Enterprise Risk Management and the Cost of Capital

Abstract

Enterprise risk management (ERM) is a process that manages all risks in an integrated, holistic fashion by controlling and coordinating any offsetting risks across the enterprise. This research investigates whether the adoption of the ERM approach affects firms' cost of equity capital. We restrict our analysis to the U.S. insurance industry to control for unobservable differences in business models and risk exposures across industries. We simultaneously model firms' adoption of ERM and the effect of ERM on the cost of capital. We find that ERM adoption significantly reduces firm's cost of capital. Our results suggest that cost of capital benefits are one answer to the question how ERM can create value.

Risk Committees and Implied Cost of Equity Capital

“…This study makes the following contributions. First, while few studies have examined the association between RC and cost of capital in emerging economies (e.g., Berry‐Stölzle and Xu ; Al‐Hadi et al ), to the best of our knowledge, this is the first study to explicitly examine the relationship between RC and the implied cost of capital of GCC listed financial firms. Second, we add to the literature by exploring an alternative channel through which RC can add value to firms, that is, by reducing asymmetry information between creditors and therefore lowering the ICOE.…”

The Combined Effect of Enterprise Risk Management and Diversification on Property and Casualty Insurer Performance

“…There is an extensive literature on the value of risk management more generally. Possible benefits include reduced volatility for earnings and stock prices, reduced external capital costs, increased capital efficiency, operating flexibility, and cost reductions achieved through more efficient capture of synergies in risk management activities (see, e.g., MacMinn, ; Meulbroek, ; Smithson and Simkins, ; Berry‐Stölzle and Xu, ; Gamba and Triantis, ; Eckles, Hoyt, and Miller, ). Finance theory suggests that risk management has the potential to add value to diversified shareholders when it can reduce costs arising from market imperfections.…”

“…Given the increasing number of firms using ERM, academic interest is shifting from examining determinants of ERM adoption and CRO appointment to more interesting and timely questions related to the financial consequences, value effects, and/or efficiency effects of ERM (e.g., Gordon, Loeb, and Tseng, 2009;Grace et al 2015). The fact that most studies use announcements of CRO appointments or ERM adoption as proxies for ERM implementation without being able to distinguish firms based on quality of ERM (e.g., Hoyt and Liebenberg, 2011;Pagach and Warr, 2011;Berry-Stölzle and Xu, 2013) may explain the inconsistent results that have been reported in this literature. For example, Hoyt and Liebenberg (2011) simultaneously model the determinants of ERM adoption and the effect on firm value using Tobin's Q as a proxy, and conclude that ERM adoption results in a 20 percent value premium.…”

Do corporate governance mechanisms and internal control systems matter in reducing mortality rates?

“…Internal controls are important in financial reporting and safeguarding assets of the firm. Conventionally, it has alluded that effective controls trim down the risk of asset loss . This facilitates planned information to be executed flawlessly.…”