A comprehensive understanding of the risks involved in the operations of an organisation is vital to its survival and success. Risk management professionals derive control framework and mechanisms from this understanding and implement policies and procedures in consideration not only of present risks but emerging ones, as well. However, risk management in practice can be pretty challenging and a lot of factors have to be considered before acting on certain determined risks.
This requires risk managers to be scientific in their assessments before they come up with recommended control and mitigation frameworks that have to be reported to and decided by senior management. To do this, they need to develop a certain basis for comprehensive assessment of operational management in the performance of risk and control strategies. Key Risk Indicators (KRIs) are among those that are identified and made the basis of these assessments and monitoring.
A KRI is a metric for measuring the possibility that the combined probability of an occurrence and its effects will go over the organisation’s risk intake capacity, which in turn impact the organisation negatively. In short, they determine how risky a factor or activity is.
They are measurable and commonly presented in terms of numbers or percentages. KRIs are very valuable tools for risk managers to comprehensively and accurately assess risks in question. KRIs serve as warning signals to management on increasing risk exposures in different areas of the organisation.
Qualities of a Good KRI
In order to be effective, KRIs have to be developed thoroughly and in accordance with certain factors and in line with the overall objectives of the organisation. While details of KRIs vary in different setups, they must possess the basic qualities that make them effective.
In line with this, KRIs must be:
- Measurable – they can be measured by easily understandable representations like numbers, percentage, or currency volume.
- Predictable – they must be able to provide early warning signs of increased or decreased risk exposure.
- Comparable – they can be monitored over a period of time.
- Informational – they must provide a measure of the status of risk and control.
Failure to establish KRIs with these qualities may create a gap in its effectiveness, if not becoming potentially irrelevant over time.
Importance of KRIs
For risk and control managers, KRIs are base metrics that determine the proceeding approaches and activities of the organisation in response to certain risks. The lack of KRIs in a risk management framework can lead to misdirection, false identification, and ineffective overall risk and control approach.
On their own, KRIs allow organisations to:
- Provide quantifiable early-warning signals on potential damaging risks. This enables senior management to effectively anticipate the effects of risk over a period of time and amply prepare for it.
- Provide ample time for risk managers to come up with mitigation programs that work.
- Determine present risk exposure and emerging risk trends.
- Identify the clear status of the organisation under current and emerging risks.
- Identify weakness in the control system for necessary modifications or reinforcements for strengthening and increased effectiveness.
- Allow for comprehensible monitoring and reporting and facilitate necessary procedures in response to risk escalations.
For different organisations, KRIs may provide more or less of these.
The KRI Development Process
Due to the significance of KRIs, they need to be developed properly. While there is no “one formula” for KRI development, it is important for a systematic process to be created to derive KRIs for the organisation’s risk management framework.
The first process is to identify as many relevant KRIs as possible. Current metrics have to be identified and then improved based on an assessment of gaps. Some businesses employ risk control self-assessment (RSCA) to determine KRIs. However, they might not be enough. Causes of significant risks must also be considered and assess it based on forward-looking and historical indicators. Finally, KRIs have to be quantifiable and collated in a systematic and consistent basis over time.
This is where leading and lagging indicators are identified. Leading indicators are those that are predictive in nature while lagging indicators are those that are based on historical data and trends. KRIs to be selected must be predictive, meaningful, and more importantly, measurable. There must be a practical mix of leading and lagging indicators for a comprehensive risk management approach. Avoid KRIs that are difficult to track, may become unmanageable over time, and provides unnecessary information.
3.Identification of Thresholds
Thresholds are the point, value, or level associated with a KRI that can trigger an action. They are very important in monitoring KRIs. They must be based on internal acceptance and industry tolerance and coincide with the risk appetite statement of the organisation. Thresholds must be approved by the board of directors to ensure that the overall aims of the organisations are not endangered in the process.
4.KRI Tracking and Reporting
Once KRIs and thresholds are established, a tracking and reporting system must be put in place. KRIs are only as valuable as when they are timely communicated to concerned departments. A period report system must be set along with an escalation procedure. Different levels of escalations must be determined for easy and consistent monitoring. Needless to say, special reporting schedules must be open and provided for unforeseen escalations and exposures.
KRI and Risk Management Strategies
When it comes to KRI use, monitoring, and management, strategies may vary. Too much reliance on KRIs and oversensitivity to external and internal risk shifts may cause unnecessary chaos within the organisation. Being lenient, however, may defeat the purpose of risk management. This is why escalation levels are important and that they should have equivalent mitigation approaches.
Effectively monitoring KRIs for risk management will lead to a more comprehensive and reliable system that will protect and benefit the organisation and its departments. Hence, KRIs should not be taken lightly and determined just for the sake of compliance. They have the power to make or break your organisation in ways beyond imagination.
If you want to learn how cammsrisk can help you better manage your organisation’s KRIs, book a demo with us today!