Charities and risk management in an uncertain world

There are many risks involved in running a charity, including:

• Economic risks – could include investment risk or the effect of price increases
• Financial risks - funding, adequacy of financial resources and cash flow
• Operational and people risks – in relation to both employees and volunteers
• Legislation and regulation – areas such as data protection, tax, statutory reporting requirements and pensions
• Cyber-security risks – are your finances and data well protected?
• Reputational damage - when risk mismanagement impacts external and stakeholder perception

How can risks to charities be identified?

While many charities will suggest that their greatest risk is reputational, risk  controls must identify all likely risks that can in some way be controlled, mitigated or simply avoided. For this, we need to identify the types of risk to which an organisation is exposed, narrowing them down to the most important – those that could, if left un-managed, lead to reputational damage or ultimately to the insolvency of the organisation - so that we can focus on managing those risks.

Risk management frameworks

A risk management framework provides templates and guidelines for charities to identify, eliminate or minimise risks, Risk management frameworks are fairly generic in nature, they can typically be used in any organisation irrespective of sector or size.

The risk management framework demonstrates how to manage risk within the organisation. You should be able to align your risks to your strategy and objectives, and worry less about managing risks that really aren't applicable to your organisation.

Risk management frameworks also allow for reporting to be fed throughout the organisation, which helps to inform good decision-making processes.

The risk management cycle

The risk management framework allows charities to split risk into four steps – identification, mitigation, monitoring and reporting. This approach should frame your risk management process.

One method of identifying risks is to ask experienced managers across the charity a simple question: what is the worst thing that could happen in your part of the charity? Then repeat with the executive and the board, but this time focusing on the whole organisation.

To assess risks,  plot the list on a risk matrix by assigning them scores based on likelihood and impact. Is it unlikely, probable, or highly likely? Would the risk have a low, medium or high impact on the overall running of the organisation (or in the specific area assessed)? This will score risks and allow a board of trustees or senior management to decide whether the risk is at an acceptable level to the charity. This is a useful process, even if the outcome is only an estimate, as it focuses the mind on the potential damage that could be caused if the risk is realised and also allows risks to be ranked. The scenario assessment may show that work is required to improve processes or controls.

Mitigation involves adding further controls to bring it in line with the risk appetite. It is vital to know if existing risk controls are effective and fit for purpose.

Once risk has been identified, assessed and mitigated, it should be recorded and monitored regularly. A risk register can record all this information and form part of regular board reporting.  .

Funding risks to charities

Funding remains a key source of risk to charities. The level of risk will depend on the type of funding. In general, endowments and membership dues tend to provide reliable sources of funding, while areas such as fundraising or legacies are more unpredictable. Equally, changes to government funding can provide a source of risk for charities. At all times, trustees need to stay on top of these risks, identifying and understanding these potential problems.

Investment risk for charities

There are similar problems with investment risk for charities. We look at the world through the two main investment asset classes, equities and fixed interest, with real estate, infrastructure, commodities and other alternatives considered as hybrids or derivatives of these two. Each asset class has its own characteristics and should perform differently in different economic and market environments.

The importance of macro risks reflect that we live in a complex world with a wide variety of economic and market influences that can and do have a material impact on the timing and extent of investment returns. Of all the macro risks, we see changes to growth and inflation expectations as the two most significant, as these changes drive many of the other risks and the relative performance of all the asset classes. For example, low growth and falling inflation led to falling interest rates, which drive the strong performance in both fixed interest investments and growth stocks in the last decade, a situation that has begun to reverse over more recent times.

The impact of world events

The impact of the Covid-19 pandemic is a risk everyone underestimated at the start of 2020. Geopolitical risk covers everything from US/China trade talks and the impact of Brexit to the Russian invasion of Ukraine that interrupted the supply of oil and gas and other commodities. Climate change is clearly an important risk factor. The rise in ‘popularism’ in developed world politics is another. As politics change economic priorities and policies are amended, regulatory risk rises.

Charity operational risks

In relation to investments, the operational risks to charities might include:

• The robustness of the custodians where the assets are held
• The quality of fund administration
• Whether the portfolio is exposed to stock lending, counterparty risk or credit risk

An investment manager should find the right combination of assets (investment strategy) for each charity’s capacity and appetite for risk and their long-term objectives. This combination of assets makes up the long-term strategic asset allocation, around which shorter term tactical asset allocation changes are made.

Whether the combination of assets selected perform as expected is a key risk, and whether your investment manager performs as expected is another. Holding a diversified portfolio of assets, rather than a concentrated one, will provide greater stability across investment returns and should reduce risk. Understanding the underlying factors impacting each asset type and the degree of correlation they have in different market environments is another part of the risk mitigation process. Liquidity risk - being able to withdraw your assets when you want to – should also be considered carefully. Your investment manager can help with these challenges.

Find out more about our charity investment management service.