Thought Leadership

Operational Efficiency vs. Operational Risk

Post by
Jordan A. W. Steinberg
Operational Efficiency vs. Operational Risk

Operational efficiency refers to how a business uses its resources, conducts its processes, and sets up systems to reduce extraneous expenditures and maximize profits. In the same vein, it is helpful to consider operational risk, which examines the risk of loss that results from failed processes, people, external events, or ineffective systems. These two concepts directly relate to one another and affect how a business operates.  

This article will cover the following topics:

  • Understanding Operational Efficiency
  • Exploring Operational Risk
  • The Difference Between Operational Efficiency & Operational Risk
  • How ORM Overlaps With Operational Efficiency with PayEm

Understanding operational efficiency

Every business has specific systems and processes with people that oversee the two. The way in which these elements interplay and subsequently affect the profitability or loss within a company is known as operational efficiency. A business is only as efficient as its inner workings, which can be determined by examining key performance indicators, or KPIs. These indicators provide insight into what level of healthy functioning, or lack thereof, an organization is experiencing.

Key Performance Indicators

It’s hard to understand operational efficiency without understanding a company’s key performance indicators. These indicators act as homing missiles that show where a business may be struggling and where they are doing well. The exact metrics being explored will vary based on the industry and will center around quality, efficiency, and value.

Specific Elements of Operational Efficiency

Use of Resources

When gauging the operational efficiency of a business, there are specific elements that can be examined. One such element is the data used to glean information that will be used to create financial statements.  

Production

Production is another pivotal element of operational efficiency. The time and money taken to invest in creating an output will need to be monitored to make sure that there is a sufficient return.  

Exploring Operational Risk

Operational risk looks at the possibility of loss resulting from ineffectiveness in how a financial institution or business operates. The chance of risk has become more significant in the present enterprise climate. With more financial products available and an increasing number of ways to deliver said products, the chance of risk has increased. Therefore, it is essential to manage these risks to ensure that they are effectively mitigated.

Categories of Operational Risk

There are specific categories of operational risk that must be explored in order to have a complete understanding of the potential risks businesses may face. These categories include:

Personnel Risk: The risk of financial loss that directly correlates to staff members’ performance or behavior. This type of risk can include human error, fraud, or workplace safety violations.

Systems Risk: This type of risk describes the risk of financial losses as they relate to failed systems intrinsic to the functioning of the business. From a faulty sorting machine that delays a critical order to a software crash, systems risk is one of the most common types of operational risk.

Process Risk: Process risk is the financial loss resulting from internal processes that have failed to meet the business objective. These can encompass many different types of internal project delinquencies.  

Legal and Compliance Risk: Legal and compliance risk covers the risk of financial loss as it relates to non-compliance with both internal and external rules. This type of risk also includes litigation arising from faulty products and other related legal risks.

External Events Risk: External events risk describes financial loss related to external events outside the company’s control. This can include local disruptive events, unforeseen natural disasters, damage to physical assets, and other similar external events.

Steps to Operational Risk Management

Once operational risks have been identified, the next step for the organization to take is to mitigate those risks effectively. Mitigation of operational risk is a critical part of operating a business. An organization can create a solid plan to ensure that risks are minimized and eliminated.

Step 1. Complete a thorough assessment: Every business will have a different approach to operational risk management. The first step is identifying an organization’s unique operational risk profile while exploring critical industry-specific risk factors.

Step 2. Gather Data: Once a specific action plan is orchestrated, gather information to assess various risk factors effectively. With the right information, better business decisions can be made to eliminate and reduce operational risk within an organization.

Step 3. Make effective decisions: Once data has been collected and analyzed, the next step will be to make definitive decisions regarding the methods and approaches an organization will take to mitigate risk.

Step 4. Implement automated solutions: In many cases, there are areas where improvements can be made to systems and processes with the help of automation. Automated tools serve a considerable function in any operational risk mitigation plan. Automation reduces the margin for error, enhances data collection, and facilitates communication across all departments.

The Difference Between Operational Efficiency & Operational Risk

When considering operational risk as it relates to operational efficiency, there are essentially two different approaches that an organization can take. The first is to approach risk as a necessary part of doing business while recognizing that more risk can potentially lead to more reward. The second approach seeks to mitigate risk whenever possible, enabling a minimal risk strategy with a slow and stable growth pattern.

All businesses seek to have high levels of operational efficiency as this equates to better business growth, increased stability, and greater profitability. However, to improve upon current levels of operational efficiency, it is first necessary to explore operational risk. In fact, the two can be considered as two sides of the same coin, as they are intrinsically connected. With a reduced level of risk comes greater operational efficiency and vice versa.

Operational efficiency can be considered the level of effectiveness a business upholds when doing business, while operational risk describes the potential risks that may arise when doing business. Understanding the differences between these two concepts can help an organization better move to the next steps of operational risk mitigation and improving operational efficiency.

How ORM overlaps Operational Efficiency with PayEm

Operational risk can be seen, unto itself, as an aspect of operational efficiency. This is because risk associated with internal or external processes, as well as system or personnel failures, can be mitigated. By improving one’s approach to operational efficiency, certain risks can be controlled, and overall efficiency can be improved. Overlooked issues and control discrepancies can result in greater risk and organizational inefficiencies. However, with a strategic approach to operational efficiency, these risks can be caught ahead of time and mitigated to reduce losses and ensure greater long-term profitability.

Creating a Strategic Approach Through Automation

Operational risk mitigation is better enabled through the use of automation. Automation brings with it many benefits as it relates to a company’s need to mitigate operational risks.

Some of the benefits of using automation in a company’s ORM strategy include:

  • Lower the margin for error
  • Reduce and eliminate bottlenecks
  • Address system failure with streamlined, automated tools
  • Eliminate manual processes that can be error-laden and potentially costly
  • Streamline communication between departments to reduce faulty information
  • Reduce the risk of fraud with encrypted and secure automated solutions

One of the premier automated solutions that financial directors can implement is an automated enterprise resource management tool such as PayEm. PayEm is one of the premier spend management services available today and provides a robust and dynamic platform that can be used to greatly enhance systems and processes for businesses in a variety of different industries. It is one of the best tools in the arsenal for companies seeking a practical, effective approach to top-tier operational risk management strategy. Contact PayEm’s experts for a commitment-free, no-cost demo of the platform.

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