Managerial Career Concerns and Enterprise Risk Management Adoption

Abstract

Enterprise Risk Management (ERM) is the approach of managing all risks faced by a firm in an integrated, holistic fashion. This research analyzes factors that influence a firm’s decision to start an ERM program. We argue that top management’s decision to adopt ERM is influenced by managerial career concerns about keeping their jobs. ERM adoption reduces the volatility of a firm’s earnings and, hence, improves the informativeness of earnings as a signal of the manager’s ability. The career concerns view predicts that a manager with a high initial reputation should only adopt ERM after a period of poor performance. Consistent with this prediction, we find that negative changes in past firm performance increase a firm’s probability to adopt ERM and are accompanied by significant improvements in the quality of a firm’s risk management process.