Risk management in Aviva - Essay Example

?Risk Management in Aviva Table of Contents Introduction 3 2.Brief about the Company: Aviva 4 3.Aviva’s exposure of Different Types of Risk 6 3.1.Political Risks for Aviva 6 3.2.Financial Risks for Aviva 8 4.Importance and Implications of Different Risks for Aviva 9 5.Strategy for Risks Management for Aviva 11 6.Conclusion and Recommendation 16 Reference 18 1. Introduction The current state of this society is an effect of outcome of the long term process. Today, the entire world economy is facing a tremendous growth in every aspect of life. It can be interpreted as an effect of globalisation which can be termed as broadening of the ideas, innovation, relationship and other types of activities among the different countries of the world. Many scholars believe that globalisation is the primary reason behind these. Moreover, they also consider that international trade and business and technological developments are the most importance and crucial effect of globalisation. In fact, the growth of international trade and business and technological advancement are two primary sources of globalisation. In case of international trade, the countries form different parts get opportunities to enter into a new arena of business. In this process, the international traders come into the contact of new experiences like cross cultural diversities, better opportunities, and different market exposures etc. Due to effect of globalisation, the nature of trade and business has changed significantly as its importance for inter-dependency has been urged for the development of society. The term, international trade denotes to the commercial transaction between or/among countries that involves transfer of product, wealth, money, services, technology, resources etc. Due to emergence of international trade and business, the world economies have experienced a missive growth. However, with this rapid development, the multinational companies are also being exposed to multiple types of risks. Therefore, in effect, the structure and nature of business and its strategies have been changed to cope up with these risks making the entire process complex (Daniels et al, 2010, p.7). This paper will attempt to analyse the implications of multiple types of risks faced by a multinational organisations. In order to meet this objective, the primary focus of this paper will be on Aviva, a global insurance company. As this company is present in many world economies, it is exposed to a number or risks like political risks, financial risks like interest fluctuations, foreign currency fluctuations, market risks etc. This paper will also include appropriate strategies for diversifying such risks in respect of Aviva’s global insurance business. 2. Brief Description about the Company: Aviva Aviva is one of the most popular global insurance companies in the global financial service market. It is basically an UK-based company and the sixth largest insurance company in the world and the biggest in the UK market (Aviva-a, 2011). The major market for Aviva includes the broad regions like Europe, North America and Asia Pacific market covering more the 28 countries. For its international business management, the company primarily focuses on the three core strategies. Firstly, the company aims to heighten and enhance its focus on geographical segmented market. Secondly, it is tries to increase its consumer’s value by offering the best combination of general and life insurance. Thirdly, Aviva is also trying to strengthen its core competencies that have enabled it to be one of the market leaders in global context. The company has gained a high expertise in technical excellence, effective operational, financial discipline and marketing related activities like promotional, distribution etc (Aviva-b, 2011). The company has acquired a large base of consumers in the global market and it service nearly 53.4 million of consumer by offering value-created product with its 45000 employees worldwide. The primary products of Aviva mainly include the life insurance and general insurance. Moreover, it also offers other financial products for saving and investments. Aviva has more than 300 years of heritage and experience in the field of insurance business that has led to create a strong market in UK and other major European countries. The geographical division of its operating profits and sales revenues are presented below using a pie-chart. Figure 1: Sales Revenue and Operating Profit by Geographical Divisions (Source: Aviva-c, 2010] As per the above charts, the UK and European market are recorded to contribute more 80% of sales and operating profit. The company realised the potentials of the recovering economy and hence, it is trying to focusing on the emerging developing counties like Indian and China including other 12 markets. Aviva is present in its international market with more than 50 trading brand names and this strategy is supposed to be very effective for international business (Aviva-d, 2011). 3. Aviva’s exposure of Different Types of Risk Being a multinational company and due to its presence in more than 28 countries worldwide Aviva is exposed to a number of risks. Risks are primarily categorized into two major type i.e. systematic and unsystematic risk. As the name suggested, unsystematic risks are unpredictable and cannot be measured; whereas, the systematic risks are the market and business related risks that can be measured (Condamin, Louisot and Naim, 2006, p.5). In the other hand, based on the business management, risks can be categorised into four group i.e. political risk, business risk, operational risk, strategic risk and financial risk like credit risk, liquidity risk, currency risk etc (Yusof, 2007, p.85-86). The management of Aviva has recognised eight major types of risks which potential and fatal threat to the company’s sustainability. These major risks include the market risk, credit risk, liquidity risk, general insurance risks, life insurance risks, strategic risks, brand & reputation risks, and operational risks (Aviva-e, 2009, p.56). As the primary focus of this paper is on the political and financial risks, the above stated eight risks can clubbed into two the two broad category i.e. political and financial risks. These two broad types of risks are explained in the context of Aviva’s global business. 3.1. Political Risks for Aviva The political factors are one of the crucial areas that has major impacts on the trade and business of an economy. The government and the ruling political parties are responsible for the maintenance of countries affairs like economic policies, international relation, peace and prosperity etc. Among these responsibilities, economic growth is one of the most important tasks for the ruling government. Hence, the governments strive to frame necessary strategic economic policies for economic growth. When, the governments fail to meet these responsibilities for growth and development, the political risks arise for the entire country and for the existing business environment. Therefore, it can be interpreted that an efficient government is responsible for the major policies like interest rate, inflation, industrial product etc. Moreover, a country with weak government and uncertain political stability may lead to intensify the business risks. In case of Aviva, it has been present in nearly 28 countries and each country has their own features due to different characteristics of political and government leadership style. For example, the Chinese government follows a conservative strategies but it has been able to maintain a high economic growth. Therefore, Aviva is expected to face strict government policies but the market opportunities are quite higher as peoples’ economic condition is enhancing with economic development. However, in order to avoid the instable political conditions and inefficient government ruling, Aviva has decided to not enter into such economies. For example, Aviva is not present the unstable countries like Pakistan, Zimbabwe, Somalia etc. Aviva is in the insurance business offering life and general insurance services and therefore, the risks to the people life and properties life within a country is also very vital for the entire insurance sector. A country which is not able to combat with the terrorism causing mass life and property losses and that creates high business risk to an insurance providing company (Moran, West and Multilateral Investment Guarantee Agency, 2005, p.130). Therefore, considering the above discussion, it can be identified that political factor is the prime source of political risks that also related with market and economic risks. 3.2. Financial Risks for Aviva On the basis of the above discussion, the financial risk and political risk are inter-related as major economic parameter like foreign exchange rate, interest rate, inflation etc ate directly associated with the financial activities and financial risks. Among the financial risks, the credit is one of the major concerns for the Aviva. The credit risk refers to financial loss caused by the payment default form the debtors or the third parties. Aviva is exposed to such risk due to the exposure of the debt investments and due to the exposure of credits and counterparties in its multiple geographic locations. Like the default risks, the fluctuation in the spread risks has a negative impact on value of assets. Aviva is also highly exposed to major liquidity risks as lower payment received from its clients as insurance premium and lack of efficient balance sheet structure. As an effect of liquidity risks, Aviva may also have to face the unavailability of cash to meet the necessary operating expenses (Aviva-e, 2009, p.58). The impact of the market risk on the financial position of Aviva is also prominent and hence, Aviva has to assess the market condition as to measure its impact on its financial perspectives. The impact of the market risk is mainly on the future cash-flows caused by the fluctuation in the interest rates, foreign currency rates and random changing the equity price of Aviva. In this respect, the management of Aviva has clearly stated the major drivers of such risks and fluctuations. The variation in the value of its investments like in equity, loans, debts and in the holding investment properties are due to the fluctuation in interest rates and foreign exchange rates. Aviva’s financial position can also be hurt due to the uncertain natural calamities and poor health condition of people. Such uncertainly poses a great threat to the financial profitability of Aviva. 4. Importance and Implications of Different Risks for Aviva In the current period of intensified competition and uncertainties, the business organisations have to face a number of risks. However, this has been explained in the above sections in the context of Aviva’s global business exposure. On the other hand, in order to frame effective strategies to counter these risks, organisation needs to identify the long term impact on the overall sustainability and financial position on the company. In case of Aviva, it must measure the impact of these risks on its global business. With the help of basis intuition, it can easily interpret that due to the impact of risks, the sustainability issues can be arises. However, from an analytical point of view, this impact is very complex as the exposure to such risks influence a number of factors. The major financial like liquidity risks, credit risk, interest risks are more intense in case of financial services sectors. Aviva is one of pioneer players of global insurance market present in many counties and therefore, the risk exposure of Aviva is also quite intense. For example, in case of financial risk, Aviva may lose its capabilities to meet its financial commitments to the group of investors and stakeholders. The major impacts of financial risks will be on its operational activity. The operational activities are the primary task of a company that paves the way for the future growth. In case, Aviva is not being able to meet its operational process efficiently, the overall impact will fall on its overall worth of the company i.e. on the balance sheet. This means that continuous inefficient operational process will cause a higher devaluation of the assets and investments. Finally, overall solvency is supposed increase at a higher rate and this impact on the shareholders wealth due to constant falling price of share (Nieuwenhuizen et al, 2009, p.109). Being an insurance company, Aviva has invested in number of areas. The overall investment of Aviva has been grouped into two categories that include equity securities and other investments. The detail structures of these investments are given in the following tables. Table 1: Investment in Equity Securities (Source: Aviva-e, 2009, p.56) Table 2: Investment in Other Areas (Source: Aviva-e, 2009, p.56) As per the above tables, it has made huge investments in multiple areas and each type of investments is exposed to a number of risks. In this respect, the fluctuations in interest rates, foreign exchange rates and the fluctuations in equity prices may cause a greater threat to the company. The above investments make a significant amount of the asset for Aviva and hence, it is very necessary to have an efficient risk management structure. In this regard, the Aviva should have a dedicated team for risk management that will be responsible for risk measurements through assessing and must use hedging techniques and tools to counter these risks. 5. Strategy for Risks Management for Aviva In the light of the above discussion on the necessity of risk management for Aviva to manage its global business, the tasks of risk management has inevitable for the avoidance of the major political and financial risks like solvency, liquidity etc. The risks faced by Aviva in its global business are of diverse ranges. However, in the process of risks of the top level management must try to understand the necessity of managing the political risks. The Aviva has already made foreign direct investments in the many international markets and hence, in this case, the responsibilities of the top level managements become a priority task (PwC, 2006). Efficient management of the political will lead to directly influence the global performance of Aviva. According to a study, the most of the political risks arise due to the financial impact of the country on its respective organisations (ERM, 2006). The political factors of an economy primarily include the social factors, economic condition, legal frame works etc. Aviva must assess the country specific risk before drafting a focused strategy for that respective country. In this process, the primary aim of the top level management should be to avoid the underlying risks within a country. The giant MNC company like Aviva must try to achieve a diversified the business. For example, during the global crisis, the Western economies were highly affected and it faced as steep decline in its overall profit. On the other hand, its business from China and other Asia Pacific countries were slightly below the line (Grover, 2011). However, the top management of Aviva has decided to management a diversified international business model and it’s given below in the table. Figure 2: Aviva’s diversified business model (Source: Aviva-f, 2006) As per the given fact shown in the above table, 46% of its business depends on its domestic market i.e. UK. However, it must be realized by the top level management the risk of over dependency on its UK market. In such scenario, it must be capable to strength its market position in the emerging countries like China, India, Taiwan and Middle East etc. Moreover, it should also focus on the unexploited markets. For instance, Aviva is not present in Australia, New Zealand, South Africa and these markets can make a better diversified business in the global market. Capital management is an integral part of risk management as it directly affects the company’s major risks relating to credit, liquidity and solvency. In order to manage these areas, Aviva has a dedicated team responsible for managing capital and financing related aspects. This team has critically identified the drivers of these risks causing market under performance and it can be presented by the following model. Figure 3: Drivers of market underperformance Drivers of market underperformance (Source: Aviva-f, 2006) Considering the intensity of the above drivers of the risk, risk and capital management has become regular task of the managements. Primarily, the Asset Liability Management Committee is in charge of risk and capital management and the structure of the committee is given presented below as per the flow chart. Figure 4: Capital and risk management governance structure in Aviva Capital and risk management governance structure in Aviva (Source: Aviva-f, 2006) Aviva’s committee for the risk managements primarily focuses on the financing growth for its foreign operations. The financing growth is the primary necessity for controlling the risk in its foreign market. In this regard, major focus is on the maintaining optimal capital structure, pricing techniques for risk and technique for alternative financing. On the other hand, other types of financial risks identified by Aviva are interest risks, currency risks, credit risks etc. In order to avoid such risk, the hedging techniques using multiple derivatives instruments like swap, future, options, forwards etc are very effective. Aviva’s risk management committee has been efficiently using such derivative instruments through proper risk hedging techniques. A statement of non-hedging activities is given below. Figure 5: The Group’s non-hedge derivative activity at 31 December 2009 (Source: Aviva-e, 2009, p.271). 6. Conclusion and Recommendation The risks exposure for a multinational company having its business units in multiple countries is too high comparing to a domestic based company. This paper has presented multiple aspects of risk managements of for its global business. Aviva is one of pioneer insurance service providers in the global financial services market. Aviva is exposed to multiple types of risk due to its global business perspectives where the political and financial risks are major concern for the company. The political risks are broad types of risks that affect overall organisational performance. This paper has also discussed that political risks are primary source of other types financial of risk due to fluctuations in economic parameters like interest rate, stock market, inflation, foreign currency etc. Therefore, managing political risks using effective strategies are inevitable task for Aviva. Based on analysis and discussion presented in this paper, a set of recommendations for Aviva’s global business are given below. The top level management should assess and measure the intensity of political risks underlying in the different countries. The risk managements committee should involve efficient members having better insight for risk management. Aviva should ensure the undisruptive source of financing for its foreign operations. Aviva has made multiple investment portfolios which are exposed greater amount of risk and hence, there should also be a dedicated team managing the investment related tasks’ For better diversified global business model, Aviva should aim to enter in unexploited marker and should strengthen international markets having greater potentials. Better risks ability comes from the internal capabilities and hence, it must aim to strengthen its core competency for better and effective managements of risk. Reference Aviva-a. (2011). About us. [Online]. Available at: http://www.aviva.com/about-us/. [Accessed May 05, 2011]. Aviva-b. (2011). Strategy. [Online]. Available at: http://www.aviva.com/about-us/strategy/. [Accessed May 05, 2011]. Aviva-c. (2010). Aviva: Company Overview. [Pdf]. Available at: http://www.aviva.com/library/pdfs/company_profile_mar_11.pdf. [Accessed May 05, 2011]. Aviva-d. (2011). The Aviva name. [Online]. Available at: http://www.aviva.com/about-us/our-brand/the-aviva-name/. 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