Everything you need to know about strategic risk

In the governance world, strategic risk is on everyone's minds. 94% of companies have adapted their strategic risk management system in the past three years to better suit current industry needs. While there is debate over whose shoulders strategic risk management falls on, it is clearer than ever that strategic risk is a top priority for industry leaders. As organisations reframe their understanding of strategic risk and its potential, they gain crucial insight into community-focused growth opportunities for their organisations.

However, it can take some work to know where to start when it comes to shifting your company's strategic risk management framework. This is because many organisations get stuck on an operational level, where they need help to dive deeper into their data and analyse the trends that they observe for their future implications, revealing opportunities that lie five, 10 or 15 years into the future.

Surmounting this obstacle and transforming how your company approaches challenges is critical to flourishing in the modern business world. This is true not just in business crises, such as the COVID-19 pandemic, but in daily company operations. Therefore, it is in your company's best interest for it to learn to think ahead, considering the implications of its choices far into the future, how closely these align with its vision statement and its interactions with the community it hopes to shape. If you struggle to understand how to effectively instigate this shift in business strategy, read on. 

Below, the BoardPro team have outlined everything that you need to know about strategic risk and awareness. We’ve also delved into the mind of governance expert, Steve Bowman, who shares his thoughts on strategy in organisations today.

What is strategic risk?

Strategic risk refers to the risk inherent in an organisation's strategy. This is the chance that the strategy might work out differently than envisioned, falling or underperforming. Strategic risk covers all of the smaller risks associated with company decisions, and awareness of said risk is crucial for business success.

Risks can be both internal and external to the company and include factors such as advertising campaigns, investments and developments on the internal level, economic shifts, consumer loyalty and ethics and technological revolutions on the external stage.

Why is it important?

When companies fail to address their strategic risk, they risk negative outcomes that may permanently impact their business, including loss of shareholder and/or stakeholder value and confidence, negative impacts on their community and decreased profitability. Many successful companies have fallen due to a lack of strategic risk awareness on their part. Managing risk can help companies avoid these negative outcomes and instead make decisions that capitalise on business opportunities, keeping them ahead of the competition and relevant in their industry.

Addressing risks:

Strategic versus operational risk:

Operational risks refer to internal disruptions to workflow, whereas strategic risks can stem from internal or external factors that impact an organisation's strategy. The difference lies fundamentally in the decision-making process involved: strategic risks impact high-level decision-making that forms the company's overall vision and strategic plan, whereas operational risks pose a threat to lower-level decisions regarding the execution of the said plan.

Types of strategic risk include:

• Regulatory risks: Regulatory changes can significantly impact businesses, especially those that offer avant-garde services or products. If an organisation fails to stay up to date on the relevant regulations – and anticipates any major changes – in its industry, it may fall prey to this strategic risk.
  
  
• Competitor risks: If competing companies release similar (or better) products at equal or lower prices, companies risk irrelevance and a loss of their consumer base. Therefore, organisations must maintain awareness of their competition to remain cutting-edge.
  
  
• Economic risks: Companies should strive to keep a finger on the pulse of their customers' needs and biases, anticipating any overarching trends in consumer behaviour. For example, large economic upheaval or changes in spending habits can have a significant impact on a company's growth.

Operational risks include:

• Outdated machinery: Relying on out-of-date or inefficient machinery for product production can negatively impact product flow and company output, resulting in customer dissatisfaction and the degradation of public opinion on the company. Not to mention, out-of-date equipment may pose a safety risk for employees!
  
  
• Ineffective payroll: Whilst it may be tempting to outsource payroll in order to save on company costs, companies run the risk of late payments, processing errors and salary discrepancies that may result in disgruntled employees. It is vital that organisations invest in efficient and accurate payroll systems in order to minimise operational risks.

When identifying risks, it may be helpful to:

• Conduct "What-if" scenario discussions: Brainstorming risk situations with your team in a Board meeting can allow you to develop solutions to potential risks before they reach crisis point. As well as allowing you to identify gaps in your strategy, these sessions will bring together Board members in a collaborative approach that prioritises Board diversity, revealing risks otherwise overlooked in areas of special expertise.
  
  
• Consult stakeholders: Take advantage of the diverse perspectives and insights of your stakeholders. This can again help you spot gaps you may have otherwise overlooked in your business and risk mitigation strategy. The more diverse the perspectives of your stakeholders, the more valuable their insights will be in identifying risk-vulnerable areas.

Understanding and effectively managing strategic risks is key to overall business success. Additionally, understanding the difference between strategic risks and other challenges, such as operational risks, can be beneficial in ensuring that your company reaches its full potential.

The four steps of strategic risk management include:

1. Identifying risks
2. Understanding their origins and possible impacts
3. Taking action to mitigate the said impact
4. Leverage the management of these risks into further opportunities

Leaders should seek to maximise business performance and overcome potential risks in strategy. Understanding the organisation's position on a market-wide level and a clear awareness of its strategic goals is critical to overcoming strategic risks, no matter their scope or focus area.

Risk management strategies include:

• Separate discussions of opportunities and risk: It may be helpful to create space in which business opportunities may be discussed without allocating time to their implied risks. That way, Board members will feel able to give in fully to their creative brainstorming power without the damper of risk. A separate risk assessment meeting will allow for a serious look at potential risks and an evaluation of their impact from an objective standpoint.
  
  
• Allocate resources on an operational level: Resources should be prioritised in line with company strategy and vision. Organisations should be certain to allocate resources to departments that contribute directly to strategic objectives, mitigating strategic risks.
  
  
• Equal incentive policies: Incentive structures should match the company vision and the overall strategic objective of the organisation. If a company fails to introduce an equitable incentive policy, it opens the door to internal conflicts and misalignment with strategy execution across the company.

Approaches to managing strategic risk include prioritising disruption of normalcy in favour of innovation. Companies should avoid complacent business strategies, as these allow them to run the risk of becoming irrelevant to their customer base and falling behind industry and technological trends. Organisations should also seek to avoid regulatory challenges, prioritising customer safety and ethical operations through effective strategic risk management.

Companies may measure strategic risk thorough:

Economic capital: This speaks to the equity needed to cover unforeseen capital losses based on desired debt rating for organisations. Organisations can anticipate the impact of foreseen risks, such as a new product launch or restructuring initiative, by consulting this tool.

Risk-Adjusted return on capital: This calculation determines how well an organisation, such as a bank or other financial institution, manages its capital. It allows companies to calculate the expected after-tax return on a project. In short, it is a measure of the return on an investment that takes potential economic risk into account. Effective organisations use this tool to guide their decision-making process.

Decision trees: Decision trees act as a visual aid for mapping possible outcomes of strategic decision-making. This allows companies to visualise and work through all of the implications of their decisions, anticipating both opportunities and risks.

A general framework for risk management is:

• Conduct a study of the organisation's strengths, weaknesses, opportunities and threats (SWOT) to determine its current position within the industry in regard to the market, customers, shareholders, community, employees and competition.
  
  
• Clearly lay out the organisation's strategic goals as well as the company vision
  
  
• Utilise KPIs to measure success and monitor the power of any changes within the company, identifying areas of strength and those that could be improved in regard to strategic risk
  
  
• Identify strategic risks to productivity and performance. Make use of your strategic risk management tools as well as the diverse backgrounds and perspectives of your Board members to evaluate the likelihood and power of these risks
  
  
• Assess the organisation's ability to withstand said risks and implement mitigating actions, seizing opportunities that bring the company closer to its organisational goals
  
  
• Monitor your progress and adjust your strategy as necessary, identifying gaps in company strategy, eliminating strategic risks and making use of opportunities arising from strategic awareness

Speaking on this topic, Steve Bowman, managing director at Conscious Governance, explains, "If we're truly going to be strategic, we need to understand that every choice that we make creates the future, whether it be a little choice, whether it be a bigger choice. [We have to have] an idea of the future that we're looking to create, the difference that we want to make. But how we get there is going to be a very circuitous route.” 

For Bowman, “There's no straight line as such because opportunities appear at every opening of the door. If we actually want to be strategic, then we need to understand the difference that we want to make, which typically is your vision statement or your purpose statement. 

Understand the difference we want to make to the communities that we serve and how we are going to get there in the next two or three years, which is pretty much what a strategic plan is.

Being strategic is always [about] both now and [looking] into the future; what are the implications for us? And, what do we need to put in place now, which would make sense if this were to occur in three or four or five years' time, so that  we're going to be in good shape no matter what happens? So always looking at it from that perspective, being strategic continuously rather than taking a particular episode and saying, 'Let's think strategically about this.'"

The reality is that strategic risk management is an ongoing process. An organisation that is truly committed to its long-term success must be constantly aware of its potential risks and work to mitigate said risks, seizing opportunities as they arise that bring its operations in line with its overarching goals. 

Risk management strategies and an in-depth understanding of where the company stands in relation to internal and external risk factors is key to enabling businesses to make effective decisions when it comes to practising strategic risk management.

Interested in learning more about risk management and strategic risk awareness? Visit here to read our expose with Bowman.

And, if you’re interested in trying out the only tool you need to effortlessly set agendas, create board packs, vote, take minutes, assign actions and store files, give BoardPro a go for free today!