“80% of employee turnover is due to bad hiring decisions.”

There is a wide disparity about what a wrong hire can cost a company because there are so many variables. But the cost of selecting the wrong person can run into the hundreds of thousands or even millions of dollars, not to mention the potential negative impact to a company’s reputation, morale, and productivity.

Specifically, recruiters have been known to say that a poor hiring decision for a candidate earning $150,000 per year could cost, on average, $375,000, and that expense comes right off the bottom line.

Why Are These  Costs So High?
Expenses associated with hiring include interview expenses such as travel, hotel and meals, training and orientation, employment testing, termination costs such as Cobra, unemployment and potential litigation expenses should the candidate decide to sue you for wrongful dismissal, plus relocation costs, and outplacement or career transition costs. But mostly it’s because you need to repeat the entire hiring process to replace the wrong hire, which includes time and expenses.

Why Companies Hire The Wrong Person
Recent surveys show that the  top factor leading to a failed hire, aside from performance issues, is a poor skills match. The second most common reason was unclear performance objectives.

“Wrong hiring” often occurs because hiring managers and human resources people confuse the job description with the job criteria. That’s why it’s important to involve those who are actually doing the job in writing the description. Finding the right match requires time and attention to avoid any miscommunication about what’s required to do a successful job.

Making the wrong hiring decision is an expensive choice and may cost you more than you realize, but it is possible to get it done right.

“New but not yet normal” is how McKinsey describes the current investment banking climate with profound regulatory change fast approaching.  On the upside, companies have great need for refinancing, investors are less risk averse; trading and capital markets are running at pre-crisis levels.  On the downside, with the withdrawal of government market support plus Dodd-Frank, top 100 banks’ return on capital will fall dramatically, predicts McKinsey.

The McKinsey article covers some of the following topics:

• Talent and innovation: Finding new formulas
• The pursuit of scale economies
• Shifts in risk taking
• Balance sheets: A new strategic weapon
• Local franchises matter
• Institutional relationships: Up in the air
• Restoring order

— Adapted from McKinsey’s June 2010 white paper, “The future of corporate and investment banking”.  Eighty-five years old, McKinsey & Co. has grown into a global partnership serving two-thirds of the Fortune 1000.

Harrison, Stone & Associates are specialists. As a result, we’re experts. We have the experience and credibility to sift through multi-layered organizations and pinpoint candidates. Please review our qualifications as they are described here on our web site.

Then call Robert H. Pestreich, Managing Director, at (212) 687-3030.

Succession management used to refer to the process of replacing a CEO when the position became vacant. These days organizations understand the importance of implementing a succession plan for more and more roles across the company. Succession planning is also an important way to identify, develop, retain and allocate key members of your workforce long before any talent gap occurs. Where do you start?

Identify Leadership Qualities
Most managers believe certain skills and attributes that can be recognized in a non-managerial role are predictors of managerial success. To develop targeted leadership programs and identify employees with leadership qualities, organizations must determine the competencies required for success at key positions.

Designate Top Candidates
Another important aspect of succession planning is identifying whether or not you have a pool of qualified candidates ready to assume critical leadership positions.

Difficulty may arise in identifying top candidates for succession to a specific job because the role often changes when a new person is selected to fill it. Once a job becomes available, many view this as a good time to revise the job as it has been filled previously and revise the job description.

Develop Candidates for Leadership Roles
Retention research indicates that individuals tend to stay longer where they are experiencing personal and professional growth. However, it may take time to develop even one viable candidate for top level positions. There are a few ways to develop your employees with an eye for succession planning.

• Training: Encourage employees to attend on- and off-site classes with targeted training that enables them to acquire the knowledge necessary to move to positions with increased responsibility.
• Increase responsibilities: Assign work goals that are related to the increase in responsibility necessary for advancement within the company in a somewhat controlled environment.
• Retain Key Employees and Attract High-Potentials

Identifying your employees as “high potentials” in the succession planning process can be a motivating factor in their retention. The two-way information flow allows employer and employee awareness of what is wanted and needed from one another. Expectations are clear. Companies know where they need leaders, and employees are realistically aware of how they fit into the corporations’ bench strength requirements and succession plans.

In Summary
All organizations should incorporate a robust development program to be a part of the succession planning process. This will ensure that the right people with the right skills are available at the right time to meet current and future business needs.

Harrison, Stone & Associates are specialists. As a result, we’re experts. We have the experience and credibility to sift through multi-layered organizations and pinpoint candidates. Please review our qualifications as they are described here on our web site.

Then call Robert H. Pestreich, Managing Director, at (212) 687-3030.

Global financial reporting is in limbo, in appearance and in fact. Among the current regulatory divergences, perhaps one of the most pressing issues is going concern assessment due to its ubiquitous presence in extant regulations, including the assumption of going concern in Pillar 2 economic capital adequacy assessment in Basel III and Solvency II.

In an analysis of the ICAAP practices of 19 European banks – “Mastering ICAAP: Achieving Excellence in the New World of Scarce Capital” – McKinsey concludes that an understanding of the “going concern” and “gone concern” concepts, among other things, is essential. However, McKinsey’s discussion with the banks also shows “little consensus on the precise distinction between the two scenarios despite the fact that the choice of scenario is the foundation of a bank’s capital-adequacy framework and is currently at the center of regulators’ attention.”

As a focal point of audit reform, going concern assessment has received increasingly intensive regulatory attentions since the 2008 financial crisis. The PCAOB and the FRC (UK) each issued practice alerts on going concern issues in late 2008 and again in late 2011 and 2009 respectively.(2) In addition, the two audit oversight agencies launched separate independent studies on going concern assessment.(3) In the inaugural Roundtable of Financial Reporting Series of the SEC on November 8, 2011, entitled “Measurement Uncertainty in Financial Reporting”, going concern issues were also extensively discussed.

What Are Going Concern Issues?
Historically used as a regulatory compliance tool, the accounting concept of going concern has been the explicit foundation of modern finance. Accordingly the assumption of going concern is embedded in all facets of capital market activities, including financial regulations, corporate finance theory, valuation techniques and bankruptcy resolution practices. However, the integrity of the going concern concept and its binary “pass or fail” structure has been subverted by the “information uncertainty”(4) issue of a principle based fair value accounting regime. The combined forces of marked to market practice, illiquidity, volatile market and adverse economic conditions can easily push an otherwise solvent company quickly into the abyss of insolvency, rendering going concern opinion almost useless to users of financial information.

The difficulties in converting a going concern compliance tool to a going concern risk reporting and disclosure tool for insolvency early warning lie in the binary “pass or fail” model as well as the prevalent use of probability phrases and words in going concern assessment, such as “substantial doubt”, ‘significant doubt” (IAS 1), “more likely than not”, “reasonably likely” and “imminent”. Ponemon and Raghunandan (1994) conducted a survey that examined statistical interpretations of “substantial doubt” in going concern assessment by a group of stakeholders that included 45 auditors, 95 bank loan officers, 88 financial analysts and 32 judges. It was found that the judges were the most conservative in going concern assessment with the mean (median) probability value of 0.33 (0.30) assigned to “substantial doubt”; followed by the auditors 0.57 (0.51); financial analysts 0.71 (0.70); and the bank loan officers 0.72 (0.75).

Therefore the going concern issues during the current economic conditions can be summarized as follows:

(a) Inconsistent statistical interpretation of probability phrases used to define insolvency in going concern assessment by different groups of financial information users.
(b) Globally divergent accounting and audit guidance on going concern assessment.
(c) Going concern assessment is not risk sensitive: a “BB+” credit rated company would be as much of going concern as an “AAA” rated company and going concern assessment does not provide incremental information as a company approaches insolvency. It is not sensitive to liquidity risk stemming from measurement uncertainty and volatility in financial reporting, such as fair value estimates of level II and III financial assets and liabilities.
(d) Binary “pass or fail” model that does not measure the gradation of going concern risk from “going concern” to “gone concern” in continuum.

Could Going Concern Assessment be Used as Insolvency Early Warning?
According to Steven Harris’ statement on Concept Release on Possible Revisions to PCAOB Standards Related to Report on Audited Financial Statements, the eight bankrupt companies without going concern modifications to their financial statements in the wake of the 2008 financial crisis lost 99% going concern value, from $75.5 billion to $700 million. In addition, fixed income investors may suffer even bigger losses, potentially in the range of $200 billion in debts issued by these eight companies prior to their bankruptcy filings. “Yet, the one real tool at the auditors’ disposal — a going concern opinion — was rarely used,” said Mr. Harris.

The intent of the going concern guidance in IAS 1 of the IFRS appears to be for insolvency early warning, with essential features such as management primary responsibility for going concern assessment and time horizon “at least but not limited to” 12 months. In fact, FASB initially pursued the same approach as outlined in the exposure paper on Going Concern in October 2008 that would write going concern assessment into the GAAP with going concern guidance converged with that of IAS 1 and would require certain early warning disclosures.

But three years later, FASB decided to go the opposite direction by announcing on January 11, 2012 that going concern assessment is not a management primary responsibility. As a result of this drastic departure, the AICPA decided to postpone convergence of its audit guidance for going concern, SAS 59, with International Standards of Auditing (ISA) 570 of the IAASB until further development in the Disclosures about Risks and Uncertainties and the Liquidation Basis of Accounting (Formerly Going Concern) project of the FASB.

Given the going concern issues during the current economic conditions and divergent going concern guidance in accounting and audit literatures, the current going concern audit model obviously could not fulfill the intended role in insolvency early warning.

Use of Going Concern Assumption in Financial Regulations
Pillar 1 capital is “gone concern” regulatory capital, which is assessed by stress testing at 99.98% confidence interval (CI) and assets are valued on liquidation basis. Pillar 2 capital is “going concern” economic capital, which is usually simulated at 80% CI for early warning that is mapped to triggers such as profit warning; and at 95% CI for financial distress that is mapped to triggers such as significant losses of capital.

However, such deterministic ICAAP approaches fail to pinpoint exactly where in capital structure a going concern would become a gone concern. While most Tier 1 capital instruments are well defined in terms of risk bearing, some Tier 2 components, such as going concern capital and cocos, are less clearly defined.
It appears that the going concern issues would likely pose challenges in reporting & disclosure consistency, such as calculation of Basel III capital ratios, trigger definition for bank hybrid capital and insolvency declaration of SIFI living will, especially for global SIFIs.

What is Going Concern Rating?
Going concern rating measures the gradation of going concern risk from “going concern” to “gone concern” in continuum on a rating (5) scale, which constitutes a pre-defined path to insolvency, and rates going concern risk and credit risk on the same rating scale with dynamic equity-debt notching. Going concern rating assesses insolvency risk in balance sheet test by measuring the relative volatility in valuation of assets and liability as well as in cash flow test by measuring the relative volatility in cash flow and obligations.

Equity-debt notching signifies the actual allocation of and potential claims on cash flow between equity and debt holders and defines the notching differentials between going concern rating and credit rating. It can swing quickly, either in favor of shareholders or creditors, by materialized “potential claims on cash flow”, such as “in the money” options, credit rating downgrades or margin calls.

Zone of insolvency is a relatively new legal concept that defines corporate governance practice and directors’ duties when a company is “approaching” the “vicinity of insolvency”. The boundaries of zone of insolvency are defined by going concern ratings and the width would change subject to the level of certainty (or uncertainty) of a company’s financial reporting. In zone of insolvency, creditors usually have more cash flow allocation than shareholders and therefore have higher cash flow priority, and accordingly credit rating would be 1 to 5 notches higher than going concern rating.

Going concern rating conveys three critical pieces of information in measuring going concern risk in continuum: exposure-based probability of insolvency; equity-debt notching that signifies cash flow priority via actual allocation of and potential claims on cash flow between equity and debt holders; and zone of insolvency that measures the level of uncertainty in financial reporting. For example, a company with a high going concern rating and a wide zone of insolvency suggests that the strong balance sheet and cash flow of the company during the current favorable market conditions is susceptible to surge in market illiquidity because of the high level of uncertainty in financial reporting and valuation assumptions. Hence, the company has a “short distance to insolvency”.

Proposed Use of Going Concern Rating in Financial Reporting Supply Chain
Given the lingering regulatory impasse on going concern guidance and the ubiquitous presence of going concern assumption in all facets of capital market activities, it is time to consider incorporate going concern rating into the global financial reporting supply chain as complement to statutory audit in going concern assessment and to credit rating in dynamic equity-debt notching analysis in zone of insolvency. As such, going concern rating, statutory audit and credit rating would form a new three-pillar structure that would significantly enhance the accuracy and efficiency in global financial reporting.

- By Simon Hu (simonhu66@gmail.com) – March 1, 2012

_____________________________________________________________________________________

1)  Steven B. Harris, a board member of the PCAOB, made the comment in his statement on Concept Release on Possible Revisions to PCAOB Standards Related to Report on Audited Financial Statements, June 21, 2011.
2) PCAOB (2008) Staff Audit Practice Alert No. 3, Audit Considerations in the Current Economic Environment. PCAOB (2011) Staff Audit Practice Alert No. 9, Assessing and Responding to Risk in the Current Economic Environment. FRC/APB (2008) Bulletin 2008/10, Going Concern Issues During the Current Economic Conditions. FRC (2009) Going Concern and Liquidity Risk: Guidance for Directors of UK Companies 2009.
3) FRC (2011) The Sharman Inquiry: Preliminary Report and Recommendations. PCAOB (2011) Concept Release on Possible Revisions to PCAOB Standards Related to Reports on Audited Financial Statements and Related Amendments to PCAOB Standards.
4) “Information uncertainty” refers to measurement uncertainty and volatility in financial reporting, such as those embedded in assumptions used for fair value estimates of financial assets and liabilities, especially at level II and III.
5) Simon Hu (2011) Convergence of Audit and Credit Rating Practices: Going Concern Ratings. International Journal of Disclosure and Governance, 8, 323-338. Doi:10.1057/jdg.2011.15.   http://www.palgrave-journals.com/jdg/journal/v8/n4/abs/jdg201115a.html

What do we do? For whom do we do it ? How do we excel?”

Strategic planning is an organization’s process of defining its strategy, or direction, and making decisions on allocating its resources to pursue this strategy.

In many organizations, this is viewed as a process for determining where an organization is going over the next year or—more typically—3 to 5 years (long term), although some extend their vision to 20 years.

The key components of strategic planning include an understanding of the firm’s vision, mission, values and strategies … often captured in a Vision or Mission Statement.

Vision: outlines what the organization wants to be, or how it wants the world in which it operates to be. It is a long-term view and concentrates on the future.

Mission: Defines the fundamental purpose of an organization or an enterprise, describing why it exists and what it does to achieve its vision.

Values: Beliefs that are shared among the stakeholders of an organization. Values drive an organization’s culture and priorities and provide a framework in which decisions are made.

Strategy: A combination of the ends or goals for which the firm is striving and the means or policies by which it is seeking to get there. The most important part of implementing the strategy is ensuring the company is going in the right direction which is towards the end vision.

For a company’s vision and mission to be effective, they must become assimilated into the organization’s culture. They need to be assessed internally and externally. The internal assessment should focus on how members inside the organization interpret their mission statement. The external assessment offers a different perspective. These discrepancies between these two assessments can provide insight into their effectiveness.

Robert Pestreich is a Director at Harrison, Stone & Associates, Inc., an executive search firm specializing in financial services recruiting.  You can connect with Robert on LinkedIn or follow @rpharrisonstone on Twitter.

Risk is not an exact science, but there are specific trends that should impact decision makers this year.

Trend #1: Compliance risk for financial institutions

The Basel II international banking regulations’ recommendations include specific guidelines for ensuring banks have enough capital to cover potential losses. These accords have been revised and updated frequently to specify more stringent capital requirements and risk management.

Trend #2: Project management risk

Aerospace, construction, engineering, and oil and gas industries have huge risks inherent in their mega-sized projects. Budget overruns and missed deadlines are all too common and often involve taxpayer dollars. The trend of better management of megaproject risks has been strong over the last five years, with more sophisticated techniques being applied.

Trend#3: Operational risk for financial institutions

Operational risks for financial institutions can be more difficult to define and manage than other traditional financial risks. As margins remain tight for many lending institutions, managers are taking risks inherent in their firm’s operations more seriously.

There is a wide range of internal or external threats, i.e. disruption due to natural disasters, employee fraud, and failed transactions. Transactional risk or “failed transactions”  is gaining importance because of its widespread nature and major cost to banks.  Efficient transactional operations reduces the need to grasp at fees and helps keep banks out of trouble.

Trend #4: Audit risk

Expect to see internal auditors, particularly of banks and insurance companies, demand more risk analysis – on a continuous basis and in formal yearly reviews. Audits are more likely to be conducted as the needs of the business demand rather than only on scheduled dates.

1,419 executives worldwide were surveyed.  Almost half of the companies with 10,000 or more employees have a chief risk officer vs. 11% three years ago.

Respondents were asked to identify the risk management capabilities they consider most critical to the performance of their organization and their company’s success in achieving them. Thirty-four percent of respondents said their company performed well at linking risk information to strategic decision-making, while the same percentage said they consider their companies successful at embedding a risk-aware culture at all levels.

Thirty percent said their companies performed well at embedding risk management practices and responsibilities within strategy and operations. Twenty-eight percent of respondents said their organizations performed well at ensuring that all decisions remain within the organization’s risk tolerance, while the same percentage said their companies were successful at driving risk-mitigation activities and proactively indentifying current and emerging risks.

Risks rising in importance
Participants in the survey were asked to identify the top ten risks of the most important in the past three years.  The majority cited natural disasters, next in popularity was the continued slow recovery, and  lastly, human resources issues, such as talent retention and acquisition. Half of the respondents said brand reputation had grown in significance over the past three years, while 49% cited business continuity planning, 48% legal risks and 46% new regulations/more enforcement. Almost 50% of respondents also cited capital scarcity as a risk that had grown in importance.   Electronic/data communications/information security risks were cited by 42%.

Conclusions

• The past three years have seen more companies recognizing the importance of enterprise-wide risk management and, often for the first time, adopting practices to implement it.
• 41% of companies say they are deepening and extending the ties between risk management and strategic planning.
• A good risk management group should operate like a boutique firm, with everyone an expert in a particular area who can be asked to do deep-level work.
• A truly successful risk management culture is focused on driving sustainable and profitable growth rather than simply protecting against downside losses and operational risks

In the backlash that has occurred since, risk management has become the primary focus of the Financial Stability Board (FSB), and with good reason.

In an effort to prevent future economic crises resulting from SIFI failures, the FSB has developed a proposal for living wills, or effective resolution regimes, for financial institutions. The FSB criteria for an effective resolution regime are outlined in  Key Attributes of Effective Resolution Regimes for Financial Institutions .

The objectives of living wills include:   Ensuring continuity of financial services   Protecting client assets  Allocating losses to shareholders while respecting the hierarchy of claims  Not relying on public solvency support  Avoiding unnecessary destruction of value  Providing speed, transparency and predictability for orderly resolution  Legally mandating cooperation, coordination and information exchange with relevant resolution authorities  Ensuring orderly market exits by non-viable firms  Enhancing market discipline and offering incentives for market-based solutions

In the event that risk management measures fail and a financial institution becomes no longer viable, the FSB proposal recommends that the living will should have provisions for two important activities: stabilization and liquidation. Stabilization is necessary for ensuring the continuity of vital financial services and may be achieved through sale of the firm to a third party or creditor-financed re-capitalization.

After or concurrent with stabilization measures, the liquidation phase must protect insured depositors, insurance policy holders and other retail customers, while winding down business operations in an orderly manner.  SIFIs are by definition critical to the success or failure of an economy. It is for this reason that measures beyond standard risk management practices should be required.

A living will allows authorities to resolve a failed financial institution or large company while minimizing risk to the taxpayer and ensuring continuity of critical financial services. However, implementing living wills as part of a larger risk management strategy should not be limited to just the 29 SIFIs that have been identified by the FSB. All large companies and financial institutions should have a living will in place in the event that existing risk management systems fail.

- By Robert Pestreich, Harrison, Stone & Associates