Thought leader

By George Bull, head of professional practices, Baker Tilly

Risk is not adequately captured by one single measure. Uncertainty is not measurable at all.

There is plenty of talk about risk and risk management, but few people mention uncertainty. Confusing risk and uncertainty leads to what Friedrich Hayek called “the pretence of knowledge”.

Many risk plans fail to identify, far less evaluate, certain key risks. For example, since banks started lending they have applied conditions to their overdrafts and loans. Failure to comply with these covenants means that the facility could be amended or withdrawn. Relatively few risk plans address this possibility, while fewer still contemplate that the bank itself might fail.

This reflects the mindset that, once drafted, the risk-management plan languishes in the bottom drawer. While many firms undertake periodic reviews of their risk plan, most checks are restricted to considering the continuing relevance of the risk and its potential impact. Few reviews track the actual exposure to risk (for example, breach of a bank’s lending covenants, resulting in the sudden withdrawal of finance and the collapse of the firm).

Risk management practised as a theoretical art (rather than a practical science) frequently neglects the obvious. For a law firm with a high-profile tax practice, it’s obvious that a raid by HMRC, intent on acquiring access to client documents, will entail reputational risk and consequential damage to the practice. Few risk plans provide practical guidance to receptionists as to what to do if the taxman turns up unannounced. But actions taken in those few minutes may critically affect the conduct of the future enquiry, and the outcome for the firm and its clients.

With risk comes regulation. While the SRA is still finding its feet, it will do everything in its power to avoid being caught in the position of other regulators – realising after the event that they have not been sufficiently thorough. Those who have been on the receiving end of SRA investigations may think there is little risk of that!

Although smaller firms may dread an SRA investigation, larger firms are inviting visits. This polarisation of approach reinforces calls for separate regulation of large and small firms. Neither rules-based nor principles-based regulation lends itself to a one-size-fits-all approach for both sole practitioners on the one hand, and international legal businesses with turnovers exceeding the GDP of small sovereign nations on the other. But if separate regulation of large and small firms is to be developed, how is the boundary between the two to be defined and policed? If turnover is the sole measure, very large ‘volume’ practices will be regulated alongside big ‘City’ firms. At the same time, corporate boutiques will be ranked with high-street firms. This may not adequately address risk for the client or the profession.

And how will firms move between two tiers of regulation? It seems inevitable that there must be an overlap between two tiers of regulation, with either a firm or the SRA able to determine the regulatory regime in the overlap area.

George Bull is the head of the professional practices group at Baker Tilly. He can be contacted at: george.bull@bakertilly.co.uk