7 !{ArticleDetails-ReadTime} 20 Jun 2018
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The route to risk reduction: better rules and smarter decisions

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EY Americas

Multidisciplinary professional services organization

7 !{ArticleDetails-ReadTime} 20 Jun 2018

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Rules alone won’t eliminate risk where human behavior is involved, but a focus on culture can help. 

Over the past several years, a seemingly endless series of scandals has rocked the business world. From banking to manufacturing to energy and beyond – during cycles of both growth and recession – numerous sectors have been impacted.

Reputable organizations have made mistakes, and a range of fallouts have followed: revenues have dipped, share prices have fallen, established brands have been tarnished, customer loyalty has diminished, litigation has increased, regulators have investigated, large sums have been paid in fines and remediation and on some occasions executives have even been criminally charged and convicted.

Consider momentarily a business scandal that really caught your attention. Broken down to its most fundamental level, what caused it to happen? Were there warning signs? Could it have been prevented? And if so, how?

Amidst the maze of complicated facts surrounding most business scandals lies a significant commonality: they occurred despite the existence of leading edge compliance frameworks. In most cases, the transgressions were based on poor decision-making.

Rules are critical to influencing behaviors. However, they address only a part of how we behave and make decisions. Behaviors and decision-making are also influenced by culture, and the relationships and power structures that shape our work environments.

Yet as regulators increase scrutiny and expand requirements, many organizations respond by modifying existing rules, and layering on additional ones, without adjusting for the role that culture plays in influencing human behaviors and decision-making. This singularly-focused, rules-dominant approach is intended to reduce risk. But in neglecting to focus on how people apply those rules, it opens the door to unintentionally driving the opposite result.

Cultures are shaped by political, social, operational and performance architectures, and the way they interact. Understanding how these architectures work and making adjustments where needed is critical to gaining confidence in how employees exercise judgement.

Rules aren’t enough to prevent scandals. While they can help guide decision-making, human behaviors are also shaped by individuals’ experiences of an organization’s environment.

There are many recent instances of leading edge compliance frameworks failing to prevent high profile scandals. Poor decision-making — heavily influenced by culture — is at the root of many of the transgressions. Culture is shaped by individuals’ experiences of organizations’ political, social, operational and performance architectures. By actively understanding and focusing on these areas, organizations can influence behaviors more effectively to reduce risk and drive sustainable performance.

An unmonitored culture can pose a range of risks and prevent an organization from fulfilling its potential.

New understanding around organizational culture has highlighted often overlooked factors creating risk. Unacceptably high levels of stress, counterproductive competitiveness, constraints to knowledge sharing and fear of speaking up are but a few of the negative manifestations of undesirable cultural influences. Robotic compliance (narrowly pursuing targets without exercising judgement) is another, and can result in employees disregarding the interests of key stakeholders when making decisions. Each of these can prevent an organization from fulfilling its true potential, and pose potentially significant risks.

Leading edge psychometric, psychoanalytical and data analytic tools can offer early warnings for risk.

The recent emergence of leading edge psychometric, psychoanalytical data analytic tools in the cultural arena offers organizations the ability to scan for potential “hot spots,” identifying undesirable cultural indicators of risk. In many cases, the insights gained can relate to risks that may not otherwise have been detected. This enables intervention at an early stage.

A wide range of business functions can derive value through better understanding their culture.

Historically, most organizations have assessed performance based on economic measures. Understanding culture provides a new lens to look at how organizations achieve those results, and whether they are doing so in sustainable ways. This information offers new opportunities to a range of business functions to reduce risk and enhance performance objectives.

The journey forward in leveraging culture, and the benefits this can bring.

Culture offers a new approach for assessing risk. Business leaders can perform high-level, non-disruptive ”temperature checks” to scan for cultural indicators of risk. Where potential issues are identified, tools and techniques adapted to assess culture on a deeper level can offer evidence-based findings that provide a road map for interventions and change initiatives.

Combined with compliance solutions, this approach offers organizations a more holistic means of managing risk, and can lead to other benefits including more sustainable performance and increased competitive advantage.

It is individuals’ actual experiences, rather than what an organization intends its people to experience, that drive how business decisions are made.

Key considerations for business leaders

By applying the right blend of cultural assessment tools, including data analytics, psychometric and psychoanalytical tools, leaders can apply a brand new lens to understanding how their organizations are operating. Importantly, whereas historically most organizations’ efforts have been applied in assessing performance based on economic measures (the “What”), these tools focus on the ways that individuals and teams achieve those results (the “‘How”).

In this way, they are ideally suited to identifying risks that arise from human behaviors. They can also be applied to achieve performance improvements, helping identify areas of sustainable, high integrity performance that should be encouraged, rewarded and replicated.

In considering and evaluating culture, business leaders also take a significant step towards being able to measure and assign a value to it. Culture is increasingly recognized as being a fundamentally important intangible asset. As Integrated Reporting gathers momentum, it will drive a focus on the value of “social and relationship capital” — essentially the value that is encapsulated in the strength of an organization’s relationships with its stakeholders. Culture is a primary determinant of this.

Assessing culture and risk: the journey

Different organizations experience different risks. The right mitigation steps for one organization will vary from those for another. The best approach to reducing risk takes both rules and cultural influences into account. Developing evidence-based insights into an organization’s culture is key to leveraging it to achieve risk reduction and performance objectives. Business leaders can begin that journey by undertaking an incremental series of focused actions:

  • Perform a high-level risk assessment using data analytics and psychometric and psychoanalytical.tools to identify “hot spots” that may warrant closer inspection. The nature of the tools means that the scan can be undertaken with limited disruption to business activity.
  • If a deeper look into one or more areas is warranted, consider undertaking a more comprehensive cultural assessment of particular teams or across the organization. An expanded variety of tools can be employed in undertaking the assessment, resulting in evidence-based findings that can support pathways forward.
  • Analyze the findings of the cultural assessment to develop a deeper understanding of behaviors that may lead to risk. The findings may also provide insights as to restraints against, and drivers for, performance objectives. Develop an action plan that uses cultural levers to address the issues identified.
  • Implement the action plan. Following a period of time appropriate to the organization’s circumstances (e.g., 12 to 18 months), perform a second cultural scan to ascertain progress.

The layering of new rules and targets, without addressing the political and social architectures that shape cultures, can be counterproductive and risky. Research demonstrates that this can lead to significant undesirable side effects, including increased bureaucracy, complexity of process and reduced ownership of personal behaviors. 

Focusing on culture can decrease risk and improve performance. However, that does not mean we can abandon rules in favor of an approach singularly focused on culture.

Think about the analogy of driving a car: the roads would not be safe without rules governing them. Rules are immensely important in defining the parameters within which teams and individuals should operate.

But rules alone are not enough. It’s whether and how they are adopted by people when making decisions that matters. Even the most well-intentioned rules can be overwhelmed by culture when it is ignored.

The key is striking the right balance to create a space where rules and culture reinforce one another. To foster the cultures that can effectively nudge people to engage in desired behaviors, organizations have to start by understanding the cultures that they currently have. It’s hard, but critical work if organizations are to gain leverage over how their people exercise judgement. And judgement is at the heart of nearly every business scandal that ever occurred.

Simply put, the route to risk reduction requires better rules and better decisions. An organization that neglects its culture is at just as much risk as one that neglects its rules.

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Even the best rules won’t eliminate risk where human behavior is involved. New tools and techniques that focus on culture can help safeguard and add value to businesses driven by people.

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EY Americas

Multidisciplinary professional services organization