The integration of risk assessment data into performance management adds significantly to strategic and operations planning, but few companies have integrated their Enterprise Risk Management (ERM) and performance management processes, according to a report released September 15 by The Conference Board, the leading global business research and membership association.
"This integration provides decision makers with a dynamic analytical framework for evaluating operational strategies, acquisitions and divestitures, and capital investments across business units, asset types, and risk profiles," says Ellen S. Hexter, author of the report, along with Daniel Sandy Bayer, president of Bayer Consulting. "The combination of ERM and performance management is very valuable for strategic and operating plans that have long-term business consequences. A risk-adjusted performance framework offers organizations the ability to explicitly link personal and performance objectives."
Enterprise risk management and performance management are two complimentary processes essential for the management of an organization. Both disciplines are designed to support organizations' efforts in making decisions and meeting their goals--ERM through the identification and management of those risks that could affect business objectives, and performance management through the identification and measurement of the drivers needed to achieve results.
Risk-adjusted performance metrics offer managers tools that strike the appropriate balance between meeting performance goals and achieving appropriate returns for the risks being taken. The application of risk-based performance management may also lead to incentives that are more aligned with an organization's long-term success.
Despite all of these benefits, few companies have integrated these processes. In a recent survey by The Conference Board of 97 senior executives, only 57 percent of the responding organizations had both a formal ERM program and a performance management program. Of this group, only 43 percent said that integration of the programs would be extremely or very valuable. When asked if their companies would increase their use of risk assessment data in planning during the next 12 months, just slightly more than half of respondents from companies with both programs (53 percent) said that was extremely or very likely.
The report concludes that there are three major reasons why organizations are reluctant to include risk assessment data in their planning processes:
· The ERM program is not considered effective – Only 52 percent of the executives surveyed with both an ERM and a performance management program considered their ERM programs to be extremely or very effective at the corporate level and just 30 percent rated their programs that highly at the business unit level.
· A lack of commitment from the top – Executives cited a lack of management focus as one of the greatest challenges to the integration of ERM and performance management.
· A need for more sophisticated performance metrics – Only 34 percent said that their companies use risk-adjusted return on capital at the corporate level, and even fewer (21 percent) do so at the business unit level. Seventy-three percent said that their risk measures were not compatible with their planning metrics.
"Given the dramatic losses suffered by some major companies in recent years, including during the recent financial crisis, boards of directors and senior management will become increasingly interested in ensuring that planning processes throughout their organizations incorporate an explicit assessment of risk," says Hexter.
