Business Environment Changes Overview

Changes in Business Environment

• Internal Triggers: High customer churn, unexpected revenue increase, organizational restructuring need attention.
• External Triggers: Changes in regulations, technological advancements, and competitive actions influence business strategies.
• Significant Incidents: Cyber thefts, terrorist events, and major IT failures can severely affect operations.
• Operational Risk Reviews: Routine evaluations (quarterly, semi-annual, yearly) of operational risks are critical for business continuity.

Risk Identification Process

• Definition: Identifying operational risks linked to specific business triggers is foundational.
• Product Development: Assessing risks for new insurance products, including outsourcing decisions, is essential.
• Risk Register: Firms often document risks in structured formats, such as risk registers or libraries, for easy reference.
• Verification: Continuous verification of the presence of identified risks is necessary.

Risk Assessment

• Analysis: Examination of risk causes, impacts, loss events, and controls helps gauge risk levels.
• Key Measures: Likelihood of occurrence, financial impact, and reputational risks are assessed to determine overall exposure.

Risk Monitoring and Reporting

• Reporting Outcomes: Nach decisions on risk responses, communicating findings to stakeholders (CEO, board members, etc.) is vital.
• Monitoring Changes: Active surveillance of risks is required to detect changes early and facilitate timely remediation.
• Control Management: Continual evaluation of existing controls ensures effectiveness in managing identified risks.

Governance of Operational Risk

• Governance Structure: A well-defined governance pathway exists, stemming from the governing body, through risk committees, to operational risk entities.
• Chief Risk Officer (CRO): An appointed CRO typically reports to the CEO or risk committees, overseeing the operational risk function.

Lines of Defence

• First Line: Business line managers and staff are responsible for directly managing operational risks and aligning them with risk appetite.
• Responsibilities: They are tasked with integrating risk management into everyday decisions and maintaining an effective control environment.
• Risk Culture: Establishing a robust risk culture that incorporates ethical guidelines is crucial for effective operational risk management.

Importance of Risk Culture

• Organizational Values: Leadership should instill a culture that values risk awareness and accountability in decision-making processes.
• The 'Use Test' Concept: Models and processes should be actively used and monitored daily, rather than only for compliance purposes.
• Evidence of Integration: Regular documentation and meeting minutes should reflect a commitment to operational risk considerations in business decisions.

Evaluation of Risk Management Policies

• Review Practices: Regular assessments of operational risk management policies can reveal areas for improvement.
• Recommendations: Changes to policies should be based on identified gaps or emerging risks to strengthen overall risk governance.

Operational Risk Management Framework

• Important indicators contribute to a firm’s risk reporting structure.
• Operational risk exposure can manifest as actual loss events, with financial and non-financial impacts.
• Near misses avoid adverse impacts through effective controls, preventing actual losses.
• Events can lead to the establishment or enhancement of operational risk management functions.
• Loss events generate data useful for testing forward-looking tools such as Risk and Control Self-Assessment (RCSA) and scenario analysis.

Scenario Analysis

• Focuses on identifying severe but plausible exposures that could result in significant losses.
• In-depth discussion on scenario analysis provided in later chapters.

Operational Risk Modelling

• Various methods exist to measure operational risk, ranging from expert opinions to advanced statistical techniques.
• Common applications include estimating regulatory capital requirements under Basel II Advanced Measurement Approach (AMA) and Solvency II for insurance firms.

Basic Risk Management Process

• Should integrate into key firm activities, such as decision-making, product development, and business processes.
• Can be executed at regular intervals (e.g., quarterly, yearly).
• Triggered by business needs, e.g., new IT systems, outsourcing decisions, entering foreign markets, and strategic planning.

Relationship Between Operational Risk and Other Risk Types

• Firms may manage risks under an integrated framework known as Enterprise Risk Management (ERM).
• Recognizes the interconnection between different risks, advocating for a consistent management approach.
• Operational risk managers must navigate boundaries between risk types in daily operations.
• Situations may arise that fall outside established definitions, requiring resolution and justification across disciplines.
• Examples of boundaries:
  • Credit Risk: Considered part of operational risk when linked to issues like fraud, procedural failures, and inadequate models.
  • Market Risk: Relevant to operational risk if stemming from transactional errors, fraud, or collateral inadequacies.

Explore the dynamic factors affecting the internal and external business environments. This quiz covers topics such as customer churn, revenue fluctuations, regulatory changes, and significant incidents impacting organizations. Assess your understanding of these critical elements that shape operational risk management.