EnterpriseRisk Budgeting

EnterpriseRisk Budgeting

Thearticle presents a system of integrating risk management into thestrategic planning processes. The technique of enterprise riskmanagement delegates for constant valuation of organizationalprojected financial position with respect to risk profile to assistin decision-making. The ease brought by the appraisal raises thecapacity of financial officers to make thorough and practical choiceswith regards to the firm’s risk profile. On the other hand, theauthors are against the routine where managers only think ofresponding to challenges after they have occurred (Alviniussen &ampJankensgard, 2009). As a result, every company is expected to takeproactive approaches as a way of ensuring the success of EnterpriseRisk Budgeting.

In-depthInto Enterprise Risk Management

Ina formal business environment, the adoption of enterprise riskmanagement guarantees that the financial officer has avoided therisky impacts that can come about in business. Similarly, it ensuresthat an organization manages every form of possibility in anindependent way. The implication is that each department must beresponsible for specific roles that may put the business operationsin danger. In this view, the authors purport that ERM is an importantphase of an enterprise because it allows the executives to measureand manage risks based on separate cases. In addition, they arguethat both the risk and the projected results should be weighedagainst the possible profits (Makomaski, 2008). Through this, therisk portfolio, which influences the procedures of ERM, enablessenior managers to calculate interrelationships between the levels ofrisk exposure. This stage is crucial because the ensuing informationcan be used in the development of risk mitigation tactics. Moreover,ERM can lead to the growth of investor shares because it improves themanner by which a business handles risks and opportunities. If aventure succeeds in the seclusion of risks and breakthroughs, itgains a better position of making choices regarding the risks that itcan accommodate and those that it needs to do away with (Alviniussen&amp Jankensgard, 2009).

EnterpriseRisk Budgeting

Asmentioned, the authors point to the fact that ER-B is the valuableuse of measurable risk modeling in an organization`s corporate-levelbusiness planning process. The key importance, as brought out, isthat it enables transparency on the subject of how trade policieshave an effect on the future financial events. It is at this stagethat an enterprise is expected to use the application of Monte Carlosimulation method in the creation of an awareness of how unsafe thecompany’s industry is in a more general sense. This calls forfinancial officers to consider the collective effect of the projectedrisks on cash flow. In this perspective, the approximations ofimpacts in the ERM process are the determinants of how cash can bedistributed for the operations of a future-oriented business(Alviniussen &amp Jankensgard, 2009). Nonetheless, for anynon-financial sector, it is important to take into consideration theamount of debt that can be used to reduce the bridge between outflowsand entries. In other words, a short-term cash deficit does notessentially imply that the company’s resources are diminished sinceits long-run projections may be feasible. Therefore, the authorsbelieve that risk capacity is a rational model than fiscal capital(Razali &amp Tahir, 2011).

Thewriters hold the notion that most industrialized companies experienceconstant changes in policies due to the shifts in the businessenvironment, and this makes it inevitable for them to have apractical framework that can give results (Yazid &amp Hussin, 2012). Furthermore, the fact that some companies have the obligation tosatisfy the ratios contained in loan bargains reduces their chancesof evading risks. The result is that the management is forced to bemore effective in framing and theorizing the risk profile of thebusiness. More importantly, involves thenumerical description of the trade-offs between rewards and costslinked to a particular risk profile. It is from the basis ofeffectual ER-B that ventures consider it necessary to havequantifiable assessments in a firm’s cash flow (Alviniussen &ampJankensgard, 2009).

Movingon, the authors view ER-B as a reaction to various advancements in afinancial model that influences how an organization can implement itsrisk management strategy. However, they fail to give an insight ofhow the current portfolio principle can be gauged and handed on acollective basis. Nonetheless, they purport that risk of a case mustalways be weighed against the prospective rewards. In addition, thereis the intuition from the economic academics that fiscal pressuresbring about multiple costly consequences. The implication is thatevery yield from a risk management effort originates from theavoidance of such costs. In this view, the authors consider portfoliotheory as the logical basis for Enterprise Risk Management. Theyemphasize that it is the general risk of resources that matters tothe owners. The various prices within a portfolio are interdependent,and this kind of relationship lowers the impact of the whole risk(Alviniussen &amp Jankensgard, 2009). However, what they neglect tonote is that financial modeling at the stakeholder level makes thebusiness risk initiatives a futile exercise.

ManagerialChallenge

Thearticle brings out another concept referred to as the managerialchallenge. It is explained as a way of positioning an organization onthe track so that it can adopt ER-B. Before this can be achieved, itis significant for an organization to consider the type of assets aswell as the managerial commitment that can assist in such an attempt.However, of great importance is that the administrative involvementis obligatory in establishing the framework required to devise ER-B.Introducing ER-B in an organization necessitates clarity regardingthe contributions of the firm’s financial targets and industrymodel for ease in understanding of the total risks and risk capacity.Unfortunately, this causes failure regarding how to realize that someinstances are more expected to take place than others. Simulationmethodology gives a firm an opportunity to manage various incidentsbased on the probability of their rates. The most significant featureof the approach in risk management initiatives is that it extends tothe establishment of a more dynamic model of financial system(Alviniussen &amp Jankensgard, 2009). The rewards, when documentedin a financial report, are useful in the calculation of risk eventsand help in interpreting the firm’s risk profile.

Eventhough the authors discuss various challenges that a firm stands achance of being involved with when it abandons the Silo-Approach andassumes ER-B, they are not exhaustive in their illustrations of themain issues with the use of Norsk Hydro ASA’s case. The events inthis company show the level of attention that the management gives tothe future possibilities and the ensuing impact of suchresponsiveness. The objective is to develop more precise proofsregarding the dangers that the business is exposed to. Of keyimportance is that the case creates a rational and shared way ofdeliberating issues that result to risks. Therefore, through the useof simulations, a company can assess how different economic variablesbehave in various scenarios, as well as their way of interaction withany industry risk portfolio. All these enable the generation of acompany’s risk profile (Alviniussen &amp Jankensgard, 2009). However, a business needs to gauge and handle total risk through theprocess of risk optimization, which has evolved as a way of riskintervention. The risk model in Hydro comprises risk measures ofvarious dimensions. However, the authors needed to have emphasizedon the fact that the model targets other factors related to NetIncome risks and the probability of financing needs. This could havemade it easy to create a broad perspective regarding the currentposition of the company in terms of the risk landscape. Besides,various measures of risk involve the grouping of variables. As aresult, the risk models can report the likelihood that a substantialfunding has been encountered. A high possibility of such situationsindicates that the company’s risk level has been low, whichnecessitates rapid executive attention (Shenkir &amp Walker, 2006).

Ina situation where total risk has the power to influence variouscorporate plans, the authors recommend that a company needs to hedgeor transfer the risk in a more general way. Hedging is considered asa tool lowering of a firm’s exposure to a particular risk or as amethod of maintaining a particular profit margin. Due to dynamism inits application, hedging provides rewards to ensure the success ofvarious cash agreements at the industry level. It helps inmaneuvering the dangers posed by debt obligations and investmentexpenditures, in an instance of an economic downturn. In generalterms, a hedge raises a company’s risk responsiveness if thereturns increase the company’s solvency. The effect is morepronounced in a scenario where the business’s internally createdcash flows are projected to go down past the cash agreement andanticipated investments (Shenkir &amp Walker, 2006). In thisperspective, the authors believe that a change in a corporation’srisk profile, as a result of a multidimensional hedge, is achallenging decision that has various potential costs. However,hedging, by the means of forward contracts, involves disregardingadverse perspectives that may make investors develop negativeopinions. If a business ends up hedging through opportunities, itmisappropriates cash on option dividends which could have assisted inother aspects including investment. As a consequence, a hedgenecessitates the existence of accounts for both internal and externalassessments because margin calls that dominate hedging make wealthplanning more challenging and may cause disrupting effects(Alviniussen &amp Jankensgard, 2009).

FXrisk management

Theauthors have exhausted the theme that has been of the main focus ininvestments, which is FX risk management. Evidently, the availabilityof funds has a significant impact on the strategic ratios, as well asin other activity matrices. For the case of Hydro, the writersexplain that the expected consequences of change in exchange rateshave been incorporated into the risk model. Through this, every formof input used in the model including sales, depreciation, costs,derivatives, debt, capital expenditure, receivables, and payables,are shared in local currency. The primary factor in Hydro’s generalexchange rates is the array of practices in its financial positionsincluding barters and debts (Shenkir &amp Walker, 2006).

PersonalPerspective

Whilethe authors base their position on the overall effect of riskportfolio on a firm’s net income, they needed to have consideredthe fact that the forecasting can be challenging as a result of manylegal policies in a currency regime. Through their outlook, there areadverse effects of FX risk management that can influence the internalactivities of an organization, particularly when a parent companyborrows from or loans a subordinate. The internal investmentactivities have great impact on receivables or payables and can leadto failures in FX risk management. This can interfere with theoperations of external accounts. The recording and reporting of suchencounters need to take place when there is high level of loaning orborrowing. Nonetheless, the authors needed to establish how financialmodels keep track of investment relationships. This can bring easefor the evaluation of the precise sensitivity of the currency in ajoint company’s net income (Shenkir &amp Walker, 2006).

Theauthors are right to suggest that enterprise risk management is afirm’s way of doing an inclusive mapping of risk exposure levels.However, there are other better strategies, such as franchising andcreating mergers, which can be used to evade the old-styleSilo-technique to risk management. Even these other formulas allow acompany to manage every risk category on an individual basis.Regardless of its potential rewards, ERM cannot help in handling someaspects associated with a business’s total risk. This is the casebecause total risk includes circumstances of ultimate economicdistress, which calls for more informed practices to managing therisks. Therefore, it is recommended that that ERM must come in handwith a highly measurable risk modeling strategy, which can help incountering challenges related to total risk. It should go beyond whatthe authors consider as enterprise risk budgeting since ER-B is theadoption of quantitative risk modeling in an organization`scorporate-level economic planning process (Shenkir &amp Walker,2006).

Conclusion

Conclusively,enterprise risk management allows the management to assess thecompany`s industry and the expected cash flows. It helps financialofficers to evaluate then approximate the firm’s risk level. In amore strategic level, enterprise risk management comprises aquantitative description of the trade-offs between the rewards andcosts related to a particular risk profile (Shenkir &amp Walker,2006). It is at this point that a business adopts the system of riskoptimization. Furthermore, the advantage of being aware of riskcapacity is that it allows a venture to make profits since it reducesthe organization’s total risk. The lessening of total risks isneeded as its growth may interfere with equity and lead to excesscash, which are costly matters. In this perspective, hedging isregarded as a critical activity so long as there are costs andbenefits of sustaining a particular risk profile. In such a scenario,an ER-B business planning model allows a constant re-evaluation ofthe projected financial position or a company’s risk profile. Thistranslates to the inclusion of a pro-active and continuous financialforecasting process to avail response on how there can be changes asa result of a planned policy amendment. The adoption of ER-B makes itpossible for a company to incorporate risk management principles in amore formal way into the economic planning process. More Importantly,ER-B assists in countering the common business challenges such ascorporate performance forecasting and expense management (Shenkir &ampWalker, 2006).

References

Alviniussen,A., &amp Jankensgard, H. (2009). Enterprise risk budgeting: bringingrisk management into the financial planning process. Journalof Applied Finance (Formerly Financial Practice and Education),19(1&amp2).

Makomaski,J. (2008). So what exactly is ERM?. RiskManagement,55(4),80.

Razali,A. R., &amp Tahir, I. M. (2011). Review of the literature onenterprise risk management. Businessmanagement dynamics,1(5),8-16.

Shenkir,W. G., &amp Walker, P. L. (2006). Enterprise risk management:Frameworks, elements, and integration. Instituteof Management Accountant.

Yazid,A. S., &amp Hussin, M. R. (2012). Determinants of enterprise riskmanagement (ERM): A proposed framework for Malaysian public listedcompanies. InternationalBusiness Research,5(1),80.