Boards Steal a March With Risk Management - An Agenda story by Tony Chapelle
Handling specific risks smarter than the other guys can gin up a company’s edge on the competition. While overseeing all the risks in the enterprise is already board members’ fiduciary duty, experts say that directors can help managers gain strategic advantage and even steal market share by mitigating certain upside risks.
Athletic apparel company Under Armour is trying such a move. The company is betting the farm that the upside reputational risk that superstar Kevin Durant of the National Basketball Association brings can take a bite out of rival Nike’s dominance. But the advantage can also apply to managing utilization risks to get more airline capacity or even start new lines of business.
Under Armour has offered Durant the equivalent of 10% of its annual marketing budget to agree to a face-of-the-brand sponsorship deal for the next decade. The company is taking the huge risk of spending that much on a single player because it’s vying for a chunk of Nike’s commanding 96% of market share for basketball shoes. Under Armour currently holds just 0.25% share, according to SportsOneSource, a sporting goods research firm.
To make the deal accretive, Under Armour would have to move $400 million worth of Durant’s signature shoes a year. This after Durant’s shoes generated only $175 million last year for Nike, with whom he’s been signed since he graduated from college.
Under Armour is largely counting on the fact that last season Durant was named the NBA’s most valuable player. He’s also younger than the league’s biggest star, LeBron James, so Durant could outlast him as a player and marketer. On the downside, however, another former MVP, Derrick Rose, has been a drain on the Adidas brand that signed him to a $183 million deal two years ago. Since then, Rose has played in only 10 games due to knee injuries.
Under Armour’s CEO is game, however. Kevin Plank in 2011 promised to take market share from Nike eventually. Every percentage point of share in the basketball shoe market is worth $45 million.
“Your willingness to take on risk comes with the knowledge that it may not pay off,” says Roei Ganzarski, a former chief customer officer for Boeing. Ganzarski is now CEO of a Seattle-based software company, BoldIQ, which helps corporations improve efficiency by getting higher utilization rates in their operations. “The smarter way to mitigate risk is in fact to make your business operations more efficient so that risk doesn’t come to bear in the first place.”
In fact, Ganzarski’s BoldIQ makes software that minimizes risk for corporate customers. His clients in the aerospace and trucking industries need to use their physical, financial and human resources better to grow. Instead of buying more planes and trucks and hiring more people, which increases expenses and therefore the risk of not getting acceptable return on capital or suffering more accidents and paying more for insurance, Ganzarski’s software can help airlines and haulage companies get more out of their current fleets.
For instance, since the industry average revenue utilization of business aircraft is 65%, a fleet of 20 aircraft actually is equivalent to 13 revenue-generating planes. Buying two more planes would increase the utilization rate to the equivalent of only 14 revenue-producing planes. This kind of economics requires high fares to produce profits.
With optimization software, however, companies stand to boost utilization rates by 10% to 25%, Ganzarski says. The programs can show an airline how to fly the same number of planes with fewer disruptions to flights or how to manage as efficiently with fewer pilots and cabin crews. If that lowers operating costs and risk, the company could lower its fares or start a second fleet offering more seats and longer range, which could take market share from competitors.
As a CEO, Ganzarski says a board should ask three questions before letting its managers use risk as a strategic advantage. “I expect my board to ask me: What’s the purpose of the CEO to take on new risks from investing new capital? Is there another way to achieve the goal without taking on a new risk? And finally, if not, what are you doing to mitigate that risk?”
Glenn Davis, a CPA and corporate advisor at accounting firm CohnReznick, is particularly fond of internal controls as a tool of good governance and risk management. He says this seemingly bland duty — confirming that proper procedures are being followed — can have direct benefits to the bottom line.
For instance, with good internal or metric controls in the accounting department, Davis says, a company can bill clients more accurately and faster. That can result in being paid faster. Since the typical company collects its money from customers in 28 days, Davis says, just one day’s improvement per month can be worth a significant amount. In addition, if the accounts receivable don’t linger as long, lenders may lower interest rates on a company’s cost of capital.
Davis cites similar benefits on the payables side. If the internal controls let managers process invoices faster with fewer disputes, they can pay vendors faster. Some vendors might agree to sell products at a slight discount if offered the chance to be paid a few days earlier each month.
John Bugalla, principal at training and consulting firm ERMInsights, tells the story of howSnap-On, a national franchisor whose franchisees sell work tools, built a new subsidiary based on managing risk. Under their contracts, franchisees had to buy hazard insurance. Dan Kugler, an assistant treasurer of risk management at Snap-On, identified an opportunity when he realized that, since the partners had to buy from rated insurance companies, he would recommend discounts if they used four specific companies. As he found out more about the risk of losses, cost of supplies and adjustments, Kugler then convinced Snap-On senior managers to let him set up a captive insurance company.
The result was SecureCorp, which is not only a multimillion-dollar profit center, it also has benefit programs that help in recruiting new franchisees.
Ganzarski adds that the board has a role in monitoring upside risk to gain an advantage on competitors. “At some point, I would like the board to ask the CEO if he’s taking on enough risk to grow the business. Is he trying new things, innovating and opening new markets?”