“Strategic risks are determined by board decisions about the objectives and direction of the organization. Board strategic planning and decision-making processes, therefore, must be thorough.”
Strategic risks are often risks that organizations may have to take in order (certainly) to expand, and even to continue in the long term. For example, the risks connected with developing a new product may be very significant – the technology may be uncertain, and the competition facing the organization may severely limit sales. However, the alternative strategy may be to persist with products in mature markets, the sales of which are static and ultimately likely to decline. An organization may accept other strategic risks in the short term, but take action to reduce or eliminate those risks over a longer timeframe. A good example of this sort of risk is the recent Federal Court case that sought to eliminate the use of Round-Up Ready Sugar Beet Seed which would cause a severe reduction in the world supply of seed used by a Sugar Company in its production process. The board may wish to accept this risk on the short term together with plans to replace the type of seed over the long haul.
Ultimately, some risks should be avoided and some business opportunities should not be accepted, either because the possible impacts are too great (threats to physical safety, for example) or because the probability of success is so low that the returns offered are insufficient to warrant taking the risk. Directors make what are known as ‘go errors’ when they unwisely pursue opportunities, risks materialize, and losses exceed returns.
However, directors also need to be aware of the potentially serious consequences of ‘stop errors’ – not taking opportunities that should have been pursued. A competitor may take up these opportunities, and the profits made could boost its business. (An example of this is when in competition for an acquisition, failure to factor in the potential of a key competitor making the acquisition and gaining a foothold in the market place.)
Many Boards erroneously accept a risk management process that stops short of challenging strategy by identifying and measuring risk imbedded in the direction of the Company. Current Enterprise Risk management (ERM) thinking often fails to be inclusive of a rich process for reviewing strategy. Some risk must be taken to advance the company and the process of evaluation must be broad enough to discover both the potential for profit as well as loss.
Submitted by: Dave Waldo, President & CEO