Dialogue: Risk: a vital ingredient to good business

It's no use shackling business with all the consequences of failure if New Zealand is to excel in this time of crisis, writes JEREMY BENDALL*.

There is an old saying being muttered in the suddenly chilly precincts of many New Zealand boardrooms: you can't have your cake and eat it too.

Shareholders are hammering on boardroom doors demanding reassurance the company is not taking risks that will destroy the value of their investment.

Company directors everywhere are digesting the events of this year and asking themselves: is the risk associated with the job worth the rewards? If they answer yes, they then ask themselves: how can I make a valuable contribution?

Nobody wants failure and everybody is focused on preventing it. At the same time, the nation understands the importance of catching the knowledge wave and not being left behind in a stagnant backwater.

There's widespread acceptance that wealth creation in the next few years will largely depend on our ability to apply high technology and innovation with speed and flexibility. What isn't accepted is that technology and innovation without risk are the same as having a cake and eating it too.

This time last year Ian Dunlop, the chief executive of the Australian Institute of Company Directors, addressed a conference in Western Australia about the board of the future. He said Australian culture and legislative structures focused on preventing, not enabling, innovation.

Australians were intent on eliminating risk rather than recognising risk as an essential driver of the market economy. His words, spoken before the tumultuous events of the past couple of months, are a timely warning for New Zealand.

I'm not arguing that all New Zealanders, including the Government, shouldn't be concerned when companies such as Air New Zealand run into trouble. But if we try to eliminate risk from business, we'll find ourselves in the stagnant pool, watching the knowledge wave disappear over the horizon.

Risk is all about levels of uncertainty, adverse occurrences and lost opportunity. Risk management is purely academic, if not explicitly related to business objectives.

The challenge for the Government is to resist creating an environment in which consumers are protected from all risk by increasing the personal liability of directors.

Steps in this direction will make current and potential directors far less inclined to take sensible risks to stimulate innovation and seize the scientific and technological opportunities needed to catch the knowledge wave. In these circumstances, good governance suffers.

In Australia, Ian Dunlop is concerned that experienced directors, particularly those in the latter stages of their careers, have too much to lose if things go wrong. Increasingly, he says, he hears the refrain: I would be delighted to take on a non-executive directorship of a start-up listing on Nasdaq, but no way would I do it under Australian corporation law.

In this country, demands for legislation to protect consumers and the rise of shareholder activism have been combining for some years to put pressure on directors.

The image of directorship as a cosy sinecure is rapidly fading. High-profile company collapses, prosecutions and public boardroom spats have considerably upped the temperature in the boardroom kitchen and led to debate about the role of directors and how accountable they should be.

The result is always a desire on the part of shareholders, stakeholders and the public for directors to act as both watchdog on management performance and catalyst for creative genius and increasing shareholder wealth.

Performance and wealth creation must involve risk taking. The board's role is to direct the CEO on how much risk is tolerable.

All company directors face their own risks, including legal compliance, reputation damage and financial exposures. This, together with a hectic workload, can make the appointment of a senior executive, whose primary role and focus is corporate-wide risk management, a very attractive option.

In the United States we are seeing the emergence of chief risk officers (CROs) who focus on business risks throughout the organisation - whether they be strategic, project or operational - and suggest ways to minimise those risks or turn them into profitable opportunities.

These CROs often have similar standing and power to a chief financial officer. The pressure is on them to ensure directors and management obtain a comprehensive picture of risk and a cohesive strategy for managing risk which delivers tangible gains.

The second development is the concept of the board as an ideas factory. Traditionally, boards have concentrated on compliance issues - making sure that management fulfils statutory duties and complies with strategies sometimes formulated aeons ago.

This function remains important, but if shareholders are to be satisfied, directors must actively take on a new role - that of strategists and ideas generators.

The real added value for boards is at the strategic level, in the perspectives and awareness of wider issues which the directors can bring to complement the views of management. This calls for boards who are forward looking, proactive and most importantly innovative, not risk averse.

This is a critical time for New Zealand and we need directors who can deal with crisis situations and work with management to formulate contingency plans for alternative scenarios, good or bad. For the country's benefit, intelligent risk taking should be the modus operandi.

Put these elements together and shareholders' fears might recede.

The next challenge for directors is to develop an understanding among investors that if their cake is to grow larger, they cannot entirely insure against risk.

They must accept that some combination of factors involving directors, management and the marketplace may snatch the cake altogether, leaving not a crumb of consolation.

This focus on timely communication is critical if directors are to be, and be seen to be, good corporate stewards and guardians of future prosperity.

* Jeremy Bendall is the partner responsible for KPMG's corporate governance, risk management and internal audit services in New Zealand.

* In tomorrow's business section, longtime company director Peter Shirtcliffe and Ross Dillon, advocacy director, Shareholders Association, debate the role of company directors.