Ticking the right boxes – ERM and how the board can help

Are companies ensuring they benefit from the work involved in implementing Solvency II?  Are they building a long-term value proposition based on the huge effort that is being expended on being compliant asks Rory O’Brien.

Time and time again since Solvency II entered the consciousness of insurers across Europe I have read, and argued vehemently myself, that the Directive is not just about a capital calculation but an attempt to compel insurers to consider enterprise risk management (ERM) as a natural element of doing business..

Encouragingly, an increasing number of companies are beginning to embrace the fact that managing risk more effectively may actually benefit them and are pushing on with enthusiastic implementation. But for others one detects that Solvency II is still seen as a burden – a heavy and seemingly irrelevant bureaucratic requirement that further stretches already thinly-stretched  resources and finances.

If there is one common characteristic that I have observed about this second group, it is that implementation is not being run by the board but tends to be the responsibility of actuaries, accountants and risk officers. Regardless of how good a job these people may be doing on the technical requirements, Solvency II is not high enough on the strategic agenda as a consequence. 

A symptom of this ‘hands off’ approach from the board is that too many people in the organisation see it as a low priority, or certainly a low priority in comparison to coming up with some acceptable capital figure, a set of guidelines or well balanced and appropriately reconciled set of GAAP accounts.  I do not point the finger of blame at these mortals – given the responsibility, authority and priority that they have been given they are doing what they can, but without the active and visible support of the board these exercises are just another part of their already busy day jobs.

I am sorry, but the blame lies with the board and as the regulations point out their responsibilities cannot be delegated.  My challenge to these sceptical ostrich-impersonating boards is to ask themselves what business are they in. Calculated risk taking!! Therefore risk management is integral to what they do and manage and Solvency II is just a framework for them to implement a more effective ERM solution.  Thought has to be given to the bigger picture.

With the right support from the board the picture will look like  one where, whether by desire or fear, risk management has risen up the importance scale. It is also one where technical departments are encouraged and empowered  to take a more commercial view of risk and where companies’ stakeholders will expect them to have a better capability for identifying all the risks to which they are exposed, including operational, people and reputational.  Ironically, like boats rising on a common tide, the board may find themselves in a better position to manage and understand the business and perhaps even take a common view on such trivia as what are the top 10 risks that their business faces. 

In the same way that costly root canal surgery is a means to an end, Solvency II provides a way for companies to progress to managing risk as an integral, but not dominant, part of their business.

As in so many regulatory driven initiatives consultants are being called in. Not since Year 2K have consultants been so in demand in the insurance sector. The combination of technical complexity, tight timeframes and mountains of requirements is the perfect storm for consultancy demand.

Consultants are required but there are many pitfalls here, particularly if they operate as substitute employees, are isolated from the business and detached from permanent staff. Generally we are a professional, highly competent lot and we’re used to managing ourselves. It’s easy to let us get on with the implementation project while your staff concentrate on running the business; the ‘day job’. 

However, as ERM needs to be embedded in the fabric of the business and not stuck on a like an appendage, there is a need to actively plan and manage how you use your advisors.

Use consultants by all means. (Please do!). But ensure they leave an indelible mark of knowledge transfer to improve skills and processes going forward. My recommendations for using consultants are:   

• Choose the ones who have previously supplied the type of support you require; you should not be their training ground
• Use consultants to supplement your team and make them accountable as part of your team
• Clearly define what you want from them and the timescale
• Look to recruit (for the long-term)
• Ensure that the in-house team is learning (quickly)

It is inevitable that risk management will continue to evolve. We are already on Basel III, and surely there will be Solvency III, IV and V, and no doubt we will get to intergalactic GAAP.

The important battleground is not the regulatory framework but what happens in your business. Is it changing to be a risk management-oriented professional business where risk is an integral part but doesn’t dominate?

If board members want to see some return from their investment of time and money into Solvency II compliance, they need to align all their resources, both employees and external consultants, behind a longer-term approach to managing business risks better.

That’ll get the tick in the box. 

Rory O’Brien is managing partner of EMB, the actuarial and business consultancy.