Businesses
are preoccupied with risks. Their managers believe they should be able
to mitigate them, or at least be prepared for them. But they don't
understand the nature of complexity, and that complex events that pose
risks to organizations cannot be analyzed into cause-and-effect, and
cannot be accurately predicted, and therefore cannot be planned for,
prevented, controlled or mitigated. The only thing a business can do is
be resilient enough to cope with them if and when they occur.
Business
managers likewise are preoccupied with the short term. As a result they
don't concern themselves with risks that they perceive as longer-term,
or risks whose probability of occurrence they underestimate out of
ignorance.
What is a business risk? Something that has a
potential negative impact on the organization's performance or
sustainability (its ability to continue to operate and meet its
objectives indefinitely). Risk is the product of (a) the probability or
frequency of an adverse event occurring and (b) the severity of
consequences (financial or otherwise) if it does occur. On the charts
in this article, high risks are those in the upper right corner.
Risk
management is the awareness, preparedness and mitigation actions an
organization takes to minimize the consequences of organizational risks.
The charts above and below each display 30 major types of organizational risk.
- The
top chart (#1) shows these risks as they are perceived by management in
the short term -- the next five years (based on three recent surveys of
business and financial executives).
- The middle chart (#2) shows
these risks in the short term according to my recent research. The four
groups of risks in yellow are shifted up and to the right in chart #2
compared to chart #1. In my opinion, managers are significantly
underestimating these risks to their organizations.
- The lower
chart (#3) shows these risks over the longer term (the next 20 years)
according to my recent research. Six groups of risks are shifted from
the upper centre to the upper right in chart #3 compared to chart #2.
These six types of risks are all likely to occur inevitably -- the
question is whether this will happen sooner, or later.
These
charts show, in italics, the steps most organizations take to try to
prevent, mitigate, plan or prepare for each of these types of risk.
- Those
shown in orange are mitigated risks -- management considers their
probability to be low but the consequences if they occur to be high.
They therefore try to prevent or 'head off' such risks.
- Those
shown in green are insured risks -- management considers their
probability to be high but the consequences if they occur to be low. No
point trying to prevent them if they're almost inevitable, so they try
to detect and/or insure against them.
- Those shown in blue are the risks that keep managers awake at night. They have relatively serious consequences if they occur and a relatively high probability of occurring. They are too expensive to insure and difficult to mitigate, prevent or detect.
- Those
shown in yellow are underestimated risks. The asterisk beside them
indicates that management in most organizations does nothing to address
these risk, either because they think they are remote (perceived to be
in the lower left quadrant) or because they don't think there is
anything they can do to address them.
These
charts suggest that most managers are ignorant of some significant
risks their organizations face. Public health experts tell us a
pandemic is a virtual certainty in the next generation, and could occur
anytime, and one of the lessons from SARS is that, even if the death
and illness toll of a pandemic is modest, its economic cost will be
astronomical. And, probably not surprisingly, the charts show that
managers think short term, not long term. As long as analysts are
focused on the next quarter's earnings, that is unlikely to change.
Long term thinking by management is simply not rewarded.
So if
you're an investor, what should you make of this? My suggestion is that
you do your own assessment of risks facing the companies you are
thinking of investing in, and then read the Management Discussion and
Analysis to see (a) whether what management is doing to address those
risks is appropriate, and (b) to the extent there is little management
can do, how exposed the company is to risks beyond its control.
And
if you're an activist, how can you use corporate management's risk
preoccupation to bring about social and environmental reform? This is
tougher, because you need to discover what most companies don't
disclose: the social and environmentally irresponsible activities they
engage in: the pollution and waste their operations produce, their
propensity to use outsourcing, offshoring, union-busting and unsafe
labour practices to keep costs down, the extent to which they
intimidate employees and customers seeking redress for corporate
misdeeds, their lobbying activities that are in the company's interest
but against the public interest, and the exploitation of foreign labour
and underpriced foreign resources..
Most of these activities,
while unethical, are not illegal. What's worse, because they
externalize costs (transfer them from the corporation to others) these
actions contribute to the Tragedy of the Commons -- and therefore
exacerbate many of the external risks on these charts (global warming,
energy and water shortages etc.) -- risks that then affect everyone on
the planet.
Because these activities are not illegal, and many
of them increase short-term profits, the activist's only recourse is to
educate the public and embarrass the company into behaving more
ethically. They will do this if public outrage reaches the level that
the risk of damage to its reputation (one of the risks in blue on these
charts) exceeds the financial rewards of unethical behaviour. Many
pension funds, government investors and other private equity funds now
consider corporate ethics in making investment decisions, and a
combination of customer and investor loathing for a corporation's
behaviour can be a powerful market force, and a motivator to a company
to clean up its act. As consumers and investors, we have more power to
influence corporate activity than we might think. But it's very
difficult and expensive to get compelling, reliable evidence of
corporate misdeeds, in an age when the mainstream media have largely
given up on investigative reporting, and when giant corporations have
deep pockets and armies of lawyers to buy off or threaten
whistleblowers, activists and investigative journalists.
But at least we can know what motivates management thinking, and therefore what we're up against.
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12:42:50 AM 
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