What Is a Compliance Risk Matrix & Why Is It So Important?

Risk, for businesses, is any threat that gets in the way of a company’s goals. Compliance risks are anything that threatens your company’s reputation, organizational standing or finances, such as violations of regulations, standards, laws or codes of conduct. Compliance is particularly critical for companies or industries that are highly regulated, such as the financial industry.

Understanding your company’s potential for risk exposure is an important thing, as the penalties for non-compliance can be steep. Operating a business in a globalized market also enhances the need for compliance risk assessment. Creating a compliance risk matrix is one way to manage risk and ensure compliance.

What Is the Risk Assessment Matrix?

Organizations face a variety of different types of risk, including strategic, financial, regulatory compliance and operational risks. When assessing risk, the focus is usually on the threats that would most likely affect the company’s ability to reach its strategic goals.

An ounce of prevention is worth a pound of cure, particularly when it concerns business risk and compliance. A risk assessment matrix allows you to identify, assess and analyze potential levels of risk. Using a risk matrix, you can take steps to manage or prevent certain issues, protecting your business’s finances and reputation.

Business risk can be broken down into several categories, including enterprise risk, internal audit risk and compliance risk.

A matrix visualizes potential risks. It assesses how likely it is that a risky event will take place and evaluates the impact a particular event could have on your company. A risk assessment matrix shows you the severity and the probability of specific threats.

Using the information in a risk matrix, you can sort threats into categories, such as high, moderate and low. Once you can categorize the risks, you can decide which ones need the most attention and put together an effective mitigation plan.

In the case of compliance, some risks will have more significant effects on a company than others. For example, intentionally violating Securities and Exchange Commission (SEC) or Financial Industry Regulatory Authority (FINRA) guidelines can damage a company’s reputation, affect it legally and lead to hefty fines or penalties.

On the other hand, having a weak preparedness plan in case of a natural disaster might be less of a risk factor for your company. There’s the potential for severe damage if a disaster occurs but the likelihood of a particular event occurring can be low. Your business might be better off focusing its attention on ensuring compliance with regulations.

A compliance risk assessment can be connected to an organization’s general or internal audit risk assessment, but also requires a more focused approach. It’s often better to prepare a separate matrix for compliance risks can be the better route to take.

Why Is a Risk Assessment Matrix Important For Compliance?

With a risk assessment matrix in place, your company can better understand the range of its risk exposure. You can then prioritize risks and determine who is responsible for overseeing and preventing certain ones. While a matrix won’t fully eliminate the potential for risk, it does empower you by giving you the tools and understanding you need to mitigate the impact of particular threats.

Creating a risk assessment matrix to understand your organization’s risk profile is important for several reasons.

1. Helps Identify Risks

Compliance risks take many forms and the first step when developing a matrix is to identify particular threats. At this stage, your focus is on detecting threats, not assessing their severity or probability. Knowing the potential issues help lay the groundwork for evaluation and compliance risk analysis.

Identifying risks also help your company see the full scope of potential threats. Some risks you might identify when developing a matrix include:

• Risks to workplace health and safety: Workplace health and safety risks include improper employee training and improper safety standards.
• Risks to the environment: Risks to the environment include those that impact human health, such as a factory that contaminates a water supply or an old building that contains asbestos. They also include threats to the general environment, such as a company that cuts down trees in a protected forest.
• Risks to data management: Credit card data, financial information and medical records all need to be stored in compliance with particular standards. A company that mismanages its protected data risks non-compliance.
• Risks to privacy: A data breach puts confidential information at risk of falling into the wrong hands. Depending on how a breach takes place, a company’s reputation could be hurt.
• Fraud and corruption risks: Fraud and corruption can include brides and mishandling of information.
• Employee misbehavior risks: Employee misbehavior can range from the inadvertent and relatively benign, such as a person accidentally bringing a confidential file home, to the intentional and severe, such as a disgruntled employee selling company secrets.

Along with identifying types of risk, a matrix also lets you determine the potential source of certain threats. For example, risks can arise due to human error, improper storage or a lack of monitoring and audits.

2. Helps You Prioritize

Once you’ve identified risks, the matrix helps you sort and prioritize risk levels. Knowing the priority of a particular threat allows you to determine how much focus and attention to give it. Prioritizing also allows you to develop mitigation plans.

Risk is part of being in business. In a regulated industry, compliance risk comes with the territory. It’s not in your company’s best interests to try and avoid all risks, nor will it help you if you feel that you need to treat all threats equally.

Instead, put the most effort into mitigating the most impactful risks. Many risk matrices use a color-coded system to help them identify and prioritize threats.

3. Helps You Create a Strategy for Managing Risk

A risk assessment matrix also helps you develop a risk mitigation strategy. Your strategy should focus on the threats that are the most likely to occur and that will have the greatest impact on your company.

4. Provides a Real-time View of Risk

The risk landscape is constantly evolving. Threats that were inconceivable years ago may be commonplace today. A risk assessment matrix lets you identify the issues that are of most concern to your company today and lets you keep tabs on an evolving risk environment.

For example, by developing a matrix, you learn to look for signs of risks or how to identify specific events that could be problematic. You’re then on the lookout for problems and threats before they become problems or threats. Similarly, creating a matrix allows you to detect and prepare for recurring threats.

5. Prepares You for an SEC Examination

Creating a risk assessment matrix helps your company prepare for an SEC compliance exam. The SEC has increased the number of exams it conducts each year, meaning it’s likely your firm will come under review at some point or another. Fortunately, you can prepare for the exam and increase your likelihood of passing it by creating a risk assessment matrix.

Using the matrix, you can develop a strong compliance program at your firm and encourage a culture of compliance.

How to Use a Compliance Risk Matrix

Generally, creating and using a compliance risk matrix involves following several steps.

1. List Risks

The first step is to create a list of all potential compliance risks and threats. You might work with other stakeholders to develop this list, holding a brainstorming session, or you might partner with an outsourced Chief Compliance Officer (CCO). Working with a CCO means you get access to expertise and an objective opinion of the risks that can impact your organization.

When creating a list of potential risks, it can be useful to sort them into categories, such as privacy, health and safety, and regulatory.

2. Sort Risks

After identifying the risks, you should sort them based on two criteria — probability and severity.

You can sort risks using the following probability criteria:

• Highly likely: Usually, there’s about a 90% or higher chance of the threat occurring.
• Likely: The risk occurs more than 60% but less than 90% of the time.
• Possible: Risks in this category have about a 50% chance of taking place.
• Unlikely: There’s less than a 50% chance of the risk occurring.
• Highly unlikely: A highly unlikely threat has a one in 10 chance of taking place.

The severity of the risk refers to the impact it will have on an organization. Those risks with a high severity rating will have many adverse effects on a company while risks with a low severity rating might not affect a company much at all.

3. Prioritize Risks

Once you’ve sorted and categorized the risks, you need to rank them by priority. For example, a highly likely, high-impact risk will be more of a priority for your organization than a low-impact, highly unlikely threat.

4. Identify Risk Control Measures

In this part of the matrix, you outline what your organization can do to manage or control risks. Control measures can vary based on the type of threat. For example, a control measure against a data breach might be encryption. A control measure against fraud might be to require two signatures on every document or have a manager sign off on certain requests.

5. Assign a Responsible Party

The matrix should also identify an individual as the responsible party for each risk. The responsible party will:

• Know how to manage the risk.
• Have the required authority to manage the threat.
• Have exclusive responsibility for the risk’s management.

By assigning one person to be the responsible party for each risk, you avoid the potential for finger-pointing and blame. The person who’s responsible will need to be accountable should anything go wrong.

The person responsible also needs to understand the risk and have a general knowledge of what to do to mitigate it. They also need to have the right level of authority to order corrective measures and take effective measures to minimize damage due to their assigned risk.

How Vigilant Can Assist in Creating and Maintaining Your Compliance Risk Matrix

As a full-service investment management solutions firm, Vigilant Compliance services the regulatory needs of our clients. We can act as your organization’s outsourced CCO and will work with you to prepare a risk matrix.

We use a Five Step Matrix System to help your organization get the appropriate level of compliance oversight and to ensure you choose the services that are most useful for your business. Some of the services we provide include:

• Testing your existing compliance procedures
• Completing due diligence
• Preparing annual reports
• Creating a compliance manual
• Assess existing risks

Our Five Step Matrix System works like this:

1. Assess and create: We meet with your advisers and fund officers to identify your compliance needs. We’ll assign a professional to act as your CCO and will appoint a dedicated support team. From there, we help to put together a customized risk matrix, plus a compliance manual and calendar. We’ll also work with you to create compliance policies and procedures.
2. Manage and review: As part of our management and review, we’ll conduct compliance reviews and tests of all critical areas. For mutual funds, we’ll review compliance with the SEC’s Required Areas for Funds. We’ll also conduct annual reviews of Fund Adviser Compliance and will perform on-site compliance due diligence. Your company’s risk matrix, compliance calendar and policies and procedures will be kept updated based on any changes in regulations.
3. Educate and train: Education is a key part of risk assessment and management. Your outsourced CCO will provide Code of Ethics training and keep board members up-to-date on new, relevant regulatory requirements. We also train employees and officers on SEC Requirements.
4. Report and file: Your CCO will prepare quarterly review reports and status memos, and quarterly service provider and adviser compliance questionnaires. We’ll also deliver a quarterly report on notable fund adviser areas, including compliance violations and cybersecurity issues. We attend audit, special committee and board meetings and conduct disclosure controls and procedures meetings. We’ll also review timely filings and prepare your annual SEC Rule 38a-1 report.
5. Respond and resolve: If compliance issues or risks arise, we’re there for your organization. We analyze NAV errors, material matters and other types of compliance issues. We also resolve and respond to SEC inquiries and exams, and provide documentation for fund auditor requests.

Learn More About the Benefits of Our 5-Step Matrix System

When you outsource compliance to Vigilant, your organization dramatically reduces the risk of violating regulations, which helps you avoid penalties and fines.

You also get access to an experienced team of consultants, who stay on top of regulatory changes so your firm is less likely to accidentally violate the rules. We take a proactive approach to compliance, anticipating issues and putting preventative measures into place before a problem becomes severe.

When you partner with us, we grow with you. As your business grows, the range of services available to you can grow, too. We’ll scale quickly to keep up with your organization’s evolving needs. Contact us today to learn more.