Hurricane Risk

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THE

STRATEGY

EXECUTION

SOURCE
Article Reprint No. B0911A

Risk Management and the
Strategy Execution System
By Robert S. Kaplan

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BALANCE
ON

Risk Management and the
Strategy Execution System
By Robert S. Kaplan

Besides rethinking strategy, perhaps nothing has preoccupied business leaders these past months more than their failures
in risk management. In this ambit, Robert Kaplan explores
how risk management can be better integrated into strategy
execution. An analysis of risk management—its history and
mainstream approaches—and of resulting market failures
leads him to conclude that risk management should be viewed
as a third leg of shareholder value creation, along with revenue growth and productivity. Here, Kaplan introduces two important concepts: a three-level hierarchy of risk; and the risk indicator scorecard, a parallel to the strategy scorecard that he and David Norton conceived nearly two decades ago.

The financial crisis that erupted in
2007 revealed a major gap in the
management systems of companies, especially those in the financial sector. Companies’ management systems were focused on shareholder value, revenue
growth, productivity, cost control,
and quality. But few explicitly
incorporated risk. At recent speaking events, I have been asked whether using the Balanced
Scorecard would have helped the
failed companies avoid the catastrophe they inflicted on shareholders, creditors, and the world economy. I usually respond by
articulating the hope that adopting the BSC, whose underlying philosophy entails seeking a balance between achieving shortand long-term strategic objectives, would have mitigated some of the
excessive risk taking that the
failed companies pursued for
short-term financial gain. But, candidly, the measurement, mitigation, and management of risk have not been strongly featured in
David Norton’s and my work.1 So
the events of recent years have
forced us to think more deeply
about how to incorporate risk
management into our strategy
execution framework.

Risk management is not new.
People have been studying risk
and its mitigation for centuries.2
International regulations, such as
the Basel I and Basel II rules,
have institutionalized risk management for banks.3 Actuarial societies and COSO (the Committee of Sponsoring Organizations of
the Treadway Commission) have
formalized a new discipline of
enterprise risk management (ERM)
and promulgated standards for
implementing it. Many companies
established risk management
departments led by a C-level chief
risk officer to comply with these
and other regulations (such as
Sarbanes-Oxley) as well as to help
the enterprise manage its risk
exposure. Risk professionals have
their own organizations (the
Global Association of Risk
Professionals, the Risk
Management Association), certification examinations, and a rich array of sophisticated risk modeling processes at their disposal. Yet despite risk management’s extensive history, sophisticated models of risk exposure, and a large population of risk management professionals, many companies affected by the crisis failed because of their excessive exposure

Copyright © 2009 by Harvard Business School Publishing Corporation. All rights reserved.

to risk. Apparently, all were doing
their jobs, and yet the system
failed. Many interrelated factors
contributed to the failures,4 but
two in particular stand out:
companies’ failure to explicitly
account for risk when formulating
their strategies, and their failure
to monitor and manage the...
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