Page 512 - COSO Guidance

2 | Developing Key Risk Indicators to Strengthen Enterprise Risk Management | Thought Leadership in ERM

Developing Effective Key Risk Indicators

A goal of developing an effective set of KRIs is to identify revenues and decreasing costs. They have identified four
relevant metrics that provide useful insights about potential strategic initiatives that are critical to accomplishing those
risks that may have an impact on the achievement of objectives. Several potential risks have been identified that
the organization’s objectives. Therefore, the selection may have an impact on one or more of four key strategic
and design of effective KRIs starts with a firm grasp of initiatives. Mapping key risks to core strategic initiatives
organizational objectives and risk-related events that might puts management in a position to begin identifying the most
affect the achievement of those objectives. Linkage of top critical metrics that can serve as leading key risk indicators
risks to core strategies helps pinpoint the most relevant to help them oversee the execution of core strategic
information that might serve as an effective leading indicator initiatives. As shown below, KRIs have been identified for
of an emerging risk. each critical risk. Mapping KRIs to critical risks and core
strategies reduces the likelihood that management becomes
In the simple illustration below, management has an distracted by other information that may be less relevant to
objective to achieve greater profitability by increasing the achievement of enterprise objectives.
Linking Objectives

Linking Objectives to Strategies to Risks To KRI’s

Strategic Potential
Initiative #1 Risk KRI
Increase
Revenues Potential
Strategic Risk KRI
Initiative #2
Profitability Potential KRI
Risk
Strategic
Initiative #3 Potential
Reduce Risk KRI
Costs
Strategic Potential
Initiative #4 Risk KRI

To illustrate further, consider a simple example involving a base decreases. When gas prices rise rapidly or are
chain of family-style buffet restaurants. Management is forecasted to stay at unusually high levels, customer traffic
interested in avoiding a negative earnings event that could begins to drop.
arise due to unexpected market conditions that might
negatively affect revenues. They know that restaurant Management has found that close monitoring of forecasts
traffic is directly affected by the availability of customer of per-gallon prices of gas in the chain’s geographic
discretionary income. As discretionary income levels fall market and trends in oil futures prices help management
off, customers are less likely to dine outside their homes. proactively identify early indicators of potential changes
A key metric that management uses as a leading indicator in customer visits. Monitoring these key risk metrics
of potential changes in customer discretionary income provides management the opportunity to proactively modify
levels is average gasoline prices people pay at the pump. sales strategies by adjusting marketing and restaurant
Management has determined that when gasoline prices promotion events thereby reducing the impact of the risk as
spike (or are expected to rise), discretionary income for discretionary income begins to decline.
individuals and families representing their core customer

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