Operational Risk Management: Benefits and Common Challenges

Operational risk is defined as the risk of a loss that results from inadequate or failed business processes, people and systems, or from external events. More simply, operational risk pertains to any uncertainty or threat your organization faces (or might face in the future) during day-to-day business activities. The risk arises from operational disruptions and is likely to result in losses or reputational damage.

Some operational risk is inevitable for every organization. Implementing an operational risk management (ORM) program can strengthen internal processes, minimize risks, and mitigate their impacts.

Operational risk management, a subset of enterprise risk management (ERM), is an ongoing set of activities focused on reducing and mitigating key risks related to your organization’s business operations.

This article explores how ORM works and examines its challenges and benefits.

Understanding Operational Risk

What is an Operational Risk?

Operational risk is focused on day-to-day operations within your company. It is affected by procedures and processes that guide, regulate, and manage operations. It can also change based on decisions made by senior management and the board of directors about how the organization functions and what its priorities are.

Examples of Operational Risk

Operational risk can arise from disruptions, breakdowns, or errors in:

• ​Technology
• ​People
• ​The regulatory and compliance ecosystem

Failed internal procedures, employee errors, technological disruptions, and cybersecurity events can all create operational risks. The evolving regulatory landscape can also introduce new risks.

For example:

• ​A data breach can affect your organization’s reputation or result in increased customer churn.
• ​A breakdown of internal procedures or process controls may result in costly errors.
• ​Unpatched software, misconfigured settings, or missing encryption could leave your company vulnerable to cyberattacks.
• ​Poorly trained staff may degrade the quality of your output.
• ​A supply chain attack due to software vulnerabilities may impact business continuity.
• ​New technologies and poorly planned digital transformation initiatives are operational risks that can harm your business.

Impact of Operational Risk

Operational risk doesn’t always result in business failures, nor does it always increase costs, decrease production, or affect profitability. The issue, however, is that it can cause those things. Hence, it is critical to manage operational risks and minimize their potential impact. This is where an operational risk management (ORM) program comes in.

What Is Operational Risk Management?

ORM is an ongoing, systematic process that involves multiple steps to manage operational risk:

• ​Risk identification
• ​Risk assessment
• ​Risk measurement
• ​Risk mitigation and controls implementation
• ​Risk monitoring and reporting

ORM is often discussed in the context of financial institutions, particularly after the Basel Committee on Banking Supervision (BCBS) published a series of papers from 1999 to 2001. However, the need for ORM isn’t limited to the financial services industry. Every organization should implement ORM to mitigate potentially disastrous operational risks.

The Evolution of ORM

In the past, most organizations had a narrow view of ORM, considering it mainly a requirement to meet regulatory and compliance needs. In recent years, ORM has evolved to become a formal business function that delivers ongoing, quantifiable value.

Modern ORM involves standardizing the evaluation of operational risks and internal controls. Regulatory developments, such as the release of COSO’s internal control framework and the Sarbanes-Oxley Compliance Act (SOX), have increased awareness about the importance of ORM programs, particularly in processes around risk identification, risk assessment, risk management capabilities, and controls testing.

Benefits of Operational Risk Management

An effective ORM program focuses on protecting the organization. Its primary goal is to minimize any possible fallout if risks come to fruition, such as:

• ​Operational disruptions
• ​Financial losses
• ​Non-compliance issues
• ​Reputational damage

ORM delivers a wide range of benefits:

Understand and Improve Operating Processes

ORM provides insight into the strength of operational processes, enabling risk managers and senior leadership to understand key aspects of operations, such as:

• ​Consistency of outcomes and customer experiences
• ​Reliability of processes under normal and stress conditions
• ​Prevention of disruptions through change management
• ​Effectiveness of the operating model in limiting risk from bad actors

Improve Operating Resilience

ORM can help your company develop oversight to support your operating model and improve resilience, assuring business continuity and driving operational excellence.

Implement Effective Controls

ORM helps implement effective controls and management strategies to evaluate business resilience and prioritize necessary interventions. These strategies and controls are essential to:

• ​Monitor the risk environment and address critical risks
• ​Map inherent risks and controls to business processes
• ​Connect enterprise resource planning to processes and associated risks
• ​Reinforce risk-averse behaviors
• ​Perform root cause analyses
• ​Establish feedback loops to identify and flag potential issues

ORM strengthens risk management capabilities and improves business decision-making, enhancing business continuity and sustainability.

How Does Operational Risk Management Work

An ORM program typically includes five risk management processes:

Risk Identification

Identify operational risks in the context of your organization’s business practices, operating model, objectives, and goals. This enables you to start taking steps to mitigate and reduce them.

Risk Assessment

Assess identified risks based on potential impact and probability of occurrence. Tools like risk heat maps can help visualize and prioritize risks.

Risk Measurement

Compare risks to determine prioritization, weighing the cost of risk control against the cost of potential risk exposure. Risks can be categorized as:

• ​High probability and high impact
• ​Low probability and high impact
• ​High probability and low impact
• ​Low probability and low impact

Risk Mitigation and Control Implementation

Decide how to treat each risk:

• ​Transfer it (e.g., insurance)
• ​Avoid it (e.g., strong internal controls)
• ​Control it (e.g., training programs)
• ​Accept it (if benefits outweigh risks)

Risk Monitoring and Reporting

Monitor the risk environment regularly using appropriate metrics. ORM tools such as real-time risk indicators, analytics, and risk management software help monitor risks, manage controls, and document mitigation strategies.

Four fundamental principles guide ORM processes:

• ​Accept no unnecessary risk
• ​Accept risk only when the benefits outweigh the costs
• ​Make all risk decisions at the appropriate level
• ​Anticipate and manage risk continuously and consistently

Common Challenges to Operational Risk Management

Many companies face common challenges that prevent them from harnessing the benefits of ORM:

Aligning ORM Strategy With the Overall ERM Strategy

The ORM strategy must fit into the larger ERM strategy to assure effective management of all kinds of risks. Many organizations struggle with maintaining consistency in this relationship.

Failure to Detect New Risks

Most ORM programs detect existing or known risks. Discovering and acting upon new or emerging risks—such as those from new technology, markets, products, or regulatory changes—is more challenging. Technology-based tools are essential for identifying, measuring, and mitigating all kinds of risks.

Continued Use of Legacy Technologies and Applications

Legacy tools limit agility, create data silos, and make it harder to identify, control, and mitigate operational risks. Replacing or re-engineering these applications can strengthen the ORM program.

Lack of Resources and Poor Communication

ORM requires proficient risk experts and effective communication. Not all organizations have these resources or a common ORM language. Investing in the right human and technological resources and educating all business units about ORM is critical.

Other ORM Challenges

A lack of consistent methodologies to assess and measure operational risk can prevent the ORM program from providing an accurate risk profile. When ORM is reactive to regulations, it can become disjointed and ineffective. Establishing policies and frameworks aligned with regulatory requirements and leveraging technology and automation can help ensure efficient operational risk control.

Include ZenGRC in Your ORM Plans

A solid and proactive ORM program can help your organization minimize or mitigate operational risk, assure business continuity, and support strategic objectives. To achieve these benefits, a risk management platform such as ZenGRC can be used to aggregate records, reports, policies, procedures, and controls, streamlining your ORM program with features like heat maps, dashboards, workflow management, automated reminders, and audit trails.