Enterprise Risk Management aims to address risks that might affect the enterprise at large. The process steps involve risk identification, assessment and prioritization as well as the development of risk responses. The result is an inventory of relevant risks, catalogued and presented in various useful manners, and a mitigation program including controls. ERM exercises are typically repeated on an annual basis with quarterly updates.
Scenario Planning is a methodology that attempts to provide insight in ‘how things hang together’ and considers how the future of the business environment, to the extent relevant, might unfold. Of course, the future is wrought with uncertainties and, hence, risks. The focus of Scenario Planning, however, is not on mitigation and controls but on understanding the complexity of the outside world and, with that, better recognition of the external risks.
In this article we will take a brief look at how these disciplines could reinforce each other.
In the world of ERM it is increasingly realized that most of the effort expended primarily targets near-term operational risks. Risk management activities are therefore usually confined to the ‘ongoing’ part of the business cycle and much less so in the strategy development and new investment phases. But, actually, most value gains and losses occur as a result of strategic choices and investment decisions. Whereas operational excellence and the avoidance of mishaps whilst running the business is of course crucial, the long-term longevity of an enterprise is primarily dependent upon making the right investments and other key decisions.
So, what about the risks and uncertainties associated with strategic and investment choices?
Companies would appear to be much less systematic in dealing with risk related to the future business environment than they are in addressing day to day operational risks through some risk management approach. The case can be made to combine the rigor of enterprise risk management, which is often already in place, with the creativity and insight that the Scenario Planning practice offers.
How can this be accomplished?
In ERM things usually start with the identification of risks. Scenario Planning, of course, has a similar phase exploring the uncertainties and key driving forces in the business environment. Although perhaps first some mutual clarifications will be needed to align terminologies being used, clearly there are synergies to be captured in this initial risks/uncertainties/driving forces identification phase.
ERM subsequently is systematic in assessing the risks, assigning risk owners, consider mitigation options or actions and, where relevant, controls. Usually things are orderly recorded in a repository, e.g. a spreadsheet or a digital platform. Scenario planners may be less disciplined and like to focus on creatively discussing the interrelationships between the external uncertainties and drivers. They have lively debates and record their thoughts on flip charts, hexagons, diagrams and by means of short story lines. This gives them an understanding of how things hang together and they will make sure decision makers can use these insights when making big bets.
Also here, risk management practices can be blended with scenario thinking. Diagrams can be used to analyze and communicate how various risks/uncertainties are interrelated. What are the fundamental driving forces? How do risks come about? Then, in the risk register or registration system, multiple possible outcomes of the risks/uncertainties can be recorded using short narratives or numbers, depending on the type of risk. Lastly, some thinking should ensue as to which outcomes of the various uncertainties/risks would ‘go together’. And this is the essence of Scenario Planning. If a digital platform is used, this step could be facilitated by means of a relational database of some sort. Such a repository would allow quick generation of multiple scenarios of the future business environment allowing subsequent refinement and iteration of the various assessments.
In this way both disciplines would enhance their relevance and contribution to growth.