Controlling risk has always been one of the core functions of boards. This year’s pandemic has brought this responsibility into sharper focus. In a time of rapid changes, boards must be able to adapt and learn. They must be aware of how external developments affect the risk landscape and long-term trends.
To do this, they need to be able to assess the risks associated with projects that are both new and established in a non-biased manner. It is possible to recognize potential problems using a simple red-amber-green evaluation, but it can be difficult for the board to obtain a precise understanding of the risks. Boards can benefit by using quantitative methods to promote better communication between managers and the boards, and also to aid the board in understanding the management’s risk-taking appetite.
More sophisticated tools, such as ones derived from option pricing (the mathematical method used to calculate the theoretical value of an equity option) are beneficial in helping assess risk and prioritise emerging issues. For instance, they can help to highlight the extent to which a particular project is exposed to oil price risk or credit risk, and provide insight into how risk has been managed.
The board should also use its knowledge of the risk profile of a company’s to inform strategic planning, as also to review and monitor internal controls. It should also ensure that the other committees on the board, such as audit, compliance, and strategic, have the same understanding of the risk profile.