Are Exogenous Risk Management Requirements Value- or Cost-Enhancing?

Abstract

In this paper we report current practices of risk management in Slovenian companies and relate the incentives for risk management in post-transitional legal and business environment to the neoclassical theoretical motives for risk management. We find that in such environment, which more or less characterizes most of the Eastern European countries, neoclassical theoretical motives do not provide sufficient (endogenous) incentives to shareholders and managers to manage risk within firms. We argue that compulsory use of International Financial Reporting Standard (IFRS) disclosure requirements induce managers to actively analyze and manage risks. We see this exogenous push as necessary but unfortunately not sufficient mechanism to induce managers to manage risk within firms, since managers perceive the reporting requirements primarily as cost-enhancing. We argue that in order to endogenize the incentives governments need to create market conditions under which managers will also see the added value of the risk management. This will predominantly require change in mechanisms of corporate governance.

Keywords: risk management, derivatives, survey results, regulation, institutional factors

JEL Classification: G3