Who Can Afford Not to Have an ERM Program?

Many people in the corporate world routinely argue that Enterprise Risk Management is simply a cost that few companies can afford to implement. However, time and again, it seems as though exactly the opposite is true. Companies can't afford not having a robust ERM program. In reading today's Wall Street Journal, one might find the following story on the off-shore oil drilling disaster to be eerily similar to the recent financial crisis. To make the case, financial terms have been included in parentheses to illustrate the point.

Without adequately planning for trouble, the oil business (financial services industry) has focused on developing experimental equipment (complex derivatives) and techniques (synthetic asset backed securities) to drill (operate) in ever deeper waters (more opaque markets), according to a Wall Street Journal examination of previous deepwater accidents (financial meltdowns). As drillers (bankers) pushed the boundaries, regulators didn't always mandate preparation for disaster recovery or perform independent monitoring.

The Minerals Management Service (Federal Reserve, OCC, OTS, FDIC, etc.), the government agency that oversees offshore drilling (financial services), in recent years moved away from requiring specific safety measures (capital requirements) in offshore drilling (trading activities) and instead set broad performance goals (guidance for internal risk modeling) that it was up to the industry to meet. In joint MMS-Coast Guard (Federal Reserve, OCC, OTS, FDIC, etc.) hearings into the Deepwater Horizon accident (Bear Stearns, Lehman Brothers, AIG insolvency), Michael Saucier, an MMS official, testified that the agency "highly encouraged," but didn't require, companies to have back-up systems (specified risk limits) to trigger blowout preventers (increases in capital) in case of an emergency.

While there are many estimates of the cost to British Petroleum to deal with the Deepwater Horizon oil spill, the minimum consensus estimate right now is around $12-13 billion. Add to that estimate the recent market capitalization loss of nearly $50 billion and the case for having a robust ERM program seems fairly straightforward.