Incorporating Risk Management into Corporate Governance

September 23, 2010 ERM Initiative Staff 2-min. read

The financial markets have experienced significant events in the first decade of the 21st century that have drastically altered corporate governance principles. Some of these major events include the “tech bubble” of the early 2000s, large corporate scandals such as Enron, and the recent financial crisis of 2008. Taking the impact of these events into consideration, the NYSE created the Commission on Corporate Governance to address issues impacting corporate governance. The commission’s first task was to perform a comprehensive review of corporate governance principles and provide recommendations for organizations to take into consideration with regards to their corporate governance structure.

This report, published by the Commission on Corporate Governance, notes the topic of risk management and corporate governance principles are strongly interrelated. An organization implements strategies in order to reach their goals. Each strategy has related risks that must be managed in order to meet these goals. Following strong corporate governance principles that focus on risk management allows organizations to reach their goals.

Below are descriptions of the roles of the board, management, and shareholders related to corporate governance with specific emphasis on risk management recommendations of the commission:

1. The board’s role should be to steer the corporation towards corporate governance policies that support long-term sustainable growth in shareholder value. The board should:

Eliminate policies that promote excessive risk-taking for the sake of short-term increases in stock price performance
Establish compensation plans that align goals to long-term value creation, taking into consideration incentive risks
Ensure that appropriate risk management systems are in place to avoid excessive risk taking

Be comprised of primarily independent, diverse members, which is helpful to access an organization’s risk profile

2. Management’s role is primary for creating an environment in which a culture of performance with integrity can flourish. Management should:

Set the “tone at the top”, specifically with regards to risk management
Establish and monitor processes and procedures for risk management and internal controls
Ensure risk processes and procedures are operated by competent personnel

Implement compensation plans that encourages disciplined and transparent risk taking

3. The role of shareholders is to vote from a long-term perspective as voting decisions influence corporate governance. Shareholders should:

Expect management and the board to integrate corporate governance with an organization’s strategy, taking into consideration related risks
Demand management and the board to be transparent about risks