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Jordan Griffiths and Pascal Gautheron

Can Risk and Finance really come together?

BY JORDAN GRIFFITHS AND PASCAL GAUTHERON

The [US]$2.5 trillion in market value losses incurred between January 2007 and October 2008 incurred by the world’s top 200 banking players and the new wave of regulation and government intervention, which is resulting in higher capital ratios, the need to de-leverage balance sheets and higher non-performing loan provisions are creating an urgent need to change. This new environment is forcing banks to seek new ways to improve the consistency, transparency and quality of their finance and risk information.

While the pressures are mounting, the capabilities of banks have not changed dramatically since early Basel II implementations.  Risk systems and processes have traditionally been independent and unable to give senior executives an overall picture of bank-wide risk, across all risk types. At the same time, decision making has been driven by finance metrics and scorecards, with reference to risk only as far as capital calculations or risk appetite thresholds.

Some banks are now seeing the enhancement of risk management processes and technology as an opportunity to drive performance and increase customer focus by breaking down traditional silos between risk management and enterprise performance management.

The ultimate prize though is not just a happy regulator but very real growth in Economic Profit (risk and capital adjusted). 

The Value of Integration
Boards and Executive Teams of large universal banks are asking themselves questions like:
•    Have we priced all of our risks adequately? Can I price them by customer and product types?
•    What is the profitability of a business unit, portfolio or activity when allocated capital and risk are taken into account?
•    How can I rationalise my decision process on risks and investments?
•    Can I compare the performance of my business lines according to their risk profile?
•    I know my risk, but how can I improve the return for that level of risk?
•    Why do I get finance and risk reports on the same business which do not align?
•    Which risks should we be taking to grow our profit?

What if both risk and finance teams could work together to answer all these questions and resolve root causes behind some of these issues?  Not only that but what if they could work together on the same data, models, assumptions and scenarios?

If they could, we believe that they would deliver a potential increase in Economic Profit (risk and capital adjusted) of 1–5 per cent:
1.    Providing reconcilable and drill-down information through Finance & Risk Integration (data, IT, reporting & processes) could generate up to 0.5% increase in EP
2.    Focusing on the right customers through risk based customer analytics could drive up to 3% increase in EP
3.    Factoring in cost of capital and risk into front line pricing & decision could enable up to 1% increase in EP
4.    Embedding economic capital drivers into KPIs/ reporting / incentives could generate up to 1% increase in EP

Integrating Risk and Performance Management
An integrated risk and performance management (IRPM) capability can add value by enabling better decisions and making a significant impact on overall profitability. By linking risk management and enterprise performance management – two sides of the same coin – boards, CEOs, CFOs and other leaders can see and manage the risk-adjusted performance, by better understanding the links between risk, capital and earnings.
 
This enables timely action to protect and enhance the bank’s capital, make better pricing, lending and portfolio decisions, and increase overall shareholder value.
The “secret sauce” behind integrating risk and performance management is to do so across all dimensions of both functions:
Strategic planning:
•    Refine corporate vision and strategic objectives, considering enterprise risk strategy and appetite
•    Determine key value drivers, taking into account the impact of risks across categories
•    Determine KPIs and key risk indicators (KRIs) and define accountabilities
•    Create the strategic plan, in the context of the broad risk management plan

Target setting:
•    Conduct portfolio value assessment, allowing for risks
•    Set targets/limits for key measures of performance
•    Cascade measures (KPIs, KRIs) and targets/risk limits to lower-level metrics/organisation

Operation:
•    Review, challenge and finalise risk-adjusted plans and forecasts
•    Develop plans to achieve targets, based on risk modelling and scenario analysis
•    Allocate resources to achieve plans, accounting for risk and compliance
•    Review, challenge and finalise risk-adjusted plans and forecasts

Monitoring:
•    Develop action plans, re-allocate resources and update forecasts, accounting for risk
•    Review performance with executive management and analyse variances
•    Monitor and report KPIs and KRIs, and review risk controls

Enabling Capabilities:
•    Governance
•    Organisation capabilities such as incentives and rewards, leadership and talent
•    Methods and procedure
•    Technology and data

Implementation
In the past multiple barriers made it impossible to implement this integrated risk and performance management vision.  Today, we’re seeing large institutions attempt to break traditional barriers down and tackle the vision head-on.

First, executives now have a shared intent, often driven by the desires of their boards, to have risk and finance collaborate to achieve the economic profit benefits described above and to provide greater certainty and transparency in dealing with regulators.  This shared intent makes it possible to integrate the people and governance dimensions described above.

Second, the data complexity and quality issues, often uncovered while the banks tried to become Basel II compliant, are now being addressed either by technology programs which substantially simplify the bank’s core data, such as core banking programs, or through new technologies allowing banks to take abstract of their legacy data through a master data model.

Third, the disparity of analytical models which before led to different assumptions, model outcomes or scenarios being applied to the same data is being addressed by more mature and comprehensive technology solutions - in particular from SAS, Oracle and SAP - which allow finance and risk teams to build once only and share assumptions, models and scenarios.

Finally, finance and risk teams now understand that the planning, target settings, operating and monitoring activities they undertake can follow a similar pattern and therefore can be linked to deliver an integrated result.

 

The views expressed in this column are the author's own and do not necessarily reflect this publication's view, and this article is not edited by Asian Banking & Finance. The author was not remunerated for this article.

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Jordan Griffiths and Pascal Gautheron

Jordan Griffiths and Pascal Gautheron

Jordan Griffiths is Accenture’s Financial Services Finance and Performance Management lead in Australia.

Pascal Gautheron is managing director of Accenture’s banking practice in Asia-Pacific. 

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