Strengthening risk management in the business of the joint stock securities company in vietnam

Therefore, within thescope of doctor’s research and with desire to study and evaluate the situation ofrisk management in the securities companies, then contribiting the ideas tocriticism

1 Introduction and Motivation

Vietnam Stock Exchange have been developing for more than 13 years atthe end of 2013 During that period, the market used to be considered as one of themost developed exchange in the world with the fastest growth and capitalization.Accordingly, a lot of securities companies have being established which providingfinancial services for the market and take opportunities from the market as well Atthe beginning, there were only 4 securities companies, but these number increasedsignificantly in the next few years At the end of 2012, the exchange has 105securities companies established which focused on 4 main operations: brokerage;principal trading; underwriting and consulting As a result, securities companieshave contributed to improve liquidity of the market, attract more and moredomestic and foreign capitals for economy and promote the development of themarket

However, the unexpected movement of the stock market and financial crisis

of 2008 have serious impacted on the business of Vietnam securities companieslast few years Accordingly, many weakeness of the company have releaved such

as number of securities company over than the size of the market; weak financialcapacity; low competitive ability; inefficient corporate governance Consequently,many companies have experienced the poor business performances, even falledinto several years of losses, insolvency Specially, some of them have being closed

up as the requirement of State Securities Commission of Vietnam

In fact, there are a lot of causes explaining the weakness of securitiescompanies, but one of main reason is due to bad risk management In somecompanies, risk management have limited in papers or treating risks in order tominimize the loss, rather than warning the signs of potential lossing

From the corporate governance point of view, risk management isconsidered as the important instrument that supporing the company to makebusiness decisions and doing business in transparency and effectively Manyresearches have been doing on the impact of risk management on enterprises Clup(2002) investigates the relationship between capital structure and risk managementstrategy that the companies employ The study concludes that wheneverassumption of Modigliani & Miller change, risk management will increase thevalue of the companies through improving expected cash flows and reducing costs

of capital

In Vietnam, the research of situation of risk management in securitiescompanies has not done yet offically and professionally Therefore, within thescope of doctor’s research and with desire to study and evaluate the situation ofrisk management in the securities companies, then contribiting the ideas tocriticism of the securities companies, help policy makers and managers to makerisk management decision in effectivelly, the topic "Strengthening riskmanagement in the business of the joint stock securities company in Vietnam "hasbeen selected as doctoral thesis.

2 Literature review

Risk management is a relatively recent corporate function Historicalmilestones are helpful to illustrate its evolution Modern risk management startedafter 1950s Since the early 1963, the concept of risk management evolvedconsiderably by the book of Robert and Bob Hedges Accordingly, riskmanagement is a process that can be evaluated, controlled, and monitored all risksand their dependences to which the company is exposed.The goal of riskmanagement is to create a reference framework that will allow companies tohandle risk and uncertainty Risks are present in nearly all of firms’ financial andeconomic activities Therefore, many researches have been doing and followingsome main issues:

First, how can risk management be implemented in the companies? The study

of Clup (2001) focuses on detailing the process of risk management, includingindentify, analyse, assess, report, treat and control risk

Second, how can risk management be impacted on the value of firm? Clup

(1995) explains how risk management can increase the value of firm in differentways in inefficient market The ojective of managers, shareholders concentrate onmaximizing the value of firms through reducing costs of capital and increasingexpected cash flows

Third, how to measure risk management implementation of the companies.

There is limited research on criteria to be used in assessing the implementation

of ERM in institutions Most of the criteria used has been developed by consultingfirms such as Deloitte with their risk intelligence maturity model and Standardand Poor‟s with the criteria used for measuring the implementation of ERM to

be used in rating insurance companies (Standard & Poor‟s Ratings Direct, 2007)

On the other hand, Liebenberg and Hoyt (2003) uses the appointment of aChief Risk officer (CRO) as a signal of ERM implementation The keylimitation of this method is that it does not seem to take into account the fact thatthere are companies where ERM implementation is championed by the Chief

Audit Executive (CAE) thus some companies may be judged as not havingimplemented ERM when in actual fact they have This method also does notconsider the transitory nature of ERM implementation thus only assumes twostates, that is ERM is fully implemented or not implemented at all.

Four, which factors can be impacted on the risk management implementation

of the companies Kleffner at all (2003) concludes that the bigger companies haveimplemented risk management better than smaller companies, then their valueshave increased better

Although there are a lot of researches on ERM, but some limitations are stillavailable as follows:

- Most of studies have investigated the companies in developed markets, andsome in developing markets

- Researches have concentrated on financial institutions such as commercialbanks or insurance companies There is limited researches on securities companies,investment banks, including Vietnam In fact, these companies are doing riskybusinesses, so that it is necessary to implement risk management

- From the macro-economic management, the objective of ERM is protectinginvestors and the market Therefore, the companies must implement riskmanagement according to the law Besides, the cost of the implementing issignificant However, there is no research on the relationship and cost of riskmanagement in the companies

- The methodology of measuring risk management implement is limited andcontroversially

In Vietnam, risk management of securities companies has been concerned byresearchers, policy makers and securities companies as well Le Cong Dien (2010)studied the issues “Risk management of joint stock securities companies – Thestatus and solutions” The research analysed the current situation of riskmanagement of securities companies based on each operation process of thecompanies: brokerage, principal trading, underwriting, accounting, then identifythe risk can be exposed to the companies After that, the study submits some mainsolutions to improve risk management of the companies [11] However, the studyhas not yet analysed detail of system risk and cross risk in the business of thecompanies Also, the study has not clarified the situation of treating risk, using riskmanagement instruments, hedging methods of the companies

The article of Le Hoang Nga (2013) identifies some main risk of the securitiescompanies and then provides ERM process for the companies However, the study

limited in theory Other articles focus on introduction of risk management andguide how to implement

In conclusion, most researches of risk management of securities companies inVietnam have concentrated on identifying and analyzing each type of risk exposed

to the companies In business, there is no way of avoiding risk without giving upthe opportunity to gain profits Therefore, to be competitive, companies mustlearn how to manage risk intelligently This means identifying risks early,expecting the unexpected and knowing which risks are worth taking and which toavoid The main objective of this study is to assess whether the level of ERMimplementation in securities companies in Vietnam causes an increase in the value

of those companies and establish the significant factors that influence the level ofERM implementation in securities companies As a results, some main solutionwill be provided to hepl the companies implement risk management moreeffectively

3 Research purposes

Theoretical risk analysis of securities companies and charateristics of riskmanagement of joint stock securities companies Overview risk managementprocess of securities companies; providing criteria measuring of risk managementimplementation and listing main factors impacted on risk managementimplementation of securities companies

Identifying and analyzing type of risk of securities business includingsystematic risks and specific risks based on doing survey Accordingly, assessingthe current implementation of risk management process, using risk managementinstruements, appying methods of treating risks in securities companies

Based on vision and mission of the stock market and securities companies,combines with resuts of the survey, solutions of improving risk management ofsecurities companies are suggested in order to help the companies increase theirvalue, market share, position and stainable growth as well

4 Scope of research

The research focuses on analyzing type of risk, risk management process,risk management implementation and risk management instruments of Vietnamjoint stock securities companies

The research includes all joint stock securities companies in Vietnam (listedand unlisted companies) untill 31/12/2013, combining with researchingexperiences of risk management of other countries in the world

5 Methodology

To accomplish the objectives of the study, the research appliesthe method ofanalysis, synthesis and comparative collation, inductive problem Based on themethod of dialectical materialism and historical materialism to review, evaluateand clarify practical problems, draw the principal needs to be resolved to proposesolutions and recommendations

In addition, the research also uses a survey method to interview riskmanagers of securities companies, collects statistical data from the companies’sfinancial statement, annual report of State Securities Commission of Vietnam,based on EPIDATA and SPSS software to analyze, graph and calculate thecorrelation coefficient between random variables

The research also inherits some of the results of the scientific works related

to the study which analyzing deeply the concerned issues

Chapter 3: Solutions for strenthening the risk management implementation

of joint-stock securities companies in Vietnam

CHAPTER 1: THEORETICAL BACKGROUND OF RISK MANAGEMENT

OF THE SECURITIES COMPANIES BUSINESS

1.1 OVERVIEW OF RISK OF SECURITIES COMPANIES BUSINESS 1.1.1 Definition and characteristics of risk of the securities companies

business

Risk of securities business is defined as unexpected events which exposed tothe losses of the company’s assets, losses of profits or more expenses to fullfil acertain business operation The concept consists of two main points: (1) thechanges; (2) results of unexpected changes The changes is considered asuncertainty of issues which can be happened in the future and can not estimated theresults or probability of exposures certaintly In securities business, there is noway of avoiding risk without giving up the opportunity to gain profits Therefore,

to be competitive, companies must learn how to manage risk intelligently Thismeans identifying risks early, expecting the unexpected and knowing which risksare worth taking and which to avoid

1.1.2 Type of risk of the securities companies business

1.1.2.1 In term of business behaviour

Based on this criteria, risk of securities companies business can be classifiedinto systematic risk and specific risk of each business operation

1.1.2.2 In term of source of exposures

Accordingly, risk can be grouped into system risk and unsystem risk

1.1.2.3 The interaction between risk

The analysis of the types of risks are often quite independent but in factthere is close relationship between each other Because of that, risk management ofsecurities companies is not only managing each type of risk independently, butalso need having a strategy which manage the risk systematically and intergratedly

to achieve effective performances

1.1.3 Causes of risk exposed to the business of securities companies

- Objective events

- Subjective issues from securities companies

- Issues from customers

1.2 RISK MANAGEMENT OF SECURITIES COMPANIES BUSINESS

1.2.1 Definition and characteristics

Securities companies risk management is, in essence, the latest name for anoverall risk management approach to business risks Precursors to this term includecorporate risk management, business risk management, holistic risk management,and integrated risk management Although each of these terms has a slightlydifferent focus, in part fostered by the risk elements that were of primary concern

to organizations when each term first emerged, the general concepts are quitesimilar Enterprise risk management is defined as:

“The process by which securities companies in all operation assess, control, exploit, finance and monitor risks from all sources for the purpose of increasing the company’s short and long term value to its stakeholders.”

Risk management of securities companies business has some charateristics:

- It is important role of corporate governance of the securities companies

- It has some same characteristics of banking risk management

- It can be implemented through capital management

1.2.2 Why joint stock securities companies have to implement risk management

The main capital market imperfections used in the literature as a basis for riskmanagement rationales that will be explained in detail in the sections It isimportant to specify that the various positive theories to explain corporate riskmanagement rely on different corporate objectives (e.g firm value, cash flows,pre-tax income) For instance, the corporate tax burden can be reduced by hedgingpre-tax income, the cost of financial distress can be lowered by hedging total cashflow, and investment and financing policies can be coordinated by hedging cashflow before investment spending (as will be explained below) Nevertheless, theseactivities sometimes do not work in the same direction , that is, they can reduce thevolatility of some variables but simultaneously increase the volatility of others.Consequently, there exists the possibility of conflicts between different corporatetargets that have to be taken into account when determining the risk managementstrategy They can be avoided through the selection of appropriate hedginginstruments that are independent of each other and can thus be employed to hedgedifferent objective values (Froot, Scharfstein and Stein, 1993; Graham and Smith,1999; Smith, 1995)

1.2.3 The steps of risk management

Enterprise risk management actually represents a return to the roots of riskmanagement However, gaining the ability to quantify exposures with a far lesssophisticated approach than can be used for most hazard and financial riskspresents new challenges Although consideration of operational and strategic risk

is important, the lack of data and the difficulty in predicting the likelihood of a loss

or the financial impact if a loss were to occur make it hard to quantify many risks afirm faces That in itself is the challenge that enterprise risk management provides.Nevertheless, the basic approach of identifying, measuring, evaluating, controllingand monitoring risk remains the same The steps of enterprise risk management arequite familiar to traditional risk managers Most commonly they are:

Risk Identification – Identify risk on an enterprise basis

Risk Analysis – Measure and report risk exposure

Risk Response – Formulate strategies to limit risk

Risk Control – Implement strategies

Risk Monitoring – Monitor results

And repeat…

Except for minor changes in wording, the steps of enterprise risk managementare the same as those first enumerated by Mehr and Hedges in 1963 Enterpriserisk management is risk management applied to the entire organization The basicapproach, the goals and the focus of enterprise risk management are the same asthose that have worked so effectively for traditional risk managers since the fieldwas first developed

1.2.4 Measuring ERM implementation of the securities companies business

Presence of a Chief Risk Officer (CRO)/Risk champion - Risk managers

have an important role in the implementation of risk management in institutions.Liebenberg and Hoyt (2003) studied the determinants of ERM as evidenced by theappointment of a Chief Risk Officer and observed that though there was an absentexplicit disclosure for ERM implementation, the appointment of a CRO can betaken as a strong signal of ERM implementation in the companies Beasley et al(2005) also investigated whether the presence of a CRO is positively associatedwith the deployment of ERM The study finds that the presence of a CRO/Riskchampion in senior management significantly increases the entity‟s stage in ERMimplementation Therefore, we investigate the following hypothesis;

Risk management policy represented by risk appetite framework of the

securities companies, risk limitation for each operation, applying risk managementinstruments and software

Emerging risk warning system: this system focuses on controlling the risks that

may occur in the process of implementing the securities companies business, assessing the level of market risk, operational risk, settlement risk and total risk of securities business.

Risk analysis models: applying value at risk, scenario analysis, tree decision,

simulation model are considered as a signal of risk management implementation.

Internal control is essentially a series of integrated activities, measures, plans,

views, rules and policies and efforts of all members of the company to ensure efficient operation , achieve the company’s goals.

Capital safety: securities companies is types of conditional business with

required capital according to the securities law

1.2.5 Factors impacted on risk management of the securities companies

 Regulations on risk management of the securities companies

1.3 Risk management experiences of securities companies in the world

- Securities companies are classified into grade from A to E, in each class,the company can be classified into 11 smaller sub-classes (AAA, AA, A, BBB,

BB, B, CCC, CC, C, D, E) Rating of A, B, and C show that the risk managementcapabilities of the company's securities meet the current business, in which sub-classes reflect the level of risk management of the company

1.3.4 Lessons for joint stock securities companies in Vietnam

- The securities company is the kind of business conditions, including thelegal capital for each type of business and closely monitored by Securitiescommission

- Securities Commission issued regulations on risk management andcompliance have forced securities companies in order to create the second layer ofrisk protection

- Securities Commission also provides remedies for violations of securitiesregulations, including administrative sanctions and criminal

- Ranking and classification of securities companies

- Risk Management is essentially an enterprise operating activities

- Securities companies build risk management department independently

CHAPTER 2 – THE SITUATION OF RISK MANAGEMENT OF THE SECURITIES COMPANIES BUSINESS IN VIETNAM

To assess the risk management implementation of securities companies inVietnam, the research have done a survey for all joint stock companies Thequestionaires have interviewed dean of risk management department (if possible)

or Internal controlling/auditing department The survey focuses on identifying thetypes of risk of the securities companies business and assessing the level of riskmanagement implementation as criteria mentioned in the chapter 1 Moreover, thedatabase have been collected from financial statement of the securities companiesand its websites as well during the period of 2008 – 2013 Some information havealso collected from websites of Ho Chi Minh stock exchange and Hanoi stockexchange EPIDATA and SPSS software are used to support input and output ofthe survey

In fact, number of securities companies have increased from 4 companies inthe beginning period of the market to 105 companies at the end of 2008 Thisnumber remains until 2013 However, among 105 questionaires have been sent tothese companies, only 77 valid of them are obtained The missing is due to withoutfully feedback, financial statement, merger & acquisition The results of the survey

as following:

2.1 IDENTIFYING THE RISK OF THE SECURITIES COMPANIES BUSINESS 2.1.1 Overview of securities companies business

Ownership structure Currently there are 44% of survey securities

companies having foreign capital, in which 13 companies have maximum foreigncapital of 49%, 3 companies with more than 40%, 8 companies with the range of5% - 30% and the remaining companies under 5% In term of charter capital, totalforeign capital is about 4.510,13 billion dong and accounts for 12,88% of totalcharter capital of all securities companies in 2013

Operational business According to the results of the survey, during the

period of 2008 – 2013, on average 2% of the companies has been providing onlyconslting service for the market, meanwhile 60% of the companies have been