The Leader’s and Director’s Role in Managing Risk

As the snow from this very harsh winter begins to melt, those of us who are golfers begin the transition from the winter doldrums to a hopeful new season.  One way to prepare your body and your mind is to watch professionals play on televised tournaments.  In analyzing the professional swings, I am always struck at how well-balanced they are as they address the ball and how their feet stay on the ground.  High handicappers like me, tend to swing so hard that they lose their balance and footing.   This erodes their capacity to strike the ball with efficiency and predictability.

As we begin a conversation about risk, it’s important that we don’t over respond to the subject and its consequences, but maintain our balance in a logic-based discussion that ensures discovery of the right issues.

I remember the story of a young board member who questioned a CEO on their turnover numbers in a certain area.  He was told to be grateful he was on the board and to stop asking these types of mundane questions. In truth, this problematic location had 200% turnover numbers and ultimately led to a full investigation by a regulatory agency and a fine of $15 million dollars.  Had these questions originally been the subject of discussion, years of investigations and a huge fine could have been avoided.

In addition to having a basic understanding of finance and accounting practices, leaders and directors should have a basic understanding of the risks that can affect their organizations and companies.  Paramount to this conversation, is acknowledging reputational risk that the individual director exposes themselves to in the event of a company failure.  Having this understanding, will enable them to ask “appropriate, substantive questions as well as develop appropriate risk mitigation strategies.

Boards must understand and question strategic plans and identify the underlying assumptions of these plans.  Vigorously asking “what if” scenario questions will help to reveal underlying assumptions and determine whether alternative plans and actions to mitigate risk have been put into place. Asking questions like, “what if an assumption of the plan does not materialize, or “what if an objective of a plan is not met” is important. Are succession plans in place?  The board should be asking what is your plan B if this candidate doesn’t work out.  A realistic and ongoing monitoring of the planning process is required.

“What if” challenges surface sources of risk and red flags including interest rate fluctuations, resource absences or failures including staffing, technology, project failure, legal liabilities, credit risk, natural causes and disasters and competition.  Once sources of risk are identified, they need to be scoped in size and prioritized based on potential loss and probability of occurring.   The board must be presented a risk management plan by management, but then be able to review and challenge it. Make sure, as a board member, that you have a chance to hear directly from line management on specific elements of the planning process and to ask appropriate questions.  Directors should participate in a discussion that is both respectful and challenging.

So how does a board member become competent at asking the right questions to express their intelligence and good judgment?    Financial literacy will help, but this literacy needs to be applied to your organization’s current circumstances and plans. That’s where intelligence and judgment comes into play.  Directors need to conduct reasonable inquiry, which includes asking appropriate questions and doing more due-diligence on complicated issues as well as taking appropriate actions.  Directors can rely upon one or more officers or employees whom that director believes is reliable and competent in the functions performed.  However, the phrase, “trust yet verify”, is important.

Boards need both a structure and a method of identifying, measuring and documenting risk.  This is a dual responsibility of both the board and management.  That’s where the culture of the board becomes critical. The board must have effective oversight of the company’s strategy, which includes oversight of management’s execution of policies and procedures to ensure that policies are followed.  Allowing for these challenging discussions, requires the right culture on the board, as well as self-confidence on the part of the CEO, Chairman and board members, to address each issue in a professional and not personal way.  Tone at the top establishes whether these important discussions can be held, which leads to the right issues being addressed. 

Stuart R. Levine is Chairman and CEO of Stuart Levine & Associates LLC, a strategy, leadership and governance consulting firm.  www.stuartlevine.com.