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Risk Management: A Maturing Discipline
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KPMG Risk Reference Matrix. (Source: Cristoph Auckenthaler and J rg Gabathuler, Gedanken zum Konzept eines Total Enterprise Wide Risk Management (TERM), Zurich: University of Zurich, 1997, 9, fig. 2.)
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International Stability Risk National Stability Risk General IndustryRelated Risks Local Industrial Sector Risks Ethical Value Risks Business Value Risks Business Policy Risks
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Macroeconomic Risk Factors Business Environment Risk Microeconomic Risk Factors
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Outside Risk Factors Organizational Policy Risks Customer-Facing Risks Development & Production Risks Financial Market Risks Support Service Risks
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Operational-Level Risks
part of market and credit risks, but it also affects systemic risk. The total risk management concept appears to be complete, consistent, and adequate. But this interpretation is too optimistic, as some of the concepts still lack major elements and assumptions. In an overall approach, the interaction between individual risks, as well as the definition of the weighting factors between the risk trees that must be attached to this correlation, creates serious difficulties. Portfolio theory tells us that correlation between the individual risk elements rep-
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Risk Map of a Total Risk Management Approach. (Source: Modified from KPMG.)
Systemic risk
Process management / design
Support Services
Communication / relationship management Legal
Corporate strategy / direction
Management direction and decision making Regulatory Human resources
Product selling / distribution
Product / service development
Credit risk
Market risk
Control framework
External physical events
Internal physical events Accounting Taxation
Financial risk Operational risk Systemic risk Strategic / management risk
Risk Management: A Maturing Discipline
resents a central role in the establishment of risk definitions and strategies, and therefore in the risk management and hedging process (provided hedging is feasible). The same is also true for the risk management of a business (with elements such as new product risks, model risks, counterparty risks, etc.). From a practical standpoint, it is often not possible to get data and calculate risk coefficients if the overall scheme of a total risk management concept represents a widely branching system, because the number of interactions (correlations) and the required data increase substantially as the number of elements increases. Such approaches require the combined and well-orchestrated use of questionnaires, checklists, flowcharts, organization charts, analyses of yearly financial statements and transactions, and inspections of the individual business locations. This requires substantial expenditures and commitment from management. As can be seen from the preceding descriptions of the different enterprise risk management solutions, the major consulting firms approach the same issues from different perspectives. Whereas KPMG and Ernst & Young have a more holistic approach, Coopers & Lybrand takes a more normative, trading-oriented, and regulatory approach. Regardless of the different approaches offered by the various auditing and consulting companies, a company has to adapt the approach it selects based on its own needs, its understanding of risk management, and the extent to which risk management is an integrated part of upper management s responsibilities or an independent control and oversight function. Total Quality Management Virtually every activity within an organization changes the organization s exposure to risk. It is part of a risk manager s responsibility to educate others on the risk-creating and risk-reducing aspects of their activities. The recognition that risk control is everyone s responsibility closely links risk control to principles of quality improvement, an approach to management that has been employed with considerable success in Japan and the United States. The movement toward quality improvement often is known by code names and acronyms such as total quality management (TQM) and total quality improvement (TQI). TQM was developed in Japan after World War II, with important contributions from American experts. Ultimately, Japanese companies recognized that production volume itself does not create competitive advantage, only quality and product differentiation can do so. In the context of TQM, quality is here defined as follows:10
quality The fulfillment of the agreed-upon requirements communicated by the customer regarding products, services, and delivery performance. Quality is measured by customer satisfaction.
TQM has five approaches, reflecting the different dimensions of quality:11
Transcendent approach. Quality is universally recognizable and is a synonym for high standards for the functionality of a product. The problem is that quality cannot be measured precisely under this approach. Product-oriented approach. Differences in quality are observable characteristics linked to specific products. Thus, quality is precisely measurable. User-oriented approach. Quality is defined by the user, depending on the utility value. Process-oriented approach. The production process is the focus of quality efforts. Quality results when product specifications and standards are met through the use of the proper production process. Value-oriented approach. Quality is defined through the priceproduct-service relationship. A quality product or service is identified as one that provides the defined utility at an acceptable price.
The TQM approach has four characteristics:
Zero-error principle. Only impeccable components and perfect processes may be used in the production process to ensure systematic error avoidance in the quality circle. Method of why. This is a rule of thumb: the basis of a problem can be evaluated by asking why five times. This avoids taking the symptoms of a problem to be the problem itself. Kaizen. Kaizen is a continuous process of improvement through systematic learning. This means turning away from the traditional tayloristic division of labor and returning to an integrated organization of different tasks that includes continuous training to develop personnel s technical and human relations skills. Simultaneous engineering. Simultaneous engineering demands feedback loops between different organizational units and different processes. This requires overlapping teams and process orientation.12
Table 1-1 highlights the profiles of the total quality management and total risk management approaches. Total quality management has its own very distinct terms and definitions, which make it a different approach from total risk management. It is a multidimensional client-oriented approach, in which management takes preventive measures to ensure that all processes, organizational en-
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