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AD 610: Week 2 Lecture Notes

by: Melissa Wadman

AD 610: Week 2 Lecture Notes MET AD 641

Marketplace > Boston University > Administrative Sciences > MET AD 641 > AD 610 Week 2 Lecture Notes
Melissa Wadman
GPA 3.78

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About this Document

History and framework of enterprise risk management
Enterprise Risk Management
Class Notes
Risk, Enterprise, business, continuity
25 ?




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This 3 page Class Notes was uploaded by Melissa Wadman on Sunday September 18, 2016. The Class Notes belongs to MET AD 641 at Boston University taught by Banasiewicz in Fall 2016. Since its upload, it has received 12 views. For similar materials see Enterprise Risk Management in Administrative Sciences at Boston University.

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Date Created: 09/18/16
Enterprise Risk Management - MET AD 610 Week 2 Lecture Notes ➔ Keywords: ◆ Risk Architecture: To specify the roles, responsibilities and risk communication structure. ◆ Risk Strategy: To define risk appetite and philosophy, and to develop a risk policy. ◆ Risk Protocol: To spell out operational risk guideline to include rules, procedures, tools & methodologies. ★ ERM HISTORICAL PERSPECTIVE: ○ If there is one theme to rival terrorism for defining the last 15 years, it would be corporate greed and malfeasance ○ THE ‘INVISIBLE’ THREATS ■ Enron Scandal (2001) ● Company: Houston-based commodities, energy and service corporation ● What happened: Shareholders lost $74 billion, thousands of employees and investors lost their retirement accounts, and many employees lost their jobs. ● Main players: CEO Jeff Skilling and former CEO Ken Lay. ● How they did it: Kept huge debts off balance sheets. ● How they got caught: Turned in by internal whistleblower Sherron Watkins; high stock prices fueled external suspicions. ● Penalties: Lay died before serving time; Skilling got 24 years in prison. The company filed for bankruptcy. Arthur Andersen was found guilty of fudging Enron's accounts. ● Fun fact: Fortune Magazine named Enron "America's Most Innovative Company" 6 years in a row prior to the scandal. ■ WorldCom Scandal (2002) ● Company: Telecommunications company; now MCI (a subsidiary of Verizon) ● What happened: Inflated assets by as much as $11 billion, leading to 30,000 lost jobs and $180 billion in losses for investors. ● Main player: CEO Bernie Ebbers ● How he did it: Underreported line costs by capitalizing rather than expensing and inflated revenues with fake accounting entries. ● How he got caught: WorldCom's internal auditing department uncovered $3.8 billion of fraud. ● Penalties: CFO was fired, controller resigned, and the company filed for bankruptcy. Ebbers sentenced to 25 years for fraud, conspiracy and filing false documents with regulators. ● Fun fact: Within weeks of the scandal, Congress passed the Sarbanes-Oxley Act, introducing the most sweeping set of new business regulations since the 1930s. ★ The heart of the problem: The agency dilemma ○ Principal (shareholder) employs the agent (management) to perform the task (managing the company) on behalf of the principal. The agent is accountable to the principal. Enterprise Risk Management - MET AD 610 Week 2 Lecture Notes ★ Cannot forget visible threats: ○ Natural disaster (hurricane, earthquake, flood, fire) ○ Accidents (industrial, workplace, car) ★ Understanding and Communicating ALL threats ○ Organizational exposures ■ Known risks - impact minimization ■ Unknown threats - vulnerability reduction ■ Self-transformation - benefit maximization ★ THE CALL FOR ERM ○ The Securities (1933) and the Securities Exchange (1934) acts: Passed as a result of the stock market crash of 1929; two main goals: to ensure more transparency in financial statements so investors can make informed decisions about investments; and to establish laws against misrepresentation and fraudulent activities in the securities markets. ○ The Sarbanes-Oxley Act of 2002 (SOX) – Section 404: Management Assessment of Internal Controls: Companies are required to publish information in their annual reports concerning the scope and adequacy of internal control structure and procedures for financial reporting. ○ Creditworthiness scoring (Standard & Poor’s, Moody’s, Fitch): ERM practice assessment an explicit part of company's overall creditworthiness. ○ Risk management as a source of firms’ competitive advantage; Traditionally, it was viewed as an expense that was to be minimized ★ MANAGING THE TOTALITY OF ORGANIZATIONAL EXPOSURES ○ Managing a portfolio of risks is more efficient than managing each risk individually. ○ Think of managing one’s stock portfolio, the goal of which is to maximize the total return on the overall portfolio. The goal of managing the totality of an organization’s risk is to minimize the organization’s exposure to known risks, and maximize the organization’s resilience vis-à-vis unknown threats. ○ Operations ■ Processes ■ Physical Assets ■ People & Culture ■ Legal ○ Knowledge ■ Intellectual Property ■ Information Management ■ Systems ○ Strategic ■ Market Structuring ■ Governance ■ Stakeholder ○ Financial ■ Market ■ Liquidity & Credit ■ Reporting ■ Capital Structure ★ LEADING ERM FRAMEWORKS ○ COSO ○ ISO 31000 - the global standard ■ Building Blocks Enterprise Risk Management - MET AD 610 Week 2 Lecture Notes ● Risk Architecture: To specify the roles, responsibilities and risk communication structure. ● Risk Strategy: To define risk appetite and philosophy, and to develop a risk policy. ● Risk Protocol: To spell out operational risk guideline to include rules, procedures, tools & methodologies. ★ A Dose of Reality: ○ Enterprise Risk Management, ERM, holds great promise, but it is still quite early in its maturity as an (academic) body of knowledge and (applied) practice: ■ Ideas for ‘integrated risk management’ began to appear in 1970s and 1980s, but more formal conceptualizations, definitions and frameworks did not appear till late 1990s and early 2000s… ■ Although the term ‘enterprise’ suggests an all-inclusive scope, substantive ERM research has focused predominantly on risks with well-defined statistical properties (e.g., accidents, credit risk), which means that ‘soft’ risks (e.g., cultural, innovation) and those that do not lend themselves to mathematical analyses have been overlooked ■ Reliance on mathematically complex, obscure methods diminished the utility of risk estimation tools…The Great Recession, credit default swaps and the Gaussian copula function ■ ERM acceptance by an organization is not a panacea – for example, the Institute of Internal Auditors praised Countrywide Mortgage as an exemplar of ERM adaptation, but a year later Countrywide was in bankruptcy ★ CASE STUDY: EXECUTIVE RISK ○ Organizational Shareholders & Norm-Shaping Forces ■ Market ● Customers ● Suppliers ■ Political ● Regulators ● Employees ● Shareholders ■ Judicial ● Competitors ● Creditors


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