Operational risk management describes the processes involved in reducing risks arising from day-to-day internal operational factors, including procedures, systems, and people. It accomplishes this through recurring risk identification, assessment, measurement, mitigation, monitoring, and reporting.
In business, risk is everywhere—from constantly evolving markets to shifting regulatory frameworks and economic fluctuations. But while these factors can certainly impact an organization's success, some of the greatest dangers to business continuity come from day-to-day operations. These risks, particularly those related to the potential losses arising from inadequate or failed internal processes, people, and systems, or from ineffective responses to external events (like fraud, legal risks, local hazards, and technological disruptions), are collectively known as operational risks.
Simply put, operation risks are the risks associated with daily business operations. These can include aspects of essentially every internal process, including business procedures and controls, employee activities, technological utilization, and workplace safety issues, as well as processes for countering fraud and external attacks. Operational risk management (ORM) is an approach that allows organizations to identify and mitigate these risks to minimize their impact more effectively. ORM offers a sustainable model where risks are more than just reacted to; they are anticipated, understood, and managed proactively.
By integrating ORM into core business processes, organizations can safeguard themselves against possible losses and disruptions. More than that, it allows them to leverage risk management as a tool for strategic decision-making and long-term organizational resilience.
Operational risk management has evolved significantly over the last few decades, driven largely by the need for standardized methods to evaluate internal controls and risks. This development first stemmed from increasing demands by government regulators, credit-rating agencies, stock exchanges, and institutional investor groups for more transparency and assurance over companies' risk-control environments. These entities sought greater insights into the risks faced by organizations and the effectiveness of the controls in place to mitigate them.
The origin of this standardized approach to risk management can be traced back to the financial sector, particularly influenced by the Basel Committee on Banking Supervision. This international committee initially focused on financial services, promoting a global standard for banking regulation—including risk management practices. The discipline of risk management, however, quickly expanded beyond the confines of the financial industries.
Today, risk management has developed along specialized paths, with ORM arising to address specific needs relevant to operational risks.
Operational risks encompass a wide range of issues. Understanding these risks is crucial for effective risk management. New operational risks are constantly developing and evolving. Creating a fully comprehensive list of examples is not feasible. That said, the most common types of operational risk today include:
Catastrophic events (such as natural disasters): disruptions caused by events like earthquakes, floods, or hurricanes, which can severely impact business operations and infrastructure.
Data privacy breaches: unauthorized access or exposure of sensitive data, leading to potential legal consequences and loss of customer trust.
Employee conduct and errors: mistakes or misconduct by employees, ranging from simple clerical errors to more serious ethical violations.
Internal and external fraud: deceptive practices within the organization or by external entities, leading to financial loss or reputational damage.
Operational processes and controls: inadequacies or failures in internal processes and control mechanisms that ensure efficient and safe operations.
Risks from emergent technologies: risks arising from the adoption of new technologies like AI and automation, which might relate to system failures or ethical concerns.
Failure to adhere to internal policies: non-compliance with established organizational policies and procedures, possibly leading to inefficiencies or legal issues.
Workplace safety: hazards in the work environment that can lead to accidents or health issues, impacting employee well-being and productivity.
The risks outlined above have the potential to majorly disrupt normal business operations, create significant expenses, and expose companies to legal or reputational backlash. Operation risk management exists to disarm these dangers, identifying and neutralizing operational risk before they can create problems for the business. To accomplish this, ORM pursues the following goals:
Not every risk is the same—some are more immediate, more likely, or may carry greater potential for damage. ORM makes risk prioritization a central focus. Using risk management frameworks and ORM tools, companies can more easily aggregate and classify risks, allowing response teams to focus their energies on the highest priority concerns first, and to respond appropriately in every situation.
Going hand in hand with risk prioritization is the need to attach a dollar amount to individual risks—determining the possible cost associated with each. By estimating potential losses, companies can allocate resources more effectively and plan financial buffers to mitigate these risks, ensuring a more targeted approach to prioritizing and managing operational challenges.
Just as different risks demand different prioritization, they may also require specific mitigation solutions. Classifying risks so that they can be paired with the proper approach helps ensure that organizations are responding appropriately to operational risks or all kinds.
ORM does not exist in a vacuum; it should be one part of a larger risk management strategy. By incorporating operational risk management, decision makers gain the advantage of improved information and enhanced value in their risk management strategies.
Operational risk is an expansive term, covering a range of potential dangers. Operational risk management, therefore, is equally pervasive. ORM must be capable of managing the full catalog of operational risks and reducing them to acceptable levels. To do this, operational risk management employs an ongoing process that can be broken down into four primary stages:
1. Risk identification
This is the foundational stage where potential risks are identified. It involves recognizing all the possible sources of operational risk within the organization, such as those that originate from internal processes, people, systems, or external events. At this stage, organizations must conduct thorough investigations and analyses to uncover risks. This can be achieved through internal audits and scenario analysis. Control frameworks can likewise help optimize this process.
2. Risk assessment
Once risks are identified, the next step is to assess their likelihood and potential impact. This stage involves evaluating how significant each risk is to the organization. Risks are ranked based on their severity and probability of occurrence. Tools such as risk matrices or heat maps are used for this purpose. The assessment helps in prioritizing which risks need immediate attention and resources, and which can be addressed later.
3. Measurement and mitigation
The measurement and mitigation stage involves developing strategies to reduce the probability of risk occurrence or minimize the impact. Organizations must use a consistent scale to quantify and rank risks and then implement control measures to mitigate them.
4. Monitoring and reporting
The final stage encourages organizations to continuously monitor the risk environment and the effectiveness of the mitigation strategies—tracking key risk indicators, conducting periodic reviews, and making improvements where needed. Reporting should be clear and comprehensive, providing stakeholders with insights into risk status, trends, and the effectiveness of current risk management strategies.
Correctly implemented, operational risk management delivers many advantages that can contribute significantly to an organization's stability and success. Key benefits include:
ORM prepares businesses to face unexpected disruptions. By identifying and mitigating risks, organizations can optimize and maintain their operations, thereby securing business continuity—even in the face of unprecedented circumstances.
A well-implemented ORM strategy helps organizations in aligning with regulatory requirements more efficiently. This alignment reduces the risk of non-compliance, and, by extension, the various costs associated with fines, penalties, or legal issues.
Operational risk management involves the use of quantitative metrics for risk assessment, providing a solid foundation for informed decision-making. This data-driven approach allows for more strategic (and less reactive) responses.
By helping identify operational risks and implementing controls to mitigate them, ORM empowers organizations to streamline their processes. This enhances overall efficiency and builds resilience against potential disruptions.
An effective ORM program demonstrates to customers, investors, and other stakeholders that the company is well-prepared to handle operational disruptions and risks. This assurance builds trust, leading to improved product performance, stronger customer relationships, greater investor confidence, better performance reporting, and more sustainable financial forecasting.
Despite its many benefits, operational risk management also presents certain challenges. These obstacles can hinder the effectiveness of ORM initiatives, reducing an organization's ability to effectively address risk in everyday processes.
The following are some of the most significant challenges in ORM:
There may be communication gaps regarding the importance of ORM. Implementing comprehensive training and regular communication strategies can educate staff at all levels about ORM's critical role and its impact on the company’s bottom line.
Many organizations struggle with inadequate resources, making it difficult to support ORM programs. To address this, prioritize ORM in budgeting and staffing decisions. Demonstrating ORM's long-term cost benefits can aid in securing the necessary funding.
Sometimes, to consolidate responsibilities, operational risk management is merged with other functions such as compliance or IT. Unfortunately, this can dilute its focus and leave it unable to perform its functions optimally. Ensuring that ORM maintains a distinct, dedicated leadership and goals within the organization helps give operational risks the attention they warrant.
The absence of standardized methodologies for risk assessment can stand in the way of accurate risk profiling in ORM. Developing and implementing uniform risk assessment tools and processes across the organization is a prerequisite for consistent risk management.
Rapid technological changes can add complexity to ORM processes. Keeping ORM strategies updated, adaptable to new technologies, and as straightforward and intuitive as possible can help maintain their relevance and effectiveness.
A lack of awareness or interest in operational risk management among C-suite executives and other leaders can be a major hurdle. Increasing their engagement through regular briefings and reports on ORM activities and impacts can help in garnering the necessary top-level support. Always secure leadership buy-in before moving forward with any ORM initiatives.
There are additional steps that businesses can take to help ensure ORM success. Proven best practices include:
Encouraging cross-departmental ORM collaboration and encouraging information sharing to establish a more holistic view of the organization’s risk profile.
Creating a culture of operational risk management and using company-wide training initiatives to educate all stakeholders on the importance, function, and value of the ORM program.
Implementing a strong governance framework to ensure that ORM processes are being carried out properly and fully in-line with business objectives.
Utilizing technology (particularly automation) in monitoring, aggregating, and collecting risk data.
Establishing a continuous, systematic approach to evaluating and identifying key risks within the organization.
Integrating ORM strategically with the overall business strategy for more sustainable, risk-aware business practices.
Operational risks can critically impact your business, but with ServiceNow Integrated Risk Management (IRM), you have the resources and support you need to mitigate these risks. ServiceNow IRM provides a comprehensive suite of tools designed to support continuous risk and control assessment and ensure thorough control testing and incident management. AI-assisted risk management and advanced risk reporting and analytics give you the power to identify, assess, and respond to risks before they can evolve into real problems. And, with enhanced automation features, IRM reduces the manual effort required in monitoring risks, allowing for real-time visibility and more accurate risk management at lower costs.
Don’t let operational risks be a roadblock to your success; instead, make risk management a strategic element of your business planning. See the difference ServiceNow IRM can make in your organization—schedule a demo today and step into a new era of effective, streamlined risk management.