It's all in the risk

As events of the past few years have shown, managing risks efficiently can make or break a lot more than just your business. Thankfully, Ernst & Young have done their homework to ensure you stay ahead of the pack when it comes to identifying them.

In the business world of 2010, where conditions are relentless and life-changing decisions remain a regular occurrence, companies are having to adjust and adapt to a new set of rules brought about by a post-downturn economy. What used to be a healthy respect for risk management has morphed into an alliterated battleground of predictions, projections and paranoia. For the businesses of today, an ability to anticipate threats, respond and continually adapt is more critical now than it ever has been.

With a plethora of companies, consultants and third parties scouting the horizon for new and potential risks to their respective businesses, wires inevitably become crossed. Fortunately, in an attempt to untangle those wires and provide some clarity to the often subjective arena of business risks, Ernst & Young have released their third report, Business Risk 2010, which explores the global top 10 risks facing businesses that have emerged from their study this year.

As per their previous report, they have taken a 'bottom up' approach by gathering information from over 70 industry executives and analysts representing 14 industry sectors. The risks themselves were selected based on how frequently their sector groups and analysts brought them into the limelight. Included within the panel was a plethora of knowledge spanning from CEOs to journalists, directors to academics. All that was left after the results came in for the bright minds at Ernst & Young was to aggregate the results worldwide and across each sector, leaving them with a 'top 10' for the global business market.

Returning to reclaim the top spot for this year, and up one place from the 2009 report, was 'regulation and compliance'. With its fingers in the pies of oil and gas, real estate, life sciences and telecoms, results also pointed to the automotive and power and utilities sectors. However, the sector that noted the biggest risk was financial services, where the risk of encroaching regulation is still growing with severe worries regarding the poorly designed regulatory response to the credit crisis. Worldwide governmental coordination, according to Ernst & Young, has the potential to fall by the wayside, increasing the risk of uncoordinated and conflicting new regulation. Off the back off this, experts expressed a concern that this could result in an over-regulated sector and greater protectionism - preventing global firms from effectively operating across borders.

"Companies can take a number of steps to respond to this risk," advise Ernst & Young. "First among these is planning ahead and preparing for expected changes in regulation now, rather than waiting for regulations to be imposed. Trying to respond to new regulatory standards in a short space of time can be difficult, especially in a climate where forbearance may be scarce."

Backing this notion, David Scott, Senior Manager for Financial Services Risk Management at Ernst & Young, noted: "Over the next 12 months, the most sweeping set of financial regulatory reforms in a generation will gain considerable momentum. While policy questions remain open, it is clear that the implementation by national regulators of the ambitious and far-reaching agenda set out by the G20 and the Basel Committee will permanently change the way global banks do business. The consequences of these reforms raise key business risks for the banking sector, including general business issues, technology and operations, and balance sheets and funding."

Last year's top prize went to 'access to credit', which fell to second place this year as the credit crunch recedes on the back of unprecedented government bailouts and stimulus packages. Several experts were specifically noted as expressing a confidence that the recovery in global credit markets would last, with a professor of finance contending that the "[credit crunch] risk is receding or past and risk appetite has returned very quickly". However, it wasn't smiles all round as other executives in the financial sector were far more concerned about the undercover credit crunch aftershocks and unrevealed losses.

Fighting the corner of shut-out real estate organisations, Mark Grinis, Leader of the Real Estate Distress Services Group for Ernst & Young, noted that credit access is still a pertinent concern for the industry. "While an extension or restructuring might solve the immediate problem of maintaining credit access, organisations must also be concerned with broader strategic questions: how to grow and preserve capital, control costs and achieve long-term growth. This, in turn, will require them to re-evaluate their risk management, focus on keeping quality tenants and determine whether assets can meet cash flow expectations," he said.

Grinis further concluded that the immediate fear for many real estate investment organisations is how to best preserve capital to hunker-down for the continuing downturn in real estate, with longer-term challenges pertaining to seizing future growth opportunities and the building of a sustainable organisation - a worry for many sat outside the realms of real estate too.

Taking the bronze in 2010's top 10 was the potential of a double-dip recession and whether or not we face a "false dawn" with the economy regressing back to low growth once the crutches of stimulus packages are withdrawn. With the fallout from Greece, problems in the Eurozone and concerns about sovereign debt opening up real possibilities of a second round of frowns and downs, one panellist pointed out that "the financial part of the crisis is now largely abating, making way for the fiscal part of the crisis. Now, potential sovereign defaults have huge implications for the economy and there is a real worry that bailout packages simply postpone long-term problems."

If we are unfortunate enough to witness a second recession, governments may struggle to track down sufficient resources to reignite stimulus packages - and even if no further cuts are observed in public expenditure or tax cuts, the worry remains that unemployment and company failures will continue to increase throughout the year. "Although this is a macro risk, companies can still try to mitigate it by ensuring strong risk management control and a proactive approach," advised Ernst & Young in the report.

Rising from number seven in 2009, 'managing talent' clocked in at a rather surprising fourth this year, with the report concluding that: "companies are concerned not only about the search or 'war' for global talent, but also about retaining much-needed talent. In addition, compensation issues in the financial sector remain unresolved and continue to attract public criticism". Perhaps less surprising is the fact that baby boomers' retirement is now posing the most worrying threat to skill sets in the labour force.

To readdress the balance, Nigel Lucas, consultant the Power and Utilities industry, outlined what he considered to be some of the biggest routes to saving an industry's workforce. Included in his suggestions were the need to attract and train new graduates that meet today's industry demands, followed closely by the call to retain the best scientists and technologists by creating attractive working environments and conditions - and providing solid opportunities for re-skilling the existing workforce and encourage companies to enhance in-house training.

The highest new entry to the report, 'emerging markets' rose from being an under-the-radar concern in 2009 to taking fifth place in 2010 - which is of little surprise considering that they've been driving the global economy and provoking various debates around their economic volatility and political risks. According to the report, succeeding in these markets has become a "strategic imperative" for businesses around the globe as they appear more stable than developed markets - but warnings were issued to remain vigilant.

"Political risks were not totally absent from this year's interviews. Some executives worried that a backlash against globalisation could prove to be a slow-burning phenomenon and that trade barriers could rise to imperil globalisation strategies," cautioned Ernst & Young. "But overall, the concerns that compelled the rise of this risk from 12^th in 2009 to fifth in 2010 were strategic. These concerns include the impact on developed markets of the emerging markets' rise."

Biting at the heels of emerging markets - and retaining its position at sixth for the second year running - was the challenge of cost control. However, where last year's experts were more worried about cost control to maintain financial health during the downturn, this year's analysts were fixated on issues surrounding commodity price inflation and pressure from low-cost competitors. Other executives sounded warnings about over-zealous cost control - a theme that has also emerged in previous years. In particular, media buffs were apprehensive that efforts to reduce the cost of content could lead to diminished content quality and loss of customers.

For all the worry emanating from developed companies, Jonathan Reynolds, Academic Director of the Oxford Institute of Retail Management, made it clear that large percentage increases in wages at leading Chinese electronic suppliers and other Asian contributions could play a role in developing markets too. "Rising inflation and labour costs in Asian markets in particular will materially affect the viability of certain markets," he confirmed. Cost control was also a theme in the public sector, with Geoffrey Fitchew, Chairman of the Insolvency Practices Council, transparently noting: "The UK government will find itself between a rock and a hard place in doing enough to satisfy investors in gilts and sterling that they have a convincing plan to reduce the public sector deficit, while at the same time supporting the recovery of the economy."

Seventh and eighth positions housed the biggest fallers from the 2009 report, with non-traditional entrants and radical greening taking their new entries respectively. The fall for non-traditional entrants was caused by both cyclical and structural trends, with cyclical trends alluding to the fact that the financial crisis has increased risk aversion and made it harder to raise capital. In turn, this has weakened emerging firms looking to expand on the back of high leverage, resulting in a sense of complacency that provoked its fall in the report. On the structural side, Ernst & Young reported that with the passage of time, many "non-traditional entrants" have become leading players in their sectors and are less concerned about the competitive threat from other rising firms.

Radical greening - environmental regulation, consumer demands and strategic responses - remains a long-term issue across the majority of sectors, but with the more pressing issue of the current economic climate still on the prowl, environmental worries have been quashed somewhat, releasing it from the clutches of last year's top five. According to the report, "with the public's increasing awareness of climate change, companies must invest resources in developing effective business plans to maintain their corporate image and lessen environmental impacts by becoming more sustainable. Moreover, in a world where there has not yet been coordinated global political action and there remains little hope of it in the near future, it will be up to the private sector to innovate and find ways in which to work with the public to reduce environmental impacts."

Bringing up the rear in ninth is a new risk for 2010 in the form of "social acceptance risk and corporate social responsibility (CSR)". It encompasses a wide range of issues in the public eye, from the reputation of banks and asset managers, transparency and accountability in government and the public acceptance of technologies such as nuclear generation. The Gulf of Mexico fiasco was a prime example of this type of risk, with David Harrison, Global Oil and Gas Centre Markets Director for Ernst & Young, stating that: "Wherever the industry operates, all stakeholders will now want to be reassured that the potential for a recurrence has been absolutely minimised and that, if a leak was to occur, it could be stopped and cleaned up within a shorter period of time."

Continuing its fall from 2008 and 2009 entries - mainly down to the dramatic decline in merger and acquisition activity - "executing alliances and transactions" squeezed itself in at number 10. With rescue mergers remaining a hot topic this year, Ernst & Young reported that firms in sectors hard-hit by the credit crunch are often forced to conduct due diligence after the fact, following rapid mergers. However, a new issue for 2010 is the potential difficulty of managing transactions that could be triggered by regulatory responses to the financial crisis.

As David Scott, banking sector leader for Ernst & Young, commented: "Looking forward, regulatory agendas may force firms to spin off derivatives operations to subsidiaries. This will require robust change management." The report also spoke to other banking sector executives, who noted the regulatory challenge to integrated investment banking and possible forced reductions in bank size or "dividing lines between different types of banking activity."

Ultimately, in a global business market that considers every movement in every feasible tense - from the past and historical to future and predictive - one thing will always reign true: risk is inevitable. It carves opportunity and challenges complacency. And like it or lump it, it's what makes business, business.

Top five 'below the radar' risks

With forecasting the name of the game, Ernst & Young's research panel also identified the top five risks sitting 'below the radar' that may come into play in future years.

1. Inability to innovate: As technology becomes more important in products and business models, businesses will need to keep up the pace to ensure their innovations don't stagnate. The life sciences sector will also need to ensure a defined path through R&D and open collaboration once patents run out on blockbuster drugs.
2. Maintaining infrastructure: For many sectors, higher costs of capital and the dire state of public finances are becoming bigger sources of concern. In addition, many tremendous infrastructure upgrades are already being called for to meet environmental and technological challenges.
3. Emerging technologies: Creeping its way towards the top 10, variations on the theme ranged from risks posed by high-frequency financial trading to managing social media effectively in consumer products.
4. Taxation risk: The threat of substantial increases in taxation in coming years poses a very real risk already, with the size of public sector cuts required unlikely to be achievable without cuts in major 'front-line' services.
5. Pricing pressures: This comes down to a concoction of reasons that sit in the top 10. Coupled with this, companies have already started to feel the pressure to reduce costs and optimise their pricing strategies.