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Inward Investment Guides

The Case for Risk Management

In today's tough economic times, companies considering operational innovations can reduce their uncertainty with a solid risk management strategy.

Matthew Ryder, Senior Managing Director, NKF Consulting (Feb/Mar 09)
(page 2 of 2)
Enter Risk Management
Risk management for the purposes of reducing uncertainty in operational change has two components: prescriptive decision processes and experimentation. Companies seeking to overcome the fear of uncertainty use prescriptive decision-making processes to determine what information they need and how that information will be used to identify the best strategies from all possible options. The purpose of a prescriptive decision-making process is to create a solid hypothesis. The purpose of experimentation is to test a solid hypothesis in the real world to make sure it will hold up. Used together, prescriptive decision-making processes and experimentation allow information to replace uncertainty and confidence to overcome fear.

Prescriptive decision-making processes for operational innovation need to focus on three key areas:

Team selection: Operational innovation affects several, if not all, parts of a company. Companies evaluating opportunities for operational innovation must do so with a cross-functional team of stakeholders who can collectively represent the entire organization. For site and facility planning teams, this often includes members representing facilities, real estate, finance, human resources, operations, and customer service.

Cross-functional teams can provide the breadth of information required to properly evaluate strategic options. Further, a decision supported by a cross-functional team will represent the company as a whole. This allows for easier adoption for individuals who were not directly involved in the decision-making process.

Decision framework: Complex operational analysis involves many different types of data. A decision helps stakeholders determine what information is needed and how individual pieces of information will work together to create a rich analysis.

In site and facility planning, there is often a tradeoff between cost and quality. For example, a reduction in facilities costs usually comes with some reduction in quality, e.g., a less desirable location, lower class property, less frequent maintenance, etc. The reduction in facilities cost is measured in dollars; the corresponding reduction in quality is not. As a result, determining a company's appropriate tradeoff requires an analysis wherein the impact of the reduction in cost and the impact of the reduction in quality can be fairly assessed.

Stress-testing the recommendation: There are two main areas of uncertainty when using a decision framework to analyze operational innovation. The first area of uncertainty is the team's prioritization of the information. For many companies - especially in difficult economic times - the cost of operations tops the list when considering any operational change. There are, of course, quality aspects of operations that also warrant consideration. A decision framework helps to establish this as long as stakeholders can determine which objectives of their operations are most important and which are less so. Being able to stress test a recommendation based on various ranges prioritization allows stakeholders to see how well the recommendation will hold up if their priorities change.

The second area of uncertainty is the assumptions used to create the analysis. Examples of such assumptions might include the company's growth rate, changes in components of operating expenses, and the cost of capital. Stress-testing allows stakeholders to answer the question, how much would the unknown elements need to change in order for our recommendation to be different? And, once this is known, is it reasonable to think that those changes could be feasible? When a hypothesis stands up to stress-testing, it's time to further reduce uncertainty by giving it an even more rigorous test: real world exposure.

A Real World Example
Despite managers' ability to use experimentation to rigorously test hypotheses with little risk to the company, experimentation is rarely used. Many managers feel that the speed of business requires good ideas to be implemented as fast as possible in order to achieve full benefit. And while it is true that experimentation can delay full implementation, the reduction in uncertainty, risk, and fear is often worth the wait. This is especially true in our current economic environment.

Operational innovations represent large-scale changes. Most often, however, the results of a change can be tested on a smaller scale. This means that a company can see the results and determine if the change is positive or negative before subjecting themselves to the change.

Our client used experimentation to gain a higher level of trust than it had from its hypothesis alone with very little risk. Instead of shuttering its customer service centers in metropolitan areas and moving them to smaller cities, the company first tested its concept in an outsourced operation. It hired a mix of customer service representatives in a small Midwest city, trained them using the company's protocol, and waited six months to see the results. The results were staggering.

Not only was there no statistically significant difference in the productivity of the representatives without a college degree, but also the turnover rate of these employees was lower. This meant that over a longer period of time, our client would incur lower rehire costs for representatives without a college degree. Adding this savings to the reduced labor and real estate costs amounted to a 23 percent long-term reduction in operating expenses for our client's customer-care operations. And for what it's worth, it also represented the achievement of an operational innovation.

As the recession drags on and financial pressure on companies continues to build, many other companies will find innovative ways to do more with less. Site and facility planning will be at the core of many of these innovations. Together these innovations may represent a great deal of advancement for our industry. Perhaps that's the one thing we can all be positive about these days.


Matt Ryder is a senior managing director at the operations consulting firm NKF Consulting, a Newmark Knight Frank Company. He leads teams focused on operational innovation and change and is a frequent speaker on these topics. He can be reached at 404-926-1091 or by e-mail: mryder@newmarkkf.com.
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