals (e.g., Enron, etc.), and the increasingexecutive and regulatory focus on risk management, the percentage of companies with formal ERMmethods is increasing and audit committees are becoming more involved in corporate oversight. TheUK and Canada have set forth specific legal requirements for audit committee oversight of risk evaluation, mitigation, and management which are widely accepted as best practices in the U.S. MAGNITUDE OF PROBLEM The magnitude of loss and impact of operational risk and losses to date is difficult to ignore. Based onyears of industry loss record-keeping from public sources, large operational risk-related financialservices losses have averaged well in excess of $15 billion annually for the past 20 years, but this onlyreflects the large public and visible losses. Research has yielded nearly 100 individual relevant lossesgreater than $500 million each, and over 300 individual losses greater than $100 million each. 1 Exhibit 2  is a listing of major operational losses. Interestingly enough, the majority of these losses have occurredin financial services, which explain the industry’s leading focus on operational risk management especially in the area of asset-liability modeling and treasury management models to manage risks in thehighly volatile capital markets activity of derivative trading and speculation. MARKET FACTORS Market factors also play an important role in motivating organizations to consider ERM / ORM.Comprehensive shareholder value management and ERM / ORM are very much linked. Today’s financial markets place substantial premiums for consistently meeting earnings expectations. Notmeeting expectations can result in severe and rapid decline in shareholder value. Research conducted byTillinghast-Towers Perrin found that with all else being equal, organizations that achieved moreconsistent earnings than their peers were rewarded with materially higher market valuations. 3 Therefore,for corporate executives, managing key risks to earnings is an important element of shareholder valuemanagement. The traditional view of risk management has often focused on property and liability related issues or internal controls. However, “traditional” risk events such as lawsuits and natural disasters may have little or no impact on destroying shareholder value compared to other strategic andoperational exposures  —  such as customer demand shortfall, competitive pressures, and cost overruns.One explanation for this is that traditional risk hazards are relatively well understood and managedtoday  —not that they don’t matter. Managers now have the opportunity to apply tools and techniques for  traditional risks to all risks that affect the strategic and financial objectives of the organization.For non-publicly traded organizations, ERM / ORM is valuable for many of the same reasons.Rather than from the perspective of shareholder value, ERM / ORM would provide managers with acomprehensive overview of other important items such as cash flow risks or stakeholder risks.Regardless of the organizational form, ERM / ORM can be an important management tool. CORPORATE GOVERNANCE Defense against operational risk and losses flows from the highest level of the organization  —  the boardof directors and executive management. The board, the management team that they hire, and the policiesthat they develop, all set the tone for a company. COMMENTS 1)   It seems clear that ERM / ORM is more than another management fad or academic theory. Webelieve that ERM / ORM will become part of the management process for organizations in thefuture. Had ERM / ORM processes been in place during the past two decades, a number of theoperational risk debacles that took place may not have occurred or would have been of lessermagnitude.2)   Companies are beginning to see the benefit of protecting themselves from all types of potentialrisk exposures. By identifying and mapping risk exposures throughout the organization, acompany can concentrate on mitigating those exposures that can do the most damage. With an  understanding of risks, their severity, and their frequency, a company can turn to solutions; be itretaining, transferring, sharing, or avoiding a particular risk.3)   Our thoughts on what will happen in the ERM / ORM environment in the next 5 years are:In the next 5 years, it is likely that companies will no longer view risk management as aspecialized and isolated activity: the management of insurance or foreign exchange risks, for instance.The new approach will keep managers and employees at all levels sensitized to and concerned aboutrisk management. Risk management will be coordinated with senior management oversight andeveryone in the organization will view risk management as part of his or her job. The risk managementprocess will be continuous and broadly focused. All business risks and opportunities will be covered.In the next 5 years, the use of bottom-up risk assessments will be a standard process used to identifyrisks throughout the organization. The self-assessment process will involve everyone in the companyand require individual units to focus and report on the threats to their individual business objectives.
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