Guidance Paper - The Institute of Risk Management

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Contents Introduction 4 About IRM 5 About the Author 5 Executive Summary 7 Principles and approach 7 Risk appetite and performance 8 Putting it into practice 9 Five tests for risk appetite frameworks 9 Questions for the boardroom 10 I Background 11 The UK Corporate Governance Code 11 Risk appetite and risk tolerance 14 A word of caution 15 Key terms and phrases 15 Background - questions for the boardroom 15 II Designing a risk appetite 16 Risk capacity 17 Risk management maturity 19 Multiple risk appetites 21 Risk culture 21 Key terms and phrases 21 Designing a risk appetite - questions for the boardroom 22 III Constructing a risk appetite 23 Levels of risk appetite 23 Strategic 23 Risk taxonomies 24 Tactical 25 Project or operational 25 Propensity to take risk 25 Propensity to exercise control 25 Balanced risk 26 Risk management clockspeed 26 Control issues 27 Measurement 27 Strategic 29 Tactical and operational 29 Data 29 Constructing a risk appetite - questions for the boardroom 29 IV Implementing a risk appetite 30 Sketch 31 Stakeholder engagement 31 Develop 32 Approve 32 Implement 32 Report 32 Review 32 Implementing a risk appetite - questions for the boardroom 32 V Governing a risk appetite 33 Governing risk appetite - questions for the boardroom 34 VI The journey is not over 35 The journey is not yet over - final questions for the boardroom 35 Bibliography 36 Appendix A: Determining the risks the board is willing to take 37 Responsibilities for risk taking 37 Process for managing risk taking 38 Appendix B: List of respondents to consultation 39 Table of Figures Figure 1 - Performance over time 14 Figure 2 - Possible outcomes 14 Figure 3 - Risk Universe 14 Figure 4 - Risk Tolerance 14 Figure 5 - Risk Appetite 14 Figure 6 - Risk Appetite in Context 16 Figure 7 - Risk Culture Diagnostic 22 Figure 8 - Risk Appetite - Main Issues 23 Figure 9 - Shareholder Value Model (1) 28 Figure 10 - Shareholder Value Model (2) 28 Figure 11 - Shareholder Value Model (3) 28 Figure 12 - Stages of Development of Risk Appetite 30 Figure 13 - Governing a Risk Appetite 33 6
Executive Summary Principles and approach The following key principles have underpinned our work on risk appetite: 1. Risk appetite can be complex. Excessive simplicity, while superficially attractive, leads to dangerous waters: far better to acknowledge the complexity and deal with it, rather than ignoring it. 2. Risk appetite needs to be measurable. Otherwise there is a risk that any statements become empty and vacuous. We are not promoting any individual measurement approach but fundamentally it is important that directors should understand how their performance drivers are impacted by risk. Shareholder value may be an appropriate starting point for some private organisations, stakeholder value or ‘Economic Value Added’ may be appropriate for others. We also anticipate more use of key risk indicators and key control indicators which should be readily available inside or from outside the organisation. Relevant and accurate data is vital for this process and we urge directors to ensure that there is the same level of data governance over these indicators as there would be over routine accounting data. 3. Risk appetite is not a single, fixed concept. There will be a range of appetites for different risks which need to align and these appetites may well vary over time: the temporal aspect of risk appetite is a key attribute to this whole development. 4. Risk appetite should be developed in the context of an organisation’s risk management capability, which is a function of risk capacity and risk management maturity. Risk management remains an emerging discipline and some organisations, irrespective of size or complexity, do it much better than others. This is in part due to their risk management culture (a subset of the overall culture), partly due to their systems and processes, and partly due to the nature of their business. However, until an organisation has a clear view of both its risk capacity and its risk management maturity it cannot be clear as to what approach would work or how it should be implemented. 5. Risk appetite must take into account differing views at a strategic, tactical and operational level. In other words, while the UK Corporate Governance Code envisages a strategic view of risk appetite, in fact risk appetite needs to be addressed throughout the organisation for it to make any practical sense. 6. Risk appetite must be integrated with the control culture of the organisation. Our framework explores this by looking at both the propensity to take risk and the propensity to exercise control. The framework promotes the idea that the strategic level is proportionately more about risk taking than exercising control, while at the operational level the proportions are broadly reversed. Clearly the relative proportions will depend on the organisation itself, the nature of the risks it faces and the regulatory environment within which it operates. “It is often said that no company can make a profit without taking a risk. The same is true for all organisations: no organisation, whether in the private, public or third sector can achieve its objectives without taking risk. The only question is how much risk do they need to take And yet taking risks without consciously managing those risks can lead to the downfall of organisations. This is the challenge that has been highlighted by the latest UK Corporate Governance Code issued by the Financial Reporting Council in 2010.” 7
Page 1 and 2: Risk Appetite & Tolerance Guidance
Page 3 and 4: The Chartered Institute of Internal
Page 5: In writing this paper, we are consc
Page 9 and 10: Putting it into practice We have so
Page 11 and 12: I Background “What is this all ab
Page 13 and 14: The original BS31100 109 contained
Page 15 and 16: A word of caution 122 The word “a
Page 17 and 18: 203 This framework has several key
Page 19 and 20: Risk Management Maturity 206 Risk m
Page 21 and 22: Multiple risk appetites 209 We beli
Page 23 and 24: III Constructing a risk appetite
Page 25 and 26: Tactical 308 Many organisations str
Page 27 and 28: Control Issues Irrespective of risk
Page 29 and 30: Strategic 319 At a strategic level
Page 31 and 32: Sketch 403 Risk appetite should be
Page 33 and 34: V Governing a risk appetite “Maki
Page 35 and 36: VI The journey is not over 601 It i
Page 37 and 38: Appendix A: Determining the risks t
Page 39 and 40: Appendix B: List of respondents to
Page 42: Crowe Horwath Global Risk Consultin

Guidance Paper - The Institute of Risk Management

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