When black swans muddy the waters

Unexpected events, such as natural disasters, accidents or terrorist attacks, pose a significant risk to businesses, big and small, writes Alex Cardno


The disastrous Deepwater Horizon explosion claimed 11 lives, devastated miles of Louisiana coastline and cost oil giant BP dear, both financially and in terms of damaged reputation.

What followed this “black swan” event of May 2010 was a difficult 86 days for BP spent trying to stem the tide of oil flowing from the exposed well into the ocean, while attempting to protect the company’s reputation in the face of scorn from the US government, media and competitors.

The incident serves as a perfect example of how a major, unforeseen event can have damaging consequences for a business, no matter its size.

A black swan event is a concept articulated by scholar Nassim Nicholas Taleb and defined by three key characteristics. It must be a major surprise to the observer, have a major impact on their business and, through hindsight, make organisations more aware and prepared in their risk outlook.

Black swan events vary from terrorist attacks and natural disasters to unforeseen IT system failures, but the severity of such incidents highlights the need for businesses to raise their risk awareness.

Commentators point to the increasing reliance on the internet, as well as the appetite for expansion into emerging markets, as two areas where major, unexpected events are a significant threat.

Stefano Tranquillo, operations manager at FM Global Northern Europe, explains: “As more and more companies are supplying to the emerging economies, they often unknowingly take on greater exposure to natural disasters, lower safety standards and less reliable legal systems. Businesses must acknowledge these risks.”

The consequences of black swan events are often a tipping point between success and failure. Nick Woodward, sector lead for financial services and energy at Moorhouse, explains that strong leadership is crucial for a business to remain resilient in crisis. “The circumstances are unforeseen, so clear leadership at the moment of crisis and just afterwards is critical in creating an atmosphere in which resilience can be discovered,” he says. Of course, some businesses face this challenge better than others.

Another example of a business surviving in the face of a black swan event is Johnson & Johnson. The healthcare company faced a crisis in 1982 after cyanide was put into capsules of Tylenol, while they were on the shelves, resulting in seven deaths.

Clear leadership at the moment of crisis and just afterwards is critical in creating an atmosphere in which resilience can be discovered

Faced with an enormous threat to its reputation, Johnson & Johnson took drastic action. Although not responsible for what had happened, the company recalled its entire Tylenol supply across the United States and halted advertising. It then reintroduced the product with triple-sealed tamper-resistant packaging alongside a concerted campaign to restore faith in Tylenol.

Social media has become an increasingly important factor in controlling a company’s reputation and, as Martin Caddick, a director at PwC, explains firms that do not have thorough risk controls throughout their business are extremely vulnerable.

“The most common mistakes are failure to read the signs or learn the lessons,” he says. “Ironically, the businesses most at risk are often more successful companies that tend to suffer a degree of hubris. This means they dismiss the symptoms that might have given them warning and take longer to change their way of working when it is often too late.”

But there are some common traits which can be seen among businesses that survive black swan events. Rick Cudworth, Deloitte’s head of business continuity and resilience, Europe, the Middle East and Africa, says: “What is most important is that an organisation needs to be ready to respond.”

Suzanne Fribbins, a risk management specialist at BSI Group, echoes the sentiment. Following a black swan event, the commitment of senior management to business continuity is often the difference between success and failure, providing the management stays focused on the consequences, not the causes, she says.

The key to this is agility. Businesses which adapt and respond quickly to a rapidly changing situation stand a far better chance of survival and prosperity if they are able to absorb sudden changes almost as a matter of routine.

Effective agility means incorporating risk management into the assessment of external factors, such as sudden events and internal factors, including organisation and processes, and using that assessment to ensure a business remains flexible enough to cope with instant change.

And as Mr Caddick concludes: “Recent events, especially the credit crunch, have led to a re-evaluation of risk management. Although the right answers have yet to be found, most people’s understanding is now more sophisticated. The rise of resilience is generating valuable debate, which takes a more holistic view of this issue.”

TRENDS

TOP-5 BUSINESS RISKS IN 2014

1. PRICING PRESSURE

Perhaps unsurprisingly, pricing pressure is the most common risk facing businesses in 2014. According to EY, this encompasses ongoing pressure from global recession and weak recovery colliding with market maturity and declining working populations. The natural response is for businesses to consider pricing models to remain competitive.

2. FINANCIAL RISK

Hand in hand with pricing pressure is financial risk, with businesses putting significant effort into cutting costs and, in some cases, prices while trying to remain competitive. This risks profit pressure as businesses face the tricky balance of maintaining product and service standards following cost cuts, while still needing to make a profit.

3. REPUTATION

According to IBM, risk to business reputation comes from two angles. The first is the risk of financial disruption from reputational impact or supplier failure in areas such as corporate social responsibility. The second is risk from competitors capitalising from adverse events and if negative press is amplified.

4. UNFORESEEN EVENTS

Black swan events and other unforeseen circumstances remain high on the business risk agenda. According to consultants Moorhouse, where a business becomes important nationally or internationally, both regulators and shareholders should ask if the organisation is designed in a sufficiently robust way to cope with low-probability but catastrophic events.

5. CYBER RISK

While online businesses such as Amazon have successfully challenged traditional retail models, this has a hidden effect – the risk of total reliance on the internet and IT systems. According to Airmic, cyber is a black swan risk lurking under the glacier line which could hit a business at any time with catastrophic consequences.