ERM: the evolution of a balancing act.

• Author: Barton, Thomas L.
• Position: Enterprise risk management - Financial Executives Research Foundation

It's widely acknowledged that one of the culprits in the current economic crisis has been the underestimation or mismanagement of risk. No one ever imagined that real estate prices could actually go down, so what was wrong with holding mortgages that might not be paid down? Problems that plagued the financial-services industry quickly spread throughout the global economy, and a global recession soon followed.

Each decade seems to suffer some widespread economic problem that could have been avoided with prudent risk management. Although problems may vary from decade to decade, the global economy will always be fraught with uncertainty. Any company could benefit from enterprise risk management (ERM), a structured and disciplined approach to evaluate and manage uncertainty.

As Financial Executives Research Foundation celebrates its 65th anniversary of producing unbiased research that financial executives can implement, it's interesting to reflect on how risk management has evolved in organizations.

FERF's first research study on risk management, International Risk Management: written in 1983, by Business International, was commissioned after political and cultural turmoil rocked the Middle East and Central America, resulting in losses to companies that did not foresee the turmoil. Many of the study's key recommendations are still relevant today.

FERF's second research study, Foreign Exchange Risk Management, A Survey of Corporate Practices, written in 1995, by Henry Davis and Fred Militello Jr., was commissioned following the unraveling of the European Exchange Rate Mechanism and the decline of the dollar against the Japanese yen and the Deutsche mark. Again, the principal findings of this study are just as relevant today as in the 1990s.

By the time FERF's 2001 study. Making Enterprise Risk Management Pay Off, was published, ERM was still a relatively new management discipline, and few companies had adopted it in a significant way.

Looking to the future, it's always hoped that learning occurs from adversity. And perhaps the issues already identified will not be repeated. Yet, as time has shown, as the environment changes, new issues and challenges continuously crop up.

--William M. Sinnett

At the time the authors were researching what would eventually be Making Enterprise Risk Management Pay Off, published in 2001, ERM, was still a relatively new management discipline. Companies that had adopted ERM were not facing a global economic crisis, but instead were attempting to "create, protect and enhance shareholder value."

The five pioneering firms in the study--Chase Manhattan (now part of JPMorgan Chase & Co. Inc.), E.I. du Pont de Nemours and Co., Microsoft Corp., United Grain Growers Ltd. (now part of Agri-core United), and Unocal (now a unit of Chevron)--shared some common characteristics in their ERM implementation.

These included: a formal, dedicated effort to identify all significant risks; the ranking of risks by severity (impact) and frequency (likelihood); the development and implementation of sophisticated and relevant risk metrics; and a senior management committed to drilling ERM into the decision-making processes at all levels of their organizations.

Not surprisingly, the companies studied showed diversity in achieving these objectives. The study wrapped up convinced that these firms were committed to their ERM efforts and on the road to building future value from them.

Eight years later, ERM is...