Stung by Crisis, Asia Wakes up to Risk Management

Date: Thursday, September 24, 2009
Author: Nathan Layne,

A year ago, when Shinsei Bank Chairman Masamoto Yashiro was asked why Japanese banks had been able to avoid the worst of the financial crisis, he dismissed it as something akin to a lucky break.

Since the crisis, Shinsei and other companies across Asia have been trying to take luck out of the equation. They are investing in computer systems and strengthening internal controls to improve their ability to identify and mitigate risk.

Asian companies were not at the heart of what triggered the crisis, but they were blindsided by the fallout, from banks booking heavy losses on asset-backed securities to manufacturers having difficulty raising funds after credit markets seized up.

The troubles faced in Asia in part reflect a relatively cavalier attitude to managing risk, especially in fast-growing economies like South Korea, says Duncan Martin, a partner at Boston Consulting Group.

"It's not uncommon for companies in high growth economies, high growth environments, to not really worry too much about risk management because they are so focused on growth, and you can grow your way out of a lot of problems," Mr. Martin said. "People are now thinking a bit more carefully about the balance between growth and risk."

Japanese banks sidestepped the crippling losses that befell Wall Street not because of superior risk management but because they were still dealing with the legacy of the country's economic bubble and were not at the forefront of investment banking.

But they did not escape the crisis unscathed.

Along with other financial institutions in Asia, they lapped up asset-backed securities they believed were safe because they had been endorsed by the ratings agencies. Many also had exposure to Lehman Brothers Holdings Inc. or were hit by a sharp rise in bad loans.

Shinsei, a mid-sized Japanese lender which lost about $1.5 billion in the past business year, has overhauled its governance structure to give those in charge of risk management a veto power over the chief executive and a hand in shaping the budget.

Michael Cook, who was brought in as Shinsei's chief risk officer this year, says the bank is relying less on the ratings agencies and more on its own fundamental analysis in assessing credit and market risks.

"Pre-crisis, there were a lot of people who were not very risk aware. Either they chose not to be or they hadn't experienced it so they really didn't understand risk at all," Mr. Cook said. "It's different now."


The crisis exposed large holes in risk management among Asian banks and their business customers. A number of small-sized South Korean companies were crippled by "knock-in knock-out" derivatives contracts, which were sold as a hedge against currency swings but in fact triggered massive losses when the Korean won slumped last year.

For banks, the deals exposed them to the reputational risk of negative publicity while also making it less likely their clients could make good on loans. For the exporters that bought the products, the transaction amounted to little more than currency speculation, taking them outside their realm of expertise.

"I think the banks that sold those and the companies that bought those have definitely reconsidered what risk management is versus speculation," said Boston Consulting's Mr. Martin.

The less visible victim of the crisis was the traditional manufacturer or service company with no direct exposure to risky financial products, but still vulnerable by way of their reliance on shaky credit markets or banks to raise funds.

Y.H. Chung, chief operating officer in charge of offshore business at STX Offshore & Shipbuilding, says many energy development projects have been put on hold due to financing issues and that, in general, caution prevails.

"We are conducting a risk analysis before taking any order," he said. "The offshore business can incur huge losses if a deal goes wrong."

Nippon Sheet Glass, a Japanese glass maker, decided early on that its biggest risks were liquidity and holding on to its fixed cost base when it was clear that demand would not return to pre-crisis levels anytime soon, if ever.

"Liquidity was going backwards and earnings were going down, so the risk management exercise for us was we needed to spend some money that we didn't have, so that the company could continue," said Nippon Sheet Chief Financial Officer Mike Powell.

With a balance sheet still stretched from buying British glass maker Pilkington in 2006, Nippon Sheet worked with its banks to secure an 80 billion-yen ($878 million) funding package composed of a preferred share issue and debt refinancing.

After cutting 15% of its production capacity, the company now faces the risk that it would not be able to meet demand if it were to recover sharply, and it probably couldn't fund an expansion by taking on more debt.

"If the economy did sort of follow the equity markets that might give us a bit of an issue," Mr. Powell said. "But, as of today, I don't think that's a big risk."

By Nathan Layne, with additional reporting by Rhee So-eui