Operational risk, risks arising from failed internal processes, people, systems, or external events, is on the rise. While operational risk can be avoided, the complexity of the modern business environment, with its interconnected processes, global supply chains, and reliance on technology, has made this type of risk more common than in year’s past. The best way to proactively combat operational risk is to prioritize Operational Risk Management (ORM). By implementing ORM, organizations can hone in on the possible pitfalls existing within their operations without being distracted by other risk areas, such as strategic and financial risks.
While mitigation tactics for operational risk may sometimes overlap with efforts for other types of risks, such as financial risks, which are related to market fluctuations, and strategic risks, which are associated with business decisions, ORM is in a category of its own. Organizations looking to amplify ORM efforts should focus on activities such as risk identification, assessment, mitigation, monitoring, and reporting. Dedicating time and resources to establish a robust operational risk management program with relevant tools, strategies, and processes will help organizations protect themselves against disruptions that can have wide-reaching harm, and cause damage to their operations, finances, and reputation.
Understanding Operational Risks
When it comes to effective operational risk management, the first step it so understand the categories:
- People: Risks related to human error, fraud, or misconduct.
- Process: Risks caused from inefficient or flawed internal processes.
- Technology: Risks that arise from system failures, cyber-attacks, or outdated technology.
- External Events: Risks due to factors outside of the organization’s control, including natural disasters, regulatory changes, or supply chain disruptions.
Each of these categories will look different depending on the organization’s industry. For example, a technology risk in finance might be a system outage in a bank, but to the manufacturing industry a technology risk is the failure of a large piece of machinery. And industries with less human involvement will likely experience less operational risks because operational risk is due to human error. Organizations that fall prey to high employee turnover might experience greater operational risk because new team members aren’t properly trained, or the staff aren’t experienced in the right areas and have been hired prematurely.
Regardless of the industry, operational risk has a high impact across the board for organizations and therefore must be an issue that is managed properly by leadership teams. Consequences of operational threats can include financial losses, legal liabilities, regulatory penalties, and damage to brand reputation, and each can be severe and long-lasting if not properly managed.
The ORM Framework
Organizations can work diligently to combat operational risk by leveraging the ORM framework. The core components of a robust ORM framework include:
- Identification: Recognizing potential operational risks. During this phase organizations will want to spend time reviewing the challenges their business faces in order to identify the ones that could potentially disrupt operations the most, or cause a significant, long-term negative impact.
- Assessment: Evaluating the likelihood and impact of identified risks. This stage is when the security and leadership teams fully vet potential risks – discussing and discovering specifically what may cause these risks – so they can be managed before causing actual financial and operational disruptions.
- Mitigation: Developing strategies to reduce or eliminate risks. During mitigation, the team will want to develop specific plans to proactively mitigate the identified risks. This is the time period when contingency plans will also be created to address the risk should it occur. Teams will then share these detailed tactics with other key stakeholders and ensure that all decision-makers are in agreement on what to do should the risk become a reality.
- Monitoring: Continuously tracking risk factors and the effectiveness of mitigation efforts. Team members are tasked to track and evaluate mitigation efforts to ensure that plans developed are addressing the risk and ensuring any future loss is minimized. This phase also includes assessing how the overall ORM plan has succeeded in terms of preventing the risks identified during phase one and allows teams to make adjustments to ensure better success in the future.
- Reporting: Communicating risk status and developments to stakeholders. Ensuring that all activities are properly reported and documented is key. This information offers valuable historical data for organizations to refer back to and also ensures that all relevant decision-makers and stakeholders receive the same information.
Risk Culture
If an organization wants to be successful in ORM, they need to establish its risk culture. Risk culture involves identifying an organization’s risk appetite. This is the level of risk they are willing to accept. The above steps will help leaders to come to agreement in terms of their risk appetite, as well as the specific thresholds for action, otherwise known as risk tolerance. It is important for all decision-makers to have a shared perspective and understanding on risk, as an effective ORM relies on a strong risk culture.
Employees and team members throughout the organization should have a singular perspective on the risks that pose danger to their business, the process to avoid these risks, and mitigation tactics to put into place should a risk arise. Leaders who remain committed to creating a shared risk mindset among its employees, prioritize ongoing risk education, and ensure all team members are united front when it comes to ORM, will find themselves more successful in risk avoidance.
Mitigating Operational Risks
When it comes to mitigating operational risk, there are different approaches an organization can take depending on their risk appetite and risk tolerance. These approaches are: avoidance, reduction, transfer, and acceptance.
If an organization chooses avoidance, they will focus on eliminating all activities that introduce risk. Ones that opt for reduction will implement controls to minimize risk. Those instituting transfer will shift risk to third parties, such as through insurance. Lastly, those adopting an acceptance approach will acknowledge risk where it falls within the organization’s risk tolerance.
Technology can be used to help organizations be successful in whichever approach they choose. For example, Artificial Intelligence (AI) and Machine Learning (ML) can be useful in enhancing ORM and assisting teams who might be short on time, staff, and resources. For example, security software, like Seerist, leverage a combination of AI, ML, Natural Language Processing (NLP), along with analysis from security experts based around the world, to help organizations automate risk detection, predict potential risks, and optimize mitigation strategies.
When internal teams have the support of technology, they can spend more time developing the strategies and less time culling and organizing data. The time benefits are massive because the technology is capable of reviewing large quantities of data in minutes; it would take humans months to review the same quantity of information. In addition, risk management technologies and security intelligence software can often identify risks and find patterns from historical data that had been previously undetected. Technology is a massive benefit and ORM complement to organizations looking to achieve high levels of risk management success.
ORM Case Study: Pinnacle Bank
In 2021, Pinnacle Bank, a global financial institution, experienced a data breach that left personal and financial information of millions of customers exposed. The breach was a result of several issues – internal process failures, inadequate system security, and human error. As a result of this operational risk, Pinnacle Bank experienced:
Financial loss – Pinnacle had to manage customer compensations, regulatory fines, and legal fees, all of which impacted the financial success of the organization during this time.
Reputational damage – Customers lost trust in the brand.
Operational disruption – The organization underwent an IT infrastructure overhaul and implemented new security measures, which resulted in temporary disruptions in daily operations.
While the incident caused damage, the organization was able to learn from the experience and decided to enhance security measures, improve its risk assessment process, implement a real-time monitoring system, and undergo regular employee training programs. By revamping its ORM, Pinnacle Bank is now poised to avoid future security breaches and is set up to proactively minimize risks when and if they arise. This new strategy will ensure that Pinnacle is able to reduce future loss, improve operational efficiency moving forward, and reinstate stakeholder confidence.
ORM is Key to Long-Term Risk Prevention
Effective ORM is crucial for safeguarding an organization’s assets, reputation, and long-term viability. It should not be a reactive process but a proactive, integrated part of the organization’s strategy. This requires organizations to establish a risk culture that prioritizes a commitment to risk management, where risk education is reinforced, where employees adopt a shared risk appetite and risk tolerance mentality.
When ORM practices are continuously monitored and improved, organizations have the advantage of knowing the risks that are most likely to negatively impact their business and take the necessary steps to avoid them. And, if risks do come to fruition, enterprise risk management will ensure the proper mitigation tactics are in place and ready to be implemented to minimize disruptions to operations, the bottom line, and employee safety. If your team needs support with their risk intelligence management, take time to contact Seerist for a demonstration today.
