Enterprise Risk Management

Where's the beef?

New system quantifies ERM results

By Michael J. Moody, MBA, ARM

Enterprise risk management (ERM) continues to be a center of attention at the highest levels of most companies. Support for this holistic view of risk management has been constantly gaining followers over the past decade or so. For most people, ERM is, in fact, a very logical progression from the more traditional risk management role. Expanding the focus from a limited risk viewpoint to include the reward side of the equation gained traction quickly, particularly in the face of the worldwide financial crises that have plagued financial institutions over the past 10 years.

Logic notwithstanding, it appears that a major element of the ERM model, however, has remained elusive. According to the most recent annual Towers Watson & Companies' risk and finance manager survey, 57% of the respondents note that they have ERM programs in place. However, despite this encouraging uptick, participants also point to difficulty in determining the actual value of their program. The survey notes that 40% state "no one in their organization has been able to articulate the program's value." Even worse, since a convincing case for an acceptable value proposition cannot be made, some ERM programs have merely become compliance-driven activities.

A different approach is needed

With corporate directors on the hot seat with regard to risk oversight, it is no longer acceptable to provide a risk management program that does not have measurable results. Thus, it becomes critical for risk management professionals to champion an ERM program that has clearly defined and easily observed results. Obviously, a new approach to ERM is required. While several expanded ERM ideas have been advanced over the past few years, most turn out to be heavy on theory and light on measurable results. But this could change quickly as rPM3 Solutions, LLC, begins to make available its patented Risk & Performance Management (R-PM) system to a wider audience. According to Gary Bierc, founder and CEO, "Any long-term risk management solutions must have a measurable beginning and a measurable end."

Christopher Mandel, rPM3 Solutions' EVP and past president of the Risk and Insurance Management Society (RIMS), is all too familiar with the problem. "This is the number one question regarding ERM today: Where's the value?" He indicates that this is a question that goes all the way from middle management up to top management, including the board of directors. For many organizations, it has become a burning issue, points out Mandel. "What's our company getting out of ERM?" And more specifically: "What's the return for us?" At this point, he says, "Too many times, companies are left wondering if ERM is nothing more than a concept." What is needed, he says, is "a better method, one with measurable results."

The infancy of the R-PM system occurred when Bierc was the risk manager at Moore Corporation, Ltd. He says that he was challenged by Moore's CEO and CFO to develop a risk management program that was "all about the return on a risk performance basis." Even at this early stage, in 1997, he says, "our financial people realized that it was important to make the program strategic." Thus, Bierc was going to have to find some risk management method that was going to provide evidence that the program was working. He recognized that this would require the development of a new risk accounting and performance-focused measurement tool that would allow him to provide easy-to-understand, hard-dollar results. What ultimately came out of this exercise was a business process known as Aggregate Risk Quantification (ARQ).

Bierc refined his approach and, in order to assure the validity of the system, he enlisted the help of the University of Virginia's Darden School of Business to determine if it "does what we claim it can do." The Darden School reviewed the approach and the results, and validated the method that Bierc was using. Shortly thereafter, he made applications to the U.S. Patent and Trademark Office for a patent on his new business method. A patent for the process was awarded on October 5, 2010.

Proof positive

While there are many differences between traditional ERM and the R-PM system, one of the most visible starts with the all-important risk assessment process. "Rather than taking more of a traditional shotgun approach to risk assessment where you look at everything," Bierc explains, "we review specific historical financial data to provide a better assessment." To date, risk assessments have been primarily qualitative in identifying and prioritizing risks. However, since this method lacks direct relevance to financial goals and targets, it has limited application in a proactive ERM program.

By using the rPM approach, Bierc states, a company can "align its risk assessment activities so that they are focused based on actual performance." This unique approach develops a "historical dateline analysis" that quickly shows where a company is allocating its resources. The assessment process allows a company to identify, examine, and quantify the material risk events that affected its key business drivers and, ultimately, business performance.

The ARQ measurement tool creates what Bierc calls a "5th Financial Statement"—the Statement of Risk. The statement extracts directly from a company's general ledger the actual dedicated and discrete risk management costs. This is extremely important because the "cost of risk" is at the core of how a company does business, states Bierc. By using the ARQ, risk managers can begin creating genuine Risk Accounting Statements and Performance Measurements that break down the results into understandable risk components that are expressed in hard-dollar values. In essence, Mandel notes, "risk managers can now accurately measure the ROI of their ERM programs." Obviously, he says, "this puts accountability squarely on the risk management function," not something that all risk managers are looking forward to.

The rPM approach to enterprise risk management really represents a paradigm shift, says Bierc. "While in theory, traditional ERM makes sense to upper management and boards, it continues to lack the ability to provide a measurable result, thereby also lacking a method to confirm the value proposition." By using a more elegant approach such as the patented ARQ business model, organizations can not only measure the enterprise cost of risk, but its relationship to revenue as well. The rPM solution then becomes "where risk and performance meet."

Conclusion

The rPM3 solution may well represent the next evolution in enterprise risk management. Having the ability to articulate the performance of the risk management function in hard dollars is huge. It could well result in significant additional take-up and acceptance by management and boards across all industries. For the first time, risk managers will be able to provide valuable risk-related data and decision-making information to company management with regard to any actions under consideration, and do it in a transparent way that is quantifiable. As Mandel points out, being able to document the performance side of the risk business is "a big deal."

So, what does this have to do with mid-sized agents and brokers? Bierc notes that the company is now in the process of beta testing a software solution that "will automate the ARQ process." This would be a stand-alone piece of software that will be made available to a select group of rPM associates, including independent agents and brokers. Bierc points out that this would then make the rPM solution and the accompanying ARQ technology economically feasible for smaller clients.

At this point, rPM3 Solutions is aware that a number of big box brokers have made a significant investment in putting together ERM consulting units that are, for the most part, based on traditional ERM thinking, (i.e., no way to determine with precision the value of ERM). He also realizes that ERM is the future of risk management and, as such, is aware that some mid-sized brokers are looking to take advantage of ERM in their strategic growth plans. Now those mid-sized agents and brokers can differentiate themselves and their services by utilizing the rPM3 Solutions approach.

By partnering with rPM3 Solutions, mid-sized brokers can take their risk management business to the next level. Should a broker/agent be considering how best to compete with the large national brokers with regard to ERM consulting services, Bierc and Mandel may have an option worthy of deliberation. As Gary Bierc and Christopher Mandel are both fond of saying, "You can't say no to an ROI." This fact will remain a major selling point for years to come.

The author

Michael J. Moody, MBA, ARM, retired as the managing director of Strategic Risk Financing, Inc. (SuRF), a firm that had been established to advance the practice of enterprise risk management. As a regular columnist, he continues to actively promote the concept of enterprise risk management by providing current, objective information about the concept, the structures being used, and the players involved.