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Management accounting and risk management in Malaysian nancial institutions

An exploratory study
Siti Zaleha Abdul Rasid
International Business School, Universiti Teknologi Malaysia, Kuala Lumpur, Malaysia

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Received 30 March 2010 Reviewed 28 January 2011 Accepted 15 March 2011

Abdul Rahim Abdul Rahman

Department of Accounting, Kuliyyah of Economy and Management Science, International Islamic University Malaysia, Kuala Lumpur, Malaysia, and

Wan Khairuzzaman Wan Ismail

International Business School, Universiti Teknologi Malaysia, Kuala Lumpur, Malaysia
Abstract
Purpose The purpose of this paper is to examine the link between management accounting and risk management. The paper measures the extent to which management accounting practices help in managing risks and the extent of the integration between these two important managerial functions. Design/methodology/approach The study used a mail survey of nancial institutions listed in the Malaysian Central Banks web site. The respondents to whom 106 questionnaires were sent were the chief nancial ofcers; the response rate was 68 percent. A total of 16 post-survey semi-structured interviews were also conducted with selected respondents to gain further insights into the survey ndings. Findings The ndings from the survey indicate that analysis of nancial statements was perceived to contribute most towards risk management. The majority of the respondents were of the view that the management accounting function was greatly involved in the organizations risk management. Consistent with the survey ndings, the interviewees also perceived that budgetary control, budgeting, and strategic planning played important roles in managing risk. Research limitations/implications This is a study conducted in Malaysian nancial institutions and thus, results may not be generalizable to other contexts. The ndings of this study strengthen the importance of both management accounting and risk management in complementing each other to form part of the corporate performance management systems. Originality/value This paper contributes to the literature as very few studies have examined the signicant link between management accounting and risk management. Keywords Management accounting, Risk management, Financial institutions, Malaysia Paper type Research paper

Managerial Auditing Journal Vol. 26 No. 7, 2011 pp. 566-585 q Emerald Group Publishing Limited 0268-6902 DOI 10.1108/02686901111151314

Introduction Financial institutions play an important role in the economy. They act as intermediaries between the surplus and decit units and this intermediary role is crucial for the efcient allocation of resources in the modern economy (Sinkey, 2002; El-Hawary et al., 2007).

As observed from the latest US nancial crisis, a collapse of the nancial institutions affects the stability of the whole economy, and, hence, it is crucial to maintain the soundness and the stability of the nancial institutions. They face a diverse customer base with a highly integrated business value chain and consequently are exposed to a wide array of risks. Therefore, nancial institutions should have robust risk management systems to maintain the safety and soundness of their operations (Bank Negara Malaysia, BNM, 2008; Blunden, 2005). Financial liberalization and technological revolution have also intensied competitive pressures among nancial institutions. They are given the exibility to develop their own strategies to remain competitive. At the same time, advances in technology have allowed them to develop new and efcient delivery and processing channels, as well as to be more innovative in delivering new products and services. The complexity of the nancial services business is also increased due to the emergence of these increasingly innovative products and distribution channels. Within this complex environment, managers need relevant nancial and non-nancial information for decision making. The ability of management to make informed decisions is linked to the quality of management information available to them (Kafaan, 2001; Rezaee, 2005) and good information arises from an effective management accounting system (MAS), an important tool in providing decision-making information (Cole, 1988). Both management accounting and risk management functions are expected to complement each other (Bhimani, 2009; Collier et al., 2007; Mikes, 2006) and serve the purpose of aiding decision making. Both practices undertake ex ante and ex post perspectives. Management accounting provides information for planning (ex ante) and control (ex post) in an organization. However, risk management through risk-taking decisions are considered an ex ante perspective and once risk decisions are made, risk monitoring takes place from an ex post perspective (Bessis, 2002). For nancial institutions that are in the business of managing risks (Bowling and Rieger, 2005; Hakenes, 2004; Bowling et al., 2003), management accounting contributes in providing information for risk management. Hence, this study examines the link between management accounting and risk management and two research questions are being addressed: RQ1. Are management accounting techniques and tools being used in managing risks? RQ2. What is the extent of the integration between management accounting and risk management functions? This paper contributes to the management accounting literature in two ways. It provides empirical evidence concerning the linkage between management accounting and risk management, as little research has been previously conducted to provide this evidence. The paper also seeks to contribute to the underdevelopment of management accounting research in the nancial services sector (Helliar et al., 2002; Billings and Capie, 2004). Motivations for the study There are two motivations for the study. First, the linkage between risk management as an internal control system (Collier et al., 2004; Williamson, 2004; Soin, 2005; Mikes, 2006) and management accounting as another control system (Otley, 1980; Gul and Chia, 1994;

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Chong, 1996; Chenhall, 2003) as has been recently recognized. Management accounting has always been associated with the intent of aiding enterprise decision making. Risk management is also central to the decision making concerns of both internal and external parties to an organization. Management accounting and risk management should complement each other as integral parts of the performance management of nancial institutions. However, empirical evidence of the linkage between these two functions is limited. Second, there is also a growing interest in the implementation of enterprise risk management (ERM) among nancial institutions. The reason for this growing interest is twofold: (1) continuing regulatory scrutiny; and (2) the release of a new ERM framework from the Committee of Sponsoring Organizations of the Treadway Commission (COSO) (Bowling and Rieger, 2005). ERM goes beyond compliance and has increasingly been seen as a source of competitive advantage, as it is broad in scope and does not limit consideration to the specic items a regulator may require (Platt, 2004). Under ERM, performance management of business lines is integrated with risk management and risks are aggregated across different types of risk and across business units to obtain enterprise-wide risk. Both are integral to strategic planning and performance assessment in an organization. At the same time, performance management is seen as the main task of the management accounting function (Otley, 2001). Additional empirical data are required to support the limited evidence of the linkage between management accounting and risk management. Since the core business function of nancial institutions are managing risks (Bowling and Rieger, 2005; Hakenes, 2004; Bowling et al., 2003), risk management should be an essential part of the business processes. At the same time, MASs, which are essential for performance management and control (Williamson, 2004), are also an important part of the business processes. Hence, this study aims to contribute by exploring the linkages between management accounting and risk management in the nancial institutions. This paper is organized as follows. The next section reviews the relevant literature on the link between risk management and management accounting. The subsequent section elaborates the research method for the study. The nal section of the paper covers the data analysis and discussion of the ndings and conclusions of the study. Background literature The International Federation of Accountants (IFAC, 1998) denes management accounting as the process of identication, measurement, accumulation, analysis, preparation, interpretation, and communication of information (nancial and operational) used for the planning, control, and effective use of resources by management. Thus, management accounting becomes an integral part of the management process in an organization. It provides information essential for: . controlling the current activities of an organization; . planning its future strategies, tactics, and operations; . optimizing the use of its resources;

. . .

measuring and evaluating performance; reducing subjectivity in the decision-making process; and improving internal and external communication (IFAC, 1998).

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Management accounting is a tool for achieving high performance, as it provides a measurement of performance, warning of risks, information for decisions, and data for planning (Cole, 1988). Management accounting is also used as a tool to manage a rms resources. Cole (1988) specically argues that a good MAS does the following: . identies the cost and protability of doing business by organization, product, and major customer; . avoids surprises; . allows all managers to explain their performance as it is reported; . permits everyone to participate in planning, and plan-to-actual reporting is used as a management tool; . provides timely, accurate, relevant, and comprehensive reporting; . ensures that only one set of numbers is oating around the organization; and . reduces or eliminates complaints about information availability. Hence, management accounting plays an important role in planning, controlling, communicating, monitoring, and linking together the various sections and divisions in an organization (Atkinson et al., 2001; Soin, 2005). Risk is generally referred to as the possibility of danger, loss, injury, or other adverse consequences and the major risks faced by nancial institutions include credit risk, market risk, interest rate risk, liquidity risk, and operational risk (Bessis, 2002). Risk management may be dened as any set of actions taken by individuals or corporations in an effort to alter the risk arising from their primary lines of business (Cummins et al., 1998). The generic risk management framework includes four major risk management components risk identication, risk measurement, risk mitigation, and risk monitoring and reporting (Bessis, 2002). Financial institutions are governed by the local regulatory framework as well as an international regulatory framework. All the nancial institutions[1] in Malaysia are regulated by the Central Bank of Malaysia. The banking institutions are subjected to the Banking and Financial Institutions Act 1989 and, in addition, Islamic banks are subjected to the Islamic Banking Act 1983. Complementing the banking institutions, the non-bank nancial intermediaries (NBFIs) are under the supervision of various government departments and agencies. The insurance industry has been under the supervision of the Central Bank since 1 May 1988. To ensure the soundness and safety of the Malaysian nancial institutions on the international front, they are also subjected to the Basel Committee on Banking Supervision, an international nancial regulation. This committee has developed a framework known as International Convergence of Capital Measurement and Capital Standards: A Revised Framework, which is generally known as Basel II. It consists of three pillars, namely, minimum capital requirements, supervisory review, and market discipline. In complying with Basel II, nancial institutions are encouraged to have risk management systems that will satisfy internal use as well as regulatory purposes (Blunden, 2005). This compliance came into effect in January 2008.

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Financial services companies were among the rst to adopt ERM techniques and appoint chief risk ofcers (CROs) (Platt, 2004; Beasley et al., 2005) to manage all the risks in the organizations. The appointment of a CRO is considered as an indicator for ERM implementation (Liebenberg and Hoyt, 2003). An organization assesses and analyses risks holistically with ERM by identifying areas of concern and proactively developing measures to comply with regulations. Contrary to the traditional risk management, in which each type of risk is managed separately, in ERM, rms manage a wide array of risks in an integrated, holistic fashion (Liebenberg and Hoyt, 2003). The commonly adopted framework for ERM is COSOs (2004) ERM framework which consists of eight interrelated components. These components are internal environment, objective setting, event identication, risk assessment, risk response, control activities, information and communication, and monitoring. On the other hand, based on the IFAC (1998) framework, management accounting evolved from cost controlling (stage 1 pre 1950) to value creation (stage 4 by 1995). In stage 1, most companies focused on cost determination and nancial control. Simple management accounting techniques were used and the main sources of data were nancial statements consisting of income statements, balance sheets, and cash ow statements. By 1995 (stage 4), it became important to identify the drivers of customer value, shareholder value, and organizational innovation. Contemporary management accounting techniques such as just-in-time, target costing, balanced scorecard (BSC), and strategic management accounting (SMA) gained dominance during this period. These management accounting tools and techniques are capable of considering a broad spectrum of information that can be used for decision making, planning, and control. An MAS is part of the management control system (Chenhall, 2003) and it is inept to consider management control as being distinctly separate and independent from risk management or corporate governance concerns (Bhimani, 2009, p. 3). Although the linkage between management accounting and risk management is recent, it is rapidly growing. Some authors (Williamson, 2004; Collier et al., 2004; Soin, 2005; Collier and Berry, 2002; McWhorter et al., 2006; Mikes, 2006) have explored this linkage. Williamson (2004) proposed that management accounting and management control can contribute to the practice of ERM. Williamson (2004) argued that management accountants have expertise in identifying, analyzing, and communicating management information for planning, control, performance measurement, and decision making and should, therefore, be able to help develop techniques for ERM. In addition, with an understanding of organizational, behavioural as well as economic implications, management accountants should be able to better interpret and communicate risk management information. Furthermore, risk-based management accounting can be carried out in which assessed risks are compared to objectives, standards, forecasts, budget, and actual performance. Subsequently, the risk implications can be considered in strategy; planning; control; management of revenue; costs and cash ow; and management of value drivers. Hence, management accounting is seen as supporting risk management and control, whether by quantifying objectives; estimating the consequences of potential outcomes from risk events; analyzing the cost and benets of risk management processes; or comparing actual performance to risks faced (Williamson, 2004). Some empirical studies on risk management and management accounting have been conducted. Soin (2005) investigated the contribution of management accounting

and control information on the practice of risk management in the UK nancial services sector. Consistent with Williamson (2004), she argued that management accounting has a potential role in supporting risk management. Soin (2005) examined whether current MASs support the changing patterns of demand for information about risk by corporate stakeholders. However, the study suggested that risk management systems in the nancial services sector were not utilizing management accounting techniques and that there was no clear role for management accountants in risk management. The lack of emphasis on management accounting control systems in the nancial services sector was cited as the reason for the ndings. There was some emphasis on budgeting, cost control, and performance measurement, but not in relation to risks. Similarly, Collier et al. (2004) found that there was very little integration between risk management and management accounting. The study found that the systems and controls that were in place in the UK nancial services sector were very closely matched to the requirements set out by the regulator (Soin, 2005). Mikes (2006), on the other hand, examined both risk management and management accounting control as multiple control systems in an organization. She conducted a case study to explore the changing context and internal dynamics of a multiple control system acting as the divisional control in a nancial services organization. Based on a political and institutional perspective, the study showed how two control systems, namely, rm-wide risk management system and accounting controls, complemented each other (as the contingency theory suggests), as well as competed with each other for relevance and attention from top management. Accounting control has been found to possess institutional appropriateness compared to risk control (ERM) and was extensively used in decision making (Mikes, 2006). In another study, Woods (2009) conducted a case study on the risk management control system in a public sector organization. Contingent variables that affected the risk management system at the operational level were central government policies, information and communication technology, and organizational size. The most important contingent variable was central government policies as many of the strategic objectives were driven by government policy and resources were also determined by the central government (Woods, 2009). This is similar to nancial institutions where government regulation drives the risk management system. The issue of risk and management accounting was also examined in manufacturing and not-for-prot organizations (Collier and Berry, 2002). They conducted an exploratory case study to understand the relationship between risk and budgeting. The budgeting process is a formal method by which plans are established for future time periods, thereby implying a consideration of risk. However, there was a separation between budgeting and risk management. Despite managerial perceptions of risk, in which each organization faced some sort of risk, there was no explicit regard to risk in the budgeting process or the content of the budget document. Budgeting did not appear to be a tool used in managing risk (Collier and Berry, 2002). In another study, Collier et al. (2007) investigated the roles of management accountants in managing risk. Similar to Williamson (2004) and Soin (2005), they viewed that management accountants who have skills in analysis of information, systems, performance, and strategic management should play a signicant role in developing and implementing risk management. The survey results show that there was little integration between management accounting and risk management and that

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the involvement of management accountants in risk management was only marginal. However, results from post-survey interviews indicated that management accountants did actually play an important role in risk management, especially in analyzing the impact of risks to support risk managers. The nance director was identied as having a pivotal role in risk management (Collier et al., 2007), and, in most organizations, management accounting functions are normally under the responsibility of the nance director. Integration between management accounting and risk management is more likely in the area of performance measurement. There has been a call for integrating the BSC as a strategic performance measurement system and ERM as a proposed best practice for risk management (Ballou et al., 2006; Scholey, 2006; Beasley et al., 2006; McWhorter et al., 2006). The scorecard can be enhanced by including goals and objectives for risk management and by capturing performance-based risk metrics. The BSC has four perspectives, namely, learning and growth for employees, internal business processes, customer satisfaction, and nancial performance. Beasley et al. (2006) proposed some guidelines of how the integration can be done. First, in order to ensure that all employees embrace a common set of denitions and perspectives on risk management, training objectives, and performance measures related to learning and education about risk management can be added to the learning and growth perspective of the BSC. Second, as risks can also arise from internal business processes, goals related to the variation of risks within a business process and related risk performance metrics should be integrated into the internal business processes perspective. Third, risk goals and performance measures related to customers, markets, and reputation in the customer should be part of the satisfaction perspective. Finally, any risk management system should consider the costs of responding to risks relative to its benets and the nancial performance perspective of the BSC provides the natural connection for ERM cost/benet analysis of response (Beasley et al., 2006). McWhorter et al. (2006) provide empirical evidence that strategic performance measurement systems improve risk management. A review of the various studies above reveals that management accounting seems to support risk management in several ways. First, management accounting expertise in identifying, analyzing, and communicating management information for planning, control, and performance measurement and decision making can help develop techniques for communicating, and embedding risk management across the whole organization. Second, management accounting should be able to provide channels within organizations for linking strategy, risk management, performance measurement, and accountability by identifying relevant information and issues for management attention. Third, both management accounting and risk management functions are concerned with costs and, therefore, generate possibilities for the use of management accounting techniques in risk management. Empirical evidence (Collier et al., 2004; Soin, 2005) suggests that there is little integration between management accounting and risk management. However, interviews conducted by Collier et al. (2007) suggest that management accounting can actually play an important role in assisting risk management. Nevertheless, integration between strategic performance measurement systems (such as BSC) and ERM will be more benecial to organizations. BSC can be used to benet ERM and, in addition, the integration allows ERM to increase the effectiveness of BSC.

Looking from a political and institutional perspective, ERM (as part of control) will complement (as contingency theory suggests) another form of control in the organization as well as compete with it. This may lead to the preferential use of one control system over the other. Research method Data were collected using postal questionnaires survey and post-survey semi-structured interviews. This study selected the whole population of nance and insurance companies listed on the Malaysian Central Bank web site. The choice of a single industry in this study will minimize environmental heterogeneity (Moores and Yuen, 2001). Questionnaires were sent to 106 nancial institutions (including commercial banks, Islamic banks, merchant/investment banks, discount houses, development nancial institutions (DFIs), and insurance companies). The questionnaire was mailed to the chief nancial ofcer (CFO, or the most senior position in the nance department) of each rm. Questionnaire development A questionnaire was developed to seek the respondents perception on the extent to which management accounting practices help in managing operational risks based on a Likert scale of 1 (not at all) to 5 (to a very great extent). The management accounting practices were listed based on the IFACs (1998) framework, which is also used by the National Award for Management Accounting (NAfMA)[2] Award Organizing Committee. However, only practices relevant to the services industry, particularly the nancial services industry, were selected for this study. Footnotes explaining some of the practices were also included in the questionnaire. Operational risk is a type of risk that measures the potential loss due to any disruption in the rms operational processes (Marshall, 2001). The Basel II denition of operational risk is the risk of direct or indirect loss resulting from inadequate or failed internal processes, people and systems or from external events. It covers all organizational malfunctioning, of which consequences can be highly important and, sometimes, fatal to an institution (Bessis, 2002, p. 12). Global operations, with the emergence of more complex products and services, and consequent increase in volume and volatility of transactions, lead to greater operational risk (Marshall, 2001). In the context of operational risk management, the main function of management accounting is to provide information for internal decision making relating to business processes, people, and investment in systems. Relevant information provided by MASs will help managers to make more effective decisions, which, in turn, help to prevent unexpected loss. According to IFAC (1998), management accounting information consists of both nancial and operational information. This information will provide indicators on the performance and actions that could be taken to improve future performance. Thus, this study only focuses on the operational risk as it is assumed to be more directly related to the management accounting information function compared to other types of risk such as credit and market risk. Andersen (2008) asserted that accounting and management control systems are important tools in managing operational risks. Strategic business planning and a well-organized budgeting process and consistent follow-up with any operating variances to budget can limit unexpected losses due to operational deciencies (Marshall, 2001).

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The respondents were also asked to indicate on a Likert scale of 1 (strongly disagree) to 5 (strongly agree) whether there is great involvement of nancial and management accounting functions in risk management. Respondents were also asked to state whether risks were considered in formulating budgets and also whether risk measures were integrated into their performance measurement systems. The purpose of these questions was to measure the extent of management accounting functions in managing risk. These items were adapted from Collier et al. (2006). The questionnaire was rst pre-tested on seven academicians from the local universities. They were either expert in management accounting and nancial systems or expert in research methodology. Pilot testing is important to ensure validity and reliability of research instruments (Sekaran, 2000). Pilot testing was also conducted with two senior nance managers and six managers from the nancial institutions. A revised draft of the questionnaire was prepared accordingly. Questionnaire administration The questionnaire was mailed to the CFO (or the most senior position in the nance department) of each rm. The CFOs (or the most senior position managers) were chosen because they are responsible for management accounting and are directly involved in risk management in the organizations. According to Rodeghier (1996), in survey research, contacts are very important and at least three contacts with the sample, each slightly different in tone and content, are necessary to ensure a high return. Thus, one week after the survey packets were sent, phone calls were made to ensure that the organizations had received the packets. Five weeks after the rst mailing, another set of questionnaires was sent to the non-respondents. Follow-up was again made through email and telephone calls after the second mailing. Descriptive statistics were used in analysing the ndings. Mean scores on the management accounting practices perceived to be useful in managing risks were calculated and the scores were ranked accordingly. However, this analysis will look into the presence of management accounting in risk management but not the magnitude of management accounting in risk management. Nevertheless, considering that this study is exploratory in nature, the analysis would be sufcient as the interview ndings have further elaborated the linkages between management accounting and risk management. Descriptive analysis was also used in identifying the extent of integration between management accounting and risk management function. Prole of respondents and rms A total of 72 responses were received, representing a response rate of 68 percent. A test for non-response bias was conducted by comparing the means on the variables of interest between early and late respondents using independent-samples t-test. The results indicate no signicant differences between the responses for all the variables for the early and late respondents, providing little evidence of non-response bias in the data. As shown in Table I, the largest number of respondents was head of nance/general manager nance/vice president nance (37.5 percent), followed by nance manager (23.6 percent), CFO/director of nance (18.1 percent), senior manager nance/assistant vice president nance (15.3 percent), and others (5.6 percent). The majority of the rms (55 or 76.4 percent) had more than 100 employees. This indicates that the majority of the rms involved in this survey were large in size.

Background variable Categories Job designation CFO/director of nance Head of nance/general manager nance/vice president nance Senior manager nance/assistant VP nance Finance manager Others Number of employees Less than 100 100-499 500-999 More than 1,000 No information

Frequency Percentage 13 27 11 17 4 15 23 13 19 2 18.1 37.5 15.3 23.6 5.6 20.8 31.9 18.1 26.3 2.8

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Table I. Prole of respondents and rms

Post-survey semi-structured interviews Semi-structured interviews were conducted to gain a more in-depth understanding of the link between management accounting and risk management. The respondents who were involved in the questionnaire survey provided the basis for the sample selection for the interviews. In total, 16 interviews were conducted and, overall, the background shows that they were senior and experienced enough to represent their organization as almost all of them were in the top management team, with an average age of 43 years, and had served with the company on average for nine years and held their current position on average for ve years (Table II).

Interviewee Position 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 Head of nance Senior manager nance Head of nance Senior manager nance Manager performance managementa Head central business nance Head of accounts and MIS Director of nance Director corporate nance Assistant general manager nance General manager Manager nanceb Senior vice president/company secretary nance and administration Chief nancial controller Chief operating ofcer Assistant vice president nance

Length of service Length of time in in the company current position (years) Gender Age (years) 23 17 2 14 10 5 7 7 3 17 4 12 3 2 22 2 10 4 2 2 3 2 7 7 3 2 2 4 3 2 10 2 Male Male Male Male Male Male Male Female Male Male Male Male Male Male Male Male 47 53 37 38 35 39 42 51 38 39 46 38 50 46 51 36

Notes: aRepresenting the nancial controller; brepresenting the head of nance

Table II. Background of the interviewees

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Results and discussion This study examines the link between management accounting and risk management in nancial institutions. Management accounting is expected to provide information for operational decision making as well as for long-term decision making. MASs should provide relevant information for decision making, such as resource allocation, introduction of new products or services or for performance evaluation. Table III shows the extent to which management accounting practices (MAPs) help in managing operational risk as perceived by the respondents. Based on the rank of the mean score, the results show that analysis of nancial statement were perceived to help the most in managing operational risk. This is probably because nancial statements analysis provides direct indicators of the rms performance, which, in turn, are used for risk measurement. The ndings can be substantiated, as the focus of nancial institutions in managing risk is to quantify the operational risk in monetary terms (Dun & Bradstreet, 2007). There are three approaches in determining the capital requirement for operational risks, namely, basic indicator approach (BIA), the standardised approach (TSA), and advanced measurement approach (Dun & Bradstreet, 2007). Under BIA, the capital charge is equal to a xed percentage of the gross income. Under TSA, a xed percentage will be multiplied with the gross income of each business line (Dun & Bradstreet, 2007). Hence, the gross income information becomes important information in calculating the capital charge for operational risk (Basel Committee on Banking Supervision, 2004). It becomes an indicator for overall operational risk exposure. The capital adequacy ratio can be computed by dividing total capital by total risk-weighted assets. Financial information from the nancial statement is used as a proxy in measuring operational risk. The income-based model and the expense-based[3] model, for example, used nancial statement information to measure operational risk. The next three items that were perceived to help the most were budgetary control and budgeting, business planning, and business strategy. This is expected as a well-organized budgeting process, and consistent follow-up of any operating variances
MAP 1. Financial statement analysis 2. Budgetary control and budgeting 3. Business planning 4. Business strategy 5. Benchmarking 6. Productivity analysis 7. Cost control and cost management 8. Statistical analysis 9. Relevant costing and decision-making analysis 10. Cost-benet analysis 11. Balanced scorecard 12. Strategic management accounting 13. Quality improvement activities 14. Strategic cost management 15. Economic value added 16. Activity-based costing/management 17. Standard costing Min. 2 2 1 1 1 1 1 1 1 1 1 1 1 1 1 1 1 Max. 5 5 5 5 5 5 5 5 5 5 5 5 5 5 5 5 5 Mean 4.13 4.04 3.99 3.94 3.65 3.63 3.61 3.59 3.49 3.44 3.35 3.34 3.28 3.21 2.84 2.76 2.67 SD 0.844 0.818 0.819 0.860 1.084 1.124 1.021 1.202 1.120 1.105 1.172 1.133 1.124 1.153 1.199 1.221 1.248

Table III. Extent to which MAPs help in managing operational risk

to budget, can limit unexpected losses (Marshall, 2001). In addition, strategic and business planning is a qualitative business technique (such as strengths, weaknesses, opportunities, and threats analyses and scenario analysis) that is used to develop a long-term direction for the business to prevent any unexpected losses (Marshall, 2001). Benchmarking, productivity analysis, cost control and cost management, statistical analysis, relevant costing, and decision-making and cost-benet analysis were perceived to be moderately helpful in managing operational risk. Nevertheless, these practices provide relevant information for managers to make effective decisions. Effective decision making is crucial for the long-term survival of an organization. BSC, SMA, quality improvement programme, and strategic cost management were also perceived to be moderately useful in managing operational risk. The BSC, which has four perspectives, namely, learning and growth for employees, internal business processes, customer satisfaction, and nancial performance can be used to provide risk indicators (Beasley et al., 2006; Marshall, 2001). The risk indicators will be useful in analyzing the operational risk over time and thus focusing the operation managers attention on problems before they get out of hand (Marshall, 2001). Quality programmes, such as total quality management (TQM), assume that managers control process outputs through the careful selection of the inputs and that many loss events are the result of a poor-quality resource or process. Thus, TQM and other quality management programmes seem to help in managing operational risks by changing the risk prole of operational processes and resources. This is done by improving the availability, quality, relevance, exibility, reliability, conformance, and sustainability of various process inputs and outputs (Marshall, 2001). The three practices that were perceived as the least important in managing operational risks were economic value added (EVA), activity-based costing/management (ABC/ABM), and standard costing. Traditionally, management accountants have always used standard costing in which predetermined costs of some activities are determined at the beginning of the period, and these costs are then compared with the actual costs at the end of the period to determine variances, known as accounting or operating variances (Marshall, 2001). These variances are in fact one measure of operational risk (Marshall, 2001). These three practices may not be widely used in nancial institutions, as they were not perceived to help directly in managing operational risks. EVA is a relatively new concept of performance measures (Bardia, 2008) and the issue of whether the use of EVA for performance measures will lead to improved shareholder value is still inconclusive. ABC/ABM is still not widely practiced (Hussain, 2000; Chenhall and Langeld-Smith, 1998; Abdul Rahman et al., 1998; Innes and Mitchell, 1995). Unlike manufacturing companies (Maliah et al., 2004; Abdul Rahman et al., 1998) where the time taken to manufacture a certain product is quite standardized and measurable, the time taken to render a particular service may not be standardized causing difculties in measurement and thus hinder the use of standard costing. The fact that these practices are not widely used can also be attributed to the lack of importance of these practices in managing operational risks. Nevertheless, the overall relatively high mean scores for all the practices can be attributed to the fact that nancial institutions are highly regulated. The nancial industry is required to comply with all rules and guidelines issued by regulatory authorities. In exploring whether management accounting and risk management functions are integrated, the respondents were also asked whether nancial and management

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accounting functions were involved in risk management in general, whether risks were considered in budgeting and whether risk measures were integrated into their performance measurement systems. The results are presented in Table IV. The majority of the respondents agreed (from moderately agreed to strongly agreed) that there was a great involvement of both nancial and management accounting functions in the organizations risk management. This is expected as based on a survey in the UK, Collier et al. (2007) found that nance directors had a major role in analysing, assessing, reporting, and monitoring risk and that they were identied with more aspects of risk management compared to other job titles. The accounting functions are normally headed by the nance director of the organization. Furthermore, as nancial institutions are required to comply with Basel II the nance units are expected to collaborate with the risk units in order to deliver accurate protability numbers to management (Alexander and Hixon, 2005). In fact, a survey on the benets of Basel II cited that it brings closer alignment of the risk and nance functions (Alexander and Hixon, 2005). This closer alignment will improve the quality of the data that supports decision making, particularly through a more risk-sensitive approach to protability analysis and capital management (Alexander and Hixon, 2005). About 88.7 percent of the respondents agreed (from moderately agreed to strongly agreed) that risks were identied and factored in when formulating budgets. This percentage was slightly higher than the ndings by Collier et al. (2004). In their study, it was found that 35 percent of the respondents said that risks were considered to some extent in formulating budgets and another 47 percent said that risks were fully considered, which made up a total of 82 percent. The majority of the respondents also agreed (from moderately agreed to strongly agreed) that risk measures are integrated into the organizations performance measurement systems. It is very important for nancial institutions to incorporate their risk measures into their performance measurement systems. Risk-based performance management is essential for long-term survival of the institutions. Bessis (2002) highlights that nancial institutions focus on risk-based practices for three main reasons to provide a balanced view of risk and
Strongly disagree (%) There is a great involvement of the nancial accounting function in the organizations risk management There is a great involvement of the management accounting function in the organizations risk management Risks are identied and factored in when formulating budgets Risks measures are integrated into the organizations performance measurement system Strongly Moderately agree Agree agree (%) Mean (%) (%)

Disagree (%)

SD

4.2

25

47.2

23.6

3.90

0.808

0 2.8

8.3 8.5

26.4 29.6

37.5 42.3

27.8 16.9

3.85 3.62

0.929 0.962

Table IV. Integration of accounting and risk management

2.8

1.4

30.6

44.4

20.8

3.79

0.887

return from a management point of view, to develop competitive advantage, and to comply with increasingly stringent regulations. The issue on the link between management accounting and risk management was further examined in the post-survey interviews. The interviews help substantiate the survey ndings. On the role of management accounting in risk management in general, most of the interviewees agreed that risk management and management accounting are interrelated as both are intended to help organizations in making decisions. In relating his view, the head of nance of an Islamic bank said:
Management accounting (MA) function needs to be involved in risk management. If not, the risk management would be incomplete [. . .] Because MA provides information for decision-making. And whatever decision you make, you are taking risks.

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A manager of an Islamic insurance further added that:

Management accounting has a signicant role in risk management [. . .] It provides indicators to nancial stability, efciency of processes to measure the nancial and operational risk prole of the company [. . .] Preventive and corrective measures can be thought of and action could be taken to overcome the adverse effect of the risk.

The role of management accounting in risk management is more important in companies implementing ERM. Six of the companies interviewed stated that their organizations are implementing ERM. ERM is an integrated risk management system that takes a holistic view of risks and everybody in the organization is responsible for risk management. In explaining the concept of ERM, the chief nancial controller of a foreign Islamic insurance company stated:
Following our parent company, we have a system called Enterprise Risk Management (ERM) [. . .] Everybody is involved in risk management. The head is only to coordinate [. . .] In ERM, every employee has to take charge as if when they incur expenditure, it is their own expenditure [. . .] Everybody has to assume or consider risk in carrying out responsibilities.

ERM identies all sorts of risks related to the organization. The management accounting function plays an important role in providing information in identifying the risk prole of the organization. For instance, emphasizing the role of the management accounting function in ERM, the director of nance of a large local bank commented:
We are in the enterprise wide risk management [. . .] We use SAS a lot in risk management [. . .] SAS is a data mining system and a lot of information was actually fed by the nance department to measure credit, market and operational risks [. . .] The risk management is working hand-in hand with the management reporting team [. . .] Moreover, for nancial services sector [. . .] Risks have to move dynamically, together with the management reporting function [. . .] A lot of information comes from the management reporting team.

Although other organizations did not mention specically that they are implementing ERM, being in the nancial services sector they have their own risk management systems in place. Most of the institutions have CROs that manage the different departments that manage the specic risks. The appointment of a CRO is considered as an indicator of ERM implementation (Liebenberg and Hoyt, 2003). The role of management accounting in providing information for risk management was further illustrated by the performance management manager of a foreign bank:

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Risk management uses a management accounting framework [. . .] Management accounting function has to make sure that enough information is captured to say that you contribute your resources towards the one that adds the most value to the organization [. . .] If there is a loss, the management accounting function should be able to measure, to capture the loss, so that the risk people will think of how to minimize or eliminate the loss.

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Management accounting provides information for risk measurement as well as indicators in performance management so that remedial action can be taken to minimize or eliminate risks within an organization. The above examples show how management accounting in general supports risk management. At the same time, all of the interviewees emphasized the importance of budgeting and strategic planning to their organizations and that risks are always considered in that process. For instance, the nance director of a large local bank remarked:
Strategic planning and budgeting is very important to the group [. . .] The planning with group nance, group strategy, strategic business units really takes the time of the CEO [. . .] It is not just a presentation, but it is a thought process [. . .] First, is to have a quick view of what you did last year, what went wrong, what went right, where do you get the pluses, where do you get the minuses [. . .] Now the planning is becoming more intense [. . .] We look at all the possible risks and how to mitigate [. . .] After the planning stage, you implement [. . .] then we have the annual management dialogue [. . .] This will be the time the CEO will deliver his message, the CFO will present the years performance, the budget and what each business unit should strive for.

On the role of budgeting and planning that specically relates to risk management, the senior manager nance of an Islamic bank stated:
Budgeting and forecasting relate to risk management because budgeting or forecasting gures will affect the risk [. . .] If we change the budget, the risk will be lower and higher depending on how you look at the budget. If we want to offer more overdraft facilities, for example, then you will be exposed to higher risk because you have no collateral attached to it. So if the budget moves this way, we have to capture the risks associate with it and then look at how we can mitigate it.

The budget is also used as a control mechanism to ensure that an organization will not go into high-risk activities. In explaining how budgeting contributes to risk management, the assistant general manager nance of one cooperative bank stated:
Each branch has budget disbursement. Due to this budget, branches that exceed the disbursements have to give explanation [. . .] Certain branches are very robust in giving nancing, so it relates to risk [. . .] Variances also give indicators on the risk standing.

Consistent with the survey ndings, it was found that budgetary control, budgeting, and strategic planning were perceived to contribute more towards risk management. Risks are always considered in the budgeting and planning processes and this is consistent with the ndings of Collier and Berry (2002) that risks are considered but not modelled and are excluded from the budget document. The linkage between management accounting and risk management is always existent in an organization that is practicing a BSC framework for performance management. One particular bank that adopted a BSC framework for its performance management also had key performance indicators (KPIs) for each perspective and conducted risk analysis on the KPIs. The head of nance of one bank said:

For each KPI we identied the risk factor. We identied the likelihood that the KPI might not be achieved [. . .] then we can identify the related key risk indicators (KRIs). Then initiatives to meet the KPIs will be determined [. . .] And also the owner of the KPIs [. . .]

The combination of both BSC measures and risk management measures increase the likelihood of organizations strategic objectives to be met (Beasley, 2006). Conclusion This paper seeks to answer two research questions: RQ1. Are management accounting techniques and tools being used in managing risks? RQ2. What is the extent of the integration between management accounting and risk management functions? The ndings from the survey indicate that analysis of nancial statement was perceived to contribute most towards risk management. Consistent with the survey ndings, it was found that budgetary control, budgeting, and strategic planning played important roles in managing risk. As for the second research question, the study showed that management accounting and risk management functions are highly interrelated as both are intended to help organizations in making decisions. This study provides empirical support for the theoretical argument put forward by Collier et al. (2004), Williamson (2004) and Soin (2005) that management accounting supports risk management. The study further supported that the management accounting function has an important role to play in producing analyses of the impact of risks to support risk managers (Collier et al., 2007). MASs are considered as part of a wider management information system (Upchurch, 2002; Bouwens and Abernethy, 2000) and very important in managing risk. The information consists of both nancial as well as operational information. Financial information is normally used in measuring market, credit and operational risks, and considerable operational information is required in mitigating operational risks. Although Collier et al. (2007) initially found that management accountants were not that involved in managing risk, later, in further interviews, they found that management accountants were actually undertaking risk management. Both management accounting and risk management are considered as part of the integral activities of strategic planning and performance assessment of the organization (Bhimani, 2009; Collier et al., 2007; Mikes, 2006; Beasley et al., 2005). This is particularly true where nowadays the many functions of an organization are being integrated under a common system known as the enterprise management system (Brignall and Ballantine, 2004). In fact, under the ERM system, where risks are aggregated across different types of risk and across business units to obtain an enterprise-wide risk situation, nancial institutions are integrating their business lines performance management with risk management, thereby enhancing the link of management accounting and risk management. Both management accounting and risk management can be considered as the integral management tools and internal control systems that complement each other to form part of the corporate performance management system for nancial institutions. In fact, the blurring of functional boundaries, where the segregation of duties according to functions is becoming less visible and teamwork is becoming more important, management

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accounting and risk management functions are more integrated with other core functions in the organization. Although previous studies found that there was no clear role for management accountants in managing risk (Soin, 2005), this study found that management accounting actually plays a very important role in risk management, which is consistent with the ndings of Collier et al. (2007). As shown in previous studies Collier and Berry (2002) budgeting did not function as a tool in managing risk, however, in this study budgeting was found to contribute towards managing risks. This could be attributed to the nature of nancial institutions where managing risk is one of their core functions (Bowling and Rieger, 2005; Hakenes, 2004; Bowling et al., 2003). The ndings of this study provide avenues for further examination on the link between management accounting and risk management by looking at the effect of t between the two functions. Future studies should also examine the intricate details of the emerging relationships.
Notes 1. Generally, the nancial system in Malaysia can be categorized into banking institutions and NBFI. The banking institutions are the central bank BNM, the commercial banks, the Islamic banks, the investment banks, the money brokers and other nancial institutions. The NBFI consists of provident and pension funds, insurance companies (including Islamic insurance), DFI, saving institutions and other nancial intermediaries such as unit trusts, Pilgrims Fund Board, leasing, factoring and venture capital companies (BNM, 1999). 2. NAfMA award given to companies in Malaysia for management accounting best practices. The organizers and the awarding bodies are the Malaysian Institute of Accountants and the Chartered Institute of Management Accountants. 3. Income-based models analyze historical income or losses in terms of specic underlying risk factors. Expense-based models associate operational risk with uctuations in historical expenses (Marshall, 2001). References Abdul Rahman, I.K., Abdul Rahman, A.Z., Tew, Y.H. and Omar, N. (1998), A survey on management accounting practices in Malaysian manufacturing companies, paper presented at International Management Accounting Conference, Kuala Lumpur, 13-14 July. Alexander, W. and Hixon, M. (2005), The strategic imperative to align risk and nance, Journal of Performance Management, Vol. 18 No. 3, pp. 17-25. Andersen, T.J. (2008), The performance relationship of effective risk management: exploring the rm-specic investment rationale, Long Range Planning, Vol. 41 No. 2, pp. 155-76. Atkinson, A.A., Banker, R.D., Kaplan, R.S. and Young, S.M. (2001), Management Accounting, 3rd ed., Prentice-Hall, New Jersey, NJ. Ballou, B., Brewer, P.C. and Heitger, D.L. (2006), Integrating the balanced scorecard and enterprise risk management, Internal Auditing, Vol. 21 No. 3, pp. 34-8. Bardia, S.C. (2008), Evaluation of nancial performance: a dialectics, ICFAI Journal of Accounting Research, Vol. 7 No. 1, pp. 36-49. Basel Committee on Banking Supervision (2004), International Convergence of Capital Measurement and Capital Standards: A Revised Framework, Basel Committee on Banking Supervision, Basel.

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COSO (2004), Enterprise risk management integrated framework, Executive Summary, Committee of Sponsoring Organizations of Treadway Commission, available at: www.coso.org/Publications/ERM/COSO_ERM_ExecutiveSummary.pdf (accessed 14 April 2008). Cummins, J.D., Richard, D.P. and Stephen, D.S. (1998), The rise of risk management, Economic Review, Vol. 83 No. 1, pp. 30-40. Dun & Bradstreet (2007), Financial Risk Management, Tata McGraw-Hill, New Delhi. El-Hawary, D., Grais, W. and Iqbal, Z. (2007), Diversity in the regulation of Islamic nancial institutions, The Quarterly Review of Economics and Finance, Vol. 46 No. 5, pp. 778-800. Gul, F.A. and Chia, Y.M. (1994), The effects of management accounting systems, perceived environmental uncertainty and decentralization on managerial performance: a test of three-way interaction, Accounting, Organizations and Society, Vol. 19 Nos 4/5, pp. 413-26. Hakenes, H. (2004), Banks as delegated risk managers, Journal of Banking & Finance, Vol. 28, pp. 2399-426. Helliar, C., Cobb, I. and Innes, J. (2002), A longitudinal case study of protability reporting in a bank, British Accounting Review, Vol. 34, pp. 27-53. Hussain, M.M. (2000), Management Accounting Systems in Services: Empirical Evidence with Non-nancial Performance Measurement in Finnish, Swedish and Japanese Banks and Other Financial Institutions, Universitas Wasaensis, Vaasa. Innes, J. and Mitchell, F. (1995), ABC: a follow up survey of CIMA members, Management Accounting, Vol. 73 No. 7, pp. 50-1. International Federation of Accountants (IFAC) (1998), International Management Accounting Practice Statement (IMAP # 1): Management Accounting, Financial and Management Accounting Committee, New York, NY, March, pp. 84-100. Kafaan, R.E. (2001), Keys to community bank success: utilizing management information to make informed decision, Journal of Bank Cost & Management Accounting, Vol. 14 No. 1, pp. 3-4. Liebenberg, A.P. and Hoyt, R.E. (2003), The determinants of enterprise risk management: evidence from the appointment of chief risk ofcers, Risk Management and Insurance Review, Vol. 6 No. 1, pp. 37-52. McWhorter, L.B., Matherly, M. and Frizzell, D.M. (2006), The connection between performance measurement and risk management, Strategic Finance, February, pp. 51-5. Maliah, S., Nik Nazli, N.A. and Norhayati, A. (2004), Management accounting practices in selected Asian countries: a review of the literature, Managerial Auditing Journal, Vol. 19 No. 4, pp. 493-508. Marshall, C.L. (2001), Measuring and Managing Operational Risks in Financial Institutions, Wiley, Singapore. Mikes, A (2006), Interactive control use as a political and institutional phenomenon the case of divisional control in a nancial services organization, available at: http://ssrn.com/ (accessed 29 May 2007). Moores, K. and Yuen, S. (2001), Management accounting systems and organizational conguration: a life-cycle perspective, Accounting, Organizations and Society, Vol. 26, pp. 351-89. Otley, D.T. (1980), The contingency theory of management accounting: achievement and prognosis, Accounting, Organizations and Society, Vol. 5 No. 4, pp. 413-28. Otley, D.T. (2001), Extending the boundaries of management accounting research: developing systems for performance management, British Accounting Review, Vol. 33, pp. 243-61.

Platt, G. (2004), Beyond compliance: when risk management becomes a competitive advantage, Global Finance, September, pp. 22-4. Rezaee, Z. (2005), The relevance of managerial accounting concepts in banking industry, Journal of Performance Management, Vol. 18 No. 2, pp. 3-16. Rodeghier, M (1996), Survey with Condence: A Practical Guide to Survey Research Using SPSS, SPSS Inc., Chicago, IL. Scholey, C. (2006), Risk and the balanced scorecard, CMA Management, June/July, pp. 32-5. Sekaran, U. (2000), Research Methods for Business: A Skill Building Approach, 3rd ed, Wiley, New York, NY. Sinkey, J.F. (2002), Commercial Bank Financial Management: In the Financial-services Industry, 6th ed, Prentice-Hall, Upper Saddle River, NJ. Soin, K. (2005), Risk, regulation and the role of management accounting and control in UK nancial services, paper presented at Critical Perspectives in Accounting Conference, New York, NY, 28-30 April. Upchurch, A. (2002), Cost Accounting Principles and Practice, Prentice-Hall, Great Britain. Williamson, D (2004), A call for management accounting control research into risk management, paper presented at MARG Conference, Aston Business School, Aston. Woods, M. (2009), A contingency theory perspective on the risk management control system within Birmingham city council, Management Accounting Research, Vol. 20, pp. 69-81. Further reading Cobb, I., Helliar, C. and Innes, J. (1995), Management accounting change in a bank, Management Accounting Research, Vol. 6, pp. 155-75. About the authors Siti Zaleha Abdul Rasid is a Senior Accounting Lecturer at International Business School, UTM, Kuala Lumpur, Malaysia. Siti Zaleha Abdul Rasid is the corresponding author and can be contacted at: szaleha@ic.utm.my Abdul Rahim Abdul Rahman is an Accounting Professor at Department of Accounting, Kuliyyah of Economy and Management Science, International Islamic University Malaysia. Wan Khairuzzaman Wan Ismail is an Associate Professor at International Business School, UTM, Kuala Lumpur, Malaysia.

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