SAS® Risk Dimensions® - Delivering enterprise risk management solutions to maximize shareholder value

SAS® Risk Dimensions® Delivering enterprise risk management solutions to maximize shareholder value ® A SAS White Paper Table of Contents Executive Summary .......................................................................................................1 What is Enterprise Risk Management?........................................................................1 Why Institutions Need Effective Enterprise Risk Management.................................2 Company Drivers ..........................................................................................................2 Regulatory Forces ........................................................................................................2 Communicate Risk Measures Throughout the Organization ....................................2 Scorecard Framework ..................................................................................................3 Visual Challenges .........................................................................................................5 Strategic Analysis .........................................................................................................5 Effective Diagnostic Techniques..................................................................................6 Corporate Simulation ....................................................................................................6 Risk Capital Allocation ..................................................................................................7 Calculating Risk/Reward Measures..............................................................................7 The SAS Solution ...........................................................................................................8 Summary .........................................................................................................................8 Technology ...................................................................................................................8 Behavioral Impacts .......................................................................................................9 About SAS ....................................................................................................................9 SAS Risk Dimensions Executive Summary Uncertainty in business makes it difficult to accurately predict and avoid large fluctuations in the performance of capital across the firm(s). As global markets mature, institutions recognize that risks are intertwined and should be measured in an integrated manner. The ability to accurately measure, predict and act on these measures has proven elusive. To meet these challenges, firms are looking for a true enterprise risk management (ERM) solution. The challenges facing companies include issues ranging from data management to implementing complex analytical techniques. Companies who successfully measure and act upon risk-adjusted returns are typically rewarded with higher valuations from financial markets, higher credit ratings and lower costs of capital. Small changes in valuation or investment costs can translate into significant returns on investment. What is Enterprise Risk Management? Enterprise risk management (ERM) is the pulling together of information from across historically separate areas and consolidation of results into one picture that represents a complete view of the company’s risk. Do you have a consolidated picture of your organization? Can you answer the following questions? · Can you accurately explain your company’s earnings volatility? · Can you anticipate how operational risk will affect earnings? · Can you identify and value risk by geography, business unit or market segment? · Does your company appear under-valued compared with your competitors? · Does management spend less time making strategic decisions and more time calculating results to meet regulatory requirements? An ideal ERM platform would help financial executives and portfolio managers answer these questions in order to define and communicate quantitative goals to the employees who are charged with executing strategy. It would give everyone in the organization access to a clear view of the company in terms of risks and define individual behaviors that could affect the risk control process. At the same time, it would provide the necessary diagnostic tools to dig deeper into the details of information, to help decision makers visualize complex relationships, comprehend them and react. And it would include the necessary forecasting models so analysts can perform “what-if” scenarios before trying them in the real world. Finally, it would help you depict your organization more clearly in terms of risks, making it more competitive in the marketplace. 1 SAS Risk Dimensions Why Institutions Need Effective Enterprise Risk Management Company Drivers One of the foremost objectives of a comprehensive risk management solution is to decrease the overall volatility of earnings while maintaining an adequate rate of return. For internal purposes, this means that management must work to reward behavior based on a risk-adjusted return. Performance based solely on returns or risk misses the overall objective of decreasing earnings volatility and increasing shareholder value. Management must use a risk-adjusted rate of return to measure business units, capital projects, individual departments, or individuals themselves. These measures tend to reward behavior that maximizes return while providing an incentive to examine and adjust the risk taken by the corporation. Externally, corporations must constantly compete for attention from analysts and investors. Firms able to demonstrate lower earnings volatility than their competitors are typically rewarded with a higher valuation. Likewise, if a company is able to demonstrate superior control to creditors, they may observe a lower cost of debt than their competitors. Regulatory Forces Changes in regulatory requirements can force many companies to re-examine their risk control processes. FAS133, FR932.5, the new Basel Capital Accord and a host of other regulations force companies to use risk management tools for regulatory reporting and compliance. Companies that fail to adequately meet regulatory compliance face stiff fines or adverse market reactions. Many firms are creating risk methodologies for the first time in an effort to comply with these new regulations. An effective ERM platform would help clients meet or exceed these new requirements. Communicate Risk Measures Throughout the Organization Successful firm-wide risk management starts with the ability to effectively communicate the strategic goals of a company to the individuals charged with executing strategy. Too often, firms publish a mission statement or goals at the beginning of the year and re-visit it once at the end of the year. Executive management must first define a global strategy and mission statement that is used to steer the direction of the firm. This general direction is shaped further by the risk control committee or Chief Risk Officer to specifically define quantitative goals for the fiscal planning period(s). 2 SAS Risk Dimensions There are two keys to creating a successful risk control initiative. First, executive management needs the ability to communicate quantitative goals to the front-line employees who are charged with the execution. Many companies fail to effectively communicate these goals on a consistent basis. Second, an effective risk control solution supports a variety of communication methods that can be tailored for the needs of each employee. These channels should include: email messages, Web-based scorecards, wireless via PDA devices, pagers, cell phones, paper reports, spreadsheets and many other forms of communication. Experience shows that the introduction of an ERM platform forces employees to re-examine their role in the risk control process. Once corporate goals are consistently defined and communicated, their daily decision making process changes. The management of data, processes and reports are replaced by the ERM system. As a result, employees can spend more time analyzing results and making decisions based on the metrics produced by the system. Scorecard Framework Identification of the key indicators that influence strategic objectives is another important element of an effective risk framework. These indicators are typically grouped as either leading or lagging values that affect a specific strategic goal. Leading indicators are powerful management tools that can help managers change policies before they miss their targets.