Operational Risk Management (ORM) is an essential aspect of any organisation’s strategy for minimizing unexpected disruptions. It is a process that managers and business analysts use to reduce the financial risks that daily business operations may cause. Unlike economic or market risks, which are often easier to quantify, operational risks cover a broad spectrum, from system failures and human errors to natural disasters.
Understanding the risks that may arise during daily operations can help companies identify and manage them effectively.
In this article, I define operational risk management, describe the types of Operational Risks, explain why it’s important, and provide helpful tips on how to implement it effectively.
What you are going to learn?
What is Operational Risk Management?
Operational Risk Management is the process of identifying, assessing, monitoring, and controlling risks that arise from the daily functions and operations of an organisation. The goal is to prevent losses due to unforeseen events, strengthen internal processes, and build resilience. ORM is not a one-time activity but an ongoing practice that requires continuous improvement to keep up with evolving risks and technologies.
Types of Operational Risks
Operational risks refer to the potential losses arising from failed internal processes, people, systems, or external events. These risks can be grouped into the following major categories:
1. Process Risk
This type of risk stems from deficiencies or failures in an organization’s internal procedures. It may involve poorly designed workflows, a lack of process standardisation, inefficient production methods, or weak quality control systems.
For example, a delay in the supply chain due to mismanaged inventory or production errors caused by outdated protocols can severely disrupt operations and increase costs.
2. People Risk
People risk arises from human factors within the organization. This includes employee errors, insufficient training, lack of supervision, internal fraud, or low morale. Workplace conflicts and high absenteeism can also reduce productivity and expose the business to further operational disruptions. When employees lack the necessary skills or motivation, even well-designed processes can fail.
3. System Risk
System risk is associated with technology failures, including hardware malfunctions, software bugs, or outages in IT infrastructure. It also covers cybersecurity threats, such as data breaches, ransomware attacks, and system vulnerabilities. In today’s digital-dependent environment, any disruption in technological systems can quickly escalate into larger operational setbacks.
4. External Risk
These risks usually come from external sources and are often uncontrollable. Operations can be greatly affected by things like natural disasters, global conflicts, economic issues, and policy changes. Organizations can’t stop these events, but they must prepare via strong contingency and risk plans.
5. Legal and Compliance Risk
Legal and compliance risk arises when an organization fails to meet statutory or regulatory requirements. This can lead to fines, legal liabilities, or damage to brand reputation.
Examples include non-compliance with labour laws, tax regulations, or industry-specific standards. Staying updated on regulatory changes and ensuring internal policies align with them is crucial to maintaining operational integrity.
Why is Operational Risk Management important?
Operational risk management plays a crucial role in a business’s success, providing methods to assess and mitigate risks that save time, money, and prevent setbacks. Here’s how effective operational risk management benefits an organization:
Enhances Decision-Making
When managers can accurately identify and assess risks, they’re able to devise stronger strategies to complete projects. Recognising potential risks, like the chance of a cyberattack, allows them to make informed decisions to prevent these threats.
For instance, if there’s a risk of data breaches, operational risk management can prompt the company to bolster network security, protecting sensitive information and strengthening resilience.
Identifies Unsafe Conditions and Practices
Operational risk management identifies risky situations or error-prone practices. Finding these risks before beginning operations is critical to prevent harm to property or employee injuries, while also keeping the company in line with laws. This approach leads to safer, more efficient processes, supporting the delivery of reliable, high-quality products.
Promotes Product Quality
By managing operational risks in production, companies can achieve greater consistency and reliability in their products, which fosters customer loyalty. Stable processes enable high-quality output, and companies can reinvest the savings from risk reduction to improve product standards. This cycle enhances product quality and contributes to a strong brand reputation.
Builds Transparency Between Executives and Employees
Operational risk management fosters clear communication between executives and employees. Since identifying and minimising risks benefits everyone, it encourages open discussions about safety requirements and expectations. This transparency promotes honesty, as executives recognise the importance of clear communication to safeguard employee well-being and drive business success.
Improves Financial Forecasting
Since many operational risks carry financial consequences, identifying and mitigating these risks helps in creating more accurate financial projections. When a company can prevent losses, financial analysts can adjust budgets and make more precise forecasts. This approach also helps employees understand the financial impact of reducing risks, showing how their efforts save the company money and support sustainable growth.
In sum, operational risk management (ORM) is essential to a business’s stability and growth, improving decision-making, safety, product quality, transparency, and financial planning. Knowing that their efforts have positive results can motivate them to improve risk analysis and prevention.
How to implement operational risk management
Implementing an effective operational risk management strategy can boost a business’s profitability and improve product quality.
Learning how to establish this process and train employees in its use can lead to greater success for both the business and its workforce. Here are five steps to effectively implement operational risk management:
1. Identify Potential Risks
The first step in operational risk management is to identify any factors that could lead to errors within a project or process. To improve risk identification, businesses can create a control framework, which categorises operational practices and procedures to help detect and manage risks.
For operations that involve stored data, automating this control framework can enhance efficiency by analyzing data to uncover potential risks.
2. Evaluate the Impact on Operations
Once risks are identified, analyze how each one could affect business functions. This step involves assessing both the likelihood of each risk and the potential impact on the company.
For instance, if the control framework reveals a possible security vulnerability, the next step would be to evaluate how a security breach could affect critical areas like data security, employee well-being, and stakeholder trust.
3. Develop a Risk Measurement Scale
To manage risks effectively, it’s essential to establish a scale for measuring their severity. This scale helps prioritise the most critical risks for immediate action. When measuring risks, also consider the cost of mitigation.
For example, if mitigating one risk is significantly more costly than addressing another, it may be more strategic to focus on the more feasible or impactful solutions first. This cost-benefit analysis ensures resources are directed toward the most urgent issues.
4. Assign a Team for Risk Monitoring
Ongoing monitoring is a key component of operational risk management. Designating a team to oversee identified risks allows for continuous assessment and quick action if risks materialise. This team can focus on tracking risk levels and preparing mitigation or prevention strategies, while other employees can concentrate on production and core tasks. By proactively addressing risks, the monitoring team contributes to overall operational resilience.
5. Train and Involve Employees
For operational risk management to be effective, it’s crucial to involve employees across all levels. Training employees on how to recognise and report risks creates a culture of vigilance. By ensuring everyone understands their role in risk management, businesses can create a proactive approach where employees contribute to a safer and more stable workplace.
Implementing these steps structures operational risk management, boosting security and performance.
Example of operational risk management
A large private bank experienced repeated failures in processing online transactions, especially during peak hours. Outdated software in its core banking system caused the problem, because it couldn’t handle high traffic efficiently.
To manage this operational risk, the bank invested in a system upgrade, implemented real-time performance monitoring tools, and formed a rapid-response IT team. These steps significantly reduced transaction failures, improved customer trust, and ensured smoother daily operations.
Advantages of a Robust Operational Risk Management (ORM) Program
Building a strong operational risk management program is essential for aligning daily operations with an organization’s strategic goals, while also safeguarding business continuity during disruptions such as system outages or unforeseen events. A mature ORM framework signals to clients and stakeholders that the organization is not only crisis-ready but also resilient in the face of operational losses.
When executed effectively, a solid ORM strategy can lead to several competitive benefits, including:
- Greater executive-level insight into operational risks and their impact.
- Smarter, risk-informed decision-making across the organization.
- Enhanced product quality and stronger brand credibility in the market.
- Deeper trust and long-term loyalty from both customers and business partners.
- Increased confidence from investors due to risk transparency and control.
- More accurate and insightful performance metrics.
- Stronger, data-driven financial planning that accounts for risk exposure.
Beyond reputational and strategic gains, effective operational risk management can directly reduce costs by minimizing or averting potential loss events. It also promotes the continuous refinement of business processes, making operations more streamlined and resilient. Ultimately, cultivating a culture of risk awareness empowers organizations to evolve with changing environments and remain future-ready.
Challenges & Limitations of Operational Risk Management
Organizations often struggle with operational risk management, which hinders their ability to satisfy stakeholders. Although part of enterprise risk management (ERM), ORM faces similar obstacles, particularly around resource constraints and limited executive buy-in. Key challenges include:
- Resource Constraints: Many organisations lack the necessary budget or personnel to adequately support ORM or ERM initiatives.
- Poor Communication and Awareness: There’s often limited understanding of how operational risks directly impact performance and financial outcomes.
- Executive Disengagement: Boards and senior leadership may not fully appreciate or prioritize operational risk, hindering its integration into strategic planning.
- Inconsistent Risk Assessment Methods: Without standardized tools or frameworks, it’s difficult to accurately evaluate and compare risks across the organization.
- Lack of Common Risk Language: The absence of a shared risk vocabulary complicates risk assessments like RCSAs and leads to misalignment across departments.
- Technology and Process Complexity: Rapid technological changes introduce complexity, making risk identification and mitigation more difficult.
- Overlapping Functions: ORM is often absorbed into areas like compliance or IT, reducing its visibility and dedicated focus.
- Disjointed and Manual Processes: Many ORM systems are still reactive, fragmented, and overly complex, often stemming from regulatory pressures rather than proactive strategy.
Operational Risk Management Tools and Resources
Technology plays a vital role in enhancing the value that Operational Risk Management (ORM) delivers to an organization. When designing your ORM function, it’s essential to incorporate a centralised risk management platform that supports building a comprehensive risk and control library and facilitates structured risk assessments.
Establishing robust risk management capabilities empowers organizations to make smarter business decisions and gives executive leadership a strategic edge. By embedding ORM processes within modern technology systems, businesses can ensure consistency, accountability, and scalability across the enterprise.
An effective ORM program not only strengthens operational audits and risk frameworks but also supports compliance efforts such as SOX (Sarbanes-Oxley) requirements. Tools like AuditBoard can help streamline, automate, and elevate your risk management activities—turning operational risks into strategic opportunities for competitive advantage.
Resources
- Operational Risk: Overview, Importance and Example
- Operational Risk Management: Overview and Guide
- What is operational risk?
- What is operational risk management?