The Cost of Risk-Taking Organization Analysis

Organizational Behavior 2

The Cost of Risk-taking

Part 1 - Background

Company Introduction

CM is a medium-sized listed commercial bank in China, offering financial services such as corporate financing, project financing, and corporate cash management. It was established in Beijing in 2006, and has set up regional branches in almost every city throughout China. Among all these branches, Shanghai Branch was one of the most profitable branches.

CM was famous for its efficiency, flexibility, and profitability. It was recognized as a pioneer in creating innovative financing services by the public, but was also well-known for its aggressiveness, individualism and risk-taking culture. Different from large state-owned banks which dominated the market of state-owned corporations and traditional services, CM focused more on medium-sized corporations and creative services which generated higher reward as well as higher risks.

Unexpected Crisis

During last few years, the economic downturn crushed thousands of medium-sized companies; Fintech and non-traditional financial institutions dug a large portion of the market share; regulations changed rapidly; compliance requirements became unprecedently demanding. Banks including CM were forced to delicately balance revenue growth and risk management.

Large scale of bankruptcy caused the unusual rise of non-performing financing projects. After internal inspections, CM discovered that most non-performing projects were attributed to the deficiency in risk assessment and risk management. These projects were viewed as lucrative during the previous years, and contributed to CM’s impressive annual financial performances. The problems were buried under the economic prosperity for three years until 2015. With the aftermath effects emerged gradually, many employees left CM after receiving satisfying bonuses.

To offset the drastic drop in profits, CM invented some new financing services that not only benefited the clients but also circumvented regulatory restrictions. The service models were soon copied by other banks. Regulators noticed the abnormal increase in certain data, and hence conducted continuous investigations on these projects. They publicly prohibited such services and punished several banks including CM.

The Intention to Switch Company Culture

The management realized that the prioritization of business growth over risk-management in the past few years finally resulted in enormous costs. During 2015, the board appointed a new chief for Shanghai Branch. The new chief was viewed as a legend that had created new profit records for another two regional branches. After taking authority, the new chief delivered several speeches, addressing the importance of “sticking to the bottom line of risk management and compliance”.  However, to switch the culture from growth-oriented towards more risk-sensitive was a challenging revolution.

Part 2 - Issues Analysis

Organizational Structure

Shanghai Branch was composed of several parallel departments. The most business-related departments included business development (BD), risk assessment (RA) and risk management (RM). BD managers, RA specialists, and RM specialists were the basic level in each department, with various seniority and capability. The other departments such as operation, Legal, IT, and Finance mainly supported internal processes, and thus rarely interacted with clients directly.

BD, similar to sales, were responsible for seeking new projects, maintaining client relationships, and following up with the progress of projects until completion. RA was responsible for assessing clients or projects, making decisions on the project acceptance and confirming final proposals on each project. RM’s duty was to assist BD on due diligence during the project searching stage and follow up the risk monitor and proposal implementation until completion. Each department had a department chief who led the function line.

Under the Shanghai Branch were approximately 60 sub-branches led by sub-branch chiefs, providing daily services throughout the city. BD managers, RM specialists were allocated to these sub-branches, and all the RA specialists were based in Shanghai Branch. A typically sub-branch was staffed by a sub-branch chief (equivalent level to department chiefs), several BD managers and a RM specialist.

To supplement career development opportunity and to prevent fraud, different rotation mechanisms were implemented: most staffs and the chief of the sub-branches were required to rotate to other sub-branches every two years; employees are entitled to apply for rotation to other departments.

Routine Process

In general, a financing project was conducted following the below routine process: a financing request from a corporate client → BD manager and a RM specialist conducted due diligence together, report and draft initial proposal to the sub-branch chief for approval → documents circulated to RA, a RA specialist assessed the project risk and feasibility, decided whether or not to accept, determined the final proposal covering key contents such as the usage, amount and repayment plans, proposal submitted for RA chief’s approval → BD manager negotiated with the client according to the final proposal, agreement reached → BD manager and RM specialist conducted regular client revisits, reported updates to relevant department chiefs and sub-branch chiefs → If the client cannot repay, BD, sub-branch chief, RA and RM departments discussed the solutions, renegotiated with the clients and implemented accordingly.

A stable team of sub-branch and RA department were supposed to follow the project. However, under certain conditions, projects would be re-assigned to new members: 1) a team member was promoted to chief, 2) a team member quit or was rotated to other functions, 3) a department was divided or merged.

Incentives

The payroll systems among the departments varied largely. Basically, every employee’s payment was related to his/her level, individual performance, department performance and the branch’s annual financial performance.

The BD managers’ payment in CM was known to be highly competitive within the industry. Their bonus, promotion and performance evaluation were closely tied to the revenue of their individual business development results. Once a new project was approved and implemented, both the BD manager and the sub-branch would receive an initial bonus upon the beginning. With the completion of each stage (such as received a quarterly repayment of a loan), they would receive an extra bonus proportionally. If the project would generate considerable revenue and profit, fast promotion to chief position was possible. On the other hand, if the project turned out to be non-performing, the BD manager and the sub-branch would be negatively affected in the year-end performance evaluation and punished by a relatively small amount of penalty, the rest bonus relevant to the project would be ceased.