Risk

Article Dean Dorton

Here are the key risks and opportunities for 2018:

Technological Modernization

Investment in mining technology has lagged behind the technological advancements of other sectors. These advancements range from automated production and data analysis to advance digital applications, such as artificial intelligence and blockchain technology. Companies willing to invest in new technology or further apply existing technology will be positioned to maximize efficiency and to gain a deeper understanding of their operations through the data that is now available to them. Consider these potential applications:

Data analysis allows a company to examine its performance under various types of weather and then have the ability to implement subtle changes based upon weather conditions that improve productivity

Machine learning applications as equipment transmit operational and geological data in real-time, while at the same communicating with a vendor regarding the operational health of the machine and need for servicing

Production analysis paired with customer profiles to maximize sales

The use of blockchain technology to streamline contract negotiations and provide direct corroboration between inventory warehouses and suppliers

Companies who utilize the tools that technology provides will be well positioned succeed in this sector. Companies who fail to invest in technology run the risk of losing competitive advantages to their competitors.

Shareholder Returns

The mining sector has not been a “hot” area for investors in recent years. Public companies have yielded mediocre results at best and been slow to issue dividends. Private companies have struggled to obtain the pricing and production volume necessary to reward existing shareholders and to entice private investors. Recent trends, such as changes in the American geo-political environment, the increase in metallurgical coal prices, and the increased demand for cobalt (stemming from battery applications), have created an environment of interest to new investors, who may seek quick returns on their investment. This presents the sector with a philosophical paradigm, to invest in the growth of the company or the satisfaction of the shareholders. It will become increasingly important for companies in the sector to balance the growth agenda with disciplined capital expectations.

Cybersecurity

The mining sector is not immune to the digital reformation transforming all other industries. With these changes come significant threats to cybersecurity. Cyber threats have the ability to eradicate gains obtained from any strategic efforts. The influx of artificial intelligence and operational intelligence as a core strategy causes cybersecurity to be a primary risk to the sector. The risk of rogue network operators, “hackers,” puts all digital data at risk.

Cash Optimization

After several years of the mining sector being cash strapped, trends within the sector have recently resulted in positive cash flows. The question now becomes how to put this cash to use: corporate growth versus shareholder awards. The concerns of the shareholders have been discussed previously. A return to growth will drive new revenue and new cost structures, namely an investment in capital. Equipment fleets have become aged as the sector sought to minimize capital expenditures. Deferred maintenance of mature equipment is likely significant as cash resources have been limited. Revenues will continue to be highly volatile and susceptible to unexpected market fluctuations.  Companies within the mining sector must be intentional in their utilization of cash, balancing the needs of today with investment in the future.

Regulatory Changes

Regulatory and political issues are a significant consideration within the sector. Nations are seeking accountability over the extraction of their natural resources while at the same time seeking to be business friendly in order to maximize tax revenue. This creates an intense regulatory environment. States and localities are advancing tax regulations that create additional cost and administrative burden. Public policies continue to promote renewable energy sources, thus decreasing demand. Environmental agencies can block or hamper access to strategic mining areas. Certain regulations threaten the way in which extracted minerals are used, thus decreasing demand. Changes to the regulatory environment can lead to uncertainty within the sector; it is very important to stay abreast of such changes. American miners start 2018 with lower income tax rates which afford them the opportunity to invest back into their businesses. Owners may also look at stock buyback opportunities. The new tax act allows for 100% bonus depreciation for five years which encourages capital investment. Mining companies may be able to improve employee benefit packages as well to help retain key employees. Lastly, miners should look to move operations back to the U.S. from foreign locations to take advantage of the better tax landscape.

Social Awareness

The mining sector must seek to proactively engage the local and regional communities in which it operates. Miners have a unique role in the local, state, and national community. The safety of its workers should always be a priority for mining companies. Miners must consider the impact of their actions within each unique community. Illegal or unethical practices will damage a miner’s reputation and make national headlines, but legitimate closing of a project due to financial reasons may generate significant reputational damage as well. Miners should consider the impact their operations have on their communities.

Operational Runway

Years of focusing on survival led many companies to minimize costs, resulting in exploratory efforts being drastically reduced. As such, many companies in the sector may have limited operational runway, meaning limited access to ongoing or future mining areas. Extending this runway becomes a key risk. Key factors include expanding the exploration budget, utilizing contract miners, studying existing areas under control, and forming strategic alliances with competitors or others within the industry.

Changing Fundamentals

This risk will only rise in severity. The mining sector is a mature component of the global economy. As social preferences change and new technologies become available the status quo of the mining sector becomes irrelevant. The future of coal becomes increasingly uncertain as natural gas took a significant portion of coal’s use in energy production. Now, technological advancements are increasing the ability of renewable energy sources to compete with coal and natural gas, depleting coal’s position even further. The current and expected future demand for electric automotives and the potential for the American commuter system to be replaced by a fleet model in the relative near future draw into question the long-term demand of petroleum and the potential demand for minerals used in battery manufacturing such as cobalt. Understanding current and future trends within the sector will be a key to success.

Production Management

Maximizing the economic efficiency of production is a competitive advantage for miners who do it well. Production is impacted by financial, geological, and even social factors. Miners who effectively manage these factors and maximize production in areas that return the most value to their company will experience success. Additionally, miners who invest in maximizing the efficiency of their production abilities will be most prepared to take advantage of market improvements in their industry.

Capital Sources

Certain segments of the mining industry have lost favor with public investors and consequentially, many financial institutions. Traditional financing arrangements are difficult to obtain, and when obtained may come with high fees and interest. Companies should consider alternative capital sources such as international institutions, brokers, and even customers. These alternative capital sources may offer a form of strategic alliance, such as in marketing existing products, or helping to develop additional assets.

Compare to 2017 risks

Article Dean Dorton

Here are the key risks and opportunities for 2018:

Attracting and Retaining a Quality Workforce

Productivity challenges exist when a manufacturer can’t retain a consistent workforce. Manufacturing companies today have a hard time finding employees who will be on time for work and stick with their jobs. When it’s hard to find reliable personnel, employers have to spend more time hiring and training new employees, then rehiring and training new employees. While manufacturing firms are doing what they can to inspire a new generation of manufacturing employees and experts, there is still a considerable void when it comes to skills and experience.

Work with schools and universities in your community to ensure that schools are teaching and promoting manufacturing-focused subjects. In addition, you can bridge the generation gap by encouraging your older employees to gradually slow down to retirement, passing on valuable skills to younger employees during a transition phase. You should prepare for a wave of retirements in the next 10 years.

Cybersecurity

Manufacturers should be proactive in cybersecurity by implementing effective controls to prevent and detect cyber-crime. A successful cybersecurity campaign includes educating employees of potential phishing schemes. Potential effects of a network infiltration include shut down of operations, theft of sensitive customer information, or theft of sensitive banking information.

Big Data Management and IT Infrastructure

Manufacturing involves a great deal of data and reliance on IT systems. Many companies are unsure of how to access and use that data to leverage positioning within a competitive market. In order for manufacturers to leverage their data properly, they must study data management opportunities and challenges, identify data management abilities, and prioritize data analysis plans. Additionally, manufacturers may consider completing an IT assessment to determine if investments need to be made to advance the company through more effective systems that facilitate data analysis.

Product Development and Innovation

The global marketplace puts an emphasis on product development and innovation, so make sure you don’t miss out on well supported R&D opportunities. Focus is needed to manage the innovation process and allow for a good flow of new product ideas and innovations to enhance future success.

Regulation Compliance and Traceability

The manufacturing sector faces increasing regulation and compliance measures. Inconsistent regulations from state to state and country to country present competitive challenges. You must have complete visibility throughout your supply chain for your own compliance and that of your suppliers. Compliance can include everything from product safety to IT security to fair competition. Revenue and lease accounting standards are changing and impacting manufactures’ financial statements in 2018-2020 as well. Identifying a complete population of all leases under the new standard presents significant challenges to all businesses.

Safety, Including Overtime Management

Safety is a major concern for manufacturers, as their employees routinely work around heavy equipment. Poor equipment maintenance can cause health and safety issues, as well as unplanned or excessive downtime. You should perform preventive maintenance on recommended schedules to keep operating costs low and throughput high, while helping to ensure worker safety. Additionally, monitoring overtime hours to help protect the safety of employees represents an important oversight role and a vital way to control costs.

Embracing the Tax Cuts and Jobs Act

Manufactures in the U.S. start 2018 with lower income tax rates, which affords you with the opportunity to invest back into your business. Owners may also look at stock buyback opportunities. The new tax act allows for 100% bonus depreciation for five years, which encourages capital investment. You may be able to improve employee benefit packages as well, which can help retain key employees. Lastly, you should look to move business back to the U.S. from foreign locations to take advantage of the better tax landscape.

Robotics and Automation

Advancements in technology have afforded manufactures new tools that will alleviate some of the labor challenges. Manufactures have begun to use autonomous vehicles in warehouses to move materials and product. The nation is facing a shortage of truck drivers so the opportunity to use autonomous trucks could be accelerated as well. Robot orders indicate high interest in the automobile, electrical/electronics, and metals industries. Experts proclaim that robots will change the economics of manufacturing with less time focused on low-cost labor positions. Robots are becoming lighter and less expansive, and they offer the opportunity to be repurposed for multiple tasks.

The average global robot density was about 74 industrial robots installed per 10,000 employees in the manufacturing industry in 2016. The most automated countries are Republic of Korea, Singapore, Germany, and Japan. Smarter robots with a “brain” in the cloud as a basis will benefit from big data and collective learning. Robots improve the quality of work by taking on dangerous, tedious, and dirty jobs that are not possible or safe for humans to perform.

Global robot installations in 2018-2020 are estimated to increase by at least 15% on average per year (a total of 1.3 million new robots installed). During 2018 alone, the industry expects 400,000 new robots to be installed around the globe, with 38,000 new robots installed in the United States. It is estimated that approximately 3 million robots will be operational on a global basis by 2020, as compared to only 1 million operational robots in 2010.

Sources: International Federation of Robotics, Robotic Industries Association, National Association of Manufacturers Outlook Survey

Article Dean Dorton

Fraud is estimated to be a $3.5 trillion annual business with the typical company losing 5% of its revenue each year. Managing the risk of fraud is challenging for any organization, but especially for a company in the manufacturing industry.

When ranking the number of frauds committed over the past 10 years, the manufacturing industry has been within the top five each year.

There are several reasons for this:

  • Decentralized operations make it difficult to ensure policies and procedures are being followed properly at all locations
  • Limited security and/or the size of certain products or supplies make it easy for employees or others to misappropriate assets
  • The use of low wage factory workers, especially in foreign locations, allows for employees to rationalize fraud
  • The increasing use of new technology allows hackers and outside fraudsters new opportunities to commit fraud
  • The complexity of accounting for inventory allows accounting personnel to cover up frauds
  • The tough economy continues to add pressure for management to meet or exceed budget

The continued increase in fraudulent activities is one of the reasons the Committee of Sponsoring Organizations of the Treadway Commission (COSO) has published a Fraud Risk Management Guide. Over the past 30 years, COSO has developed an internal control framework that is widely accepted and used and has provided thought leadership in the areas of enterprise risk management, internal control and fraud deterrence.

The Fraud Risk Management Guide’s executive summary emphasizes that deterring fraud is achieved when an organization has a strong fraud risk management program, which includes:

  • Establishing visible and rigorous fraud governance policies
  • Creating a transparent and sound anti-fraud culture
  • Performing a thorough fraud risk assessment periodically
  • Designing, implementing, and maintaining preventive and detective fraud control processes and procedures
  • Taking swift action in response to allegations of fraud, including, where appropriate, actions against those involved in wrongdoing

The guide includes examples of key program components and resources that organizations can use to effectively and efficiently develop a fraud risk management program. The guide also contains references to other sources of guidance for tailoring a fraud risk management program to a specific industry. It is designed for use by any organization, no matter the size or industry, and is highly recommended for companies in the manufacturing industry.

Our Recommendations
At Dean Dorton, we have assisted organizations in implementing various components of this fraud risk management program and have seen firsthand how it can reduce fraud. We recommend that your company starts by evaluating your existing business environment and gaining an understanding of the policies, controls, and processes you currently have in place. Secondly, you should gain an understanding of the objectives and mindset of your board of directors (or other governing body). This will give you a good idea of where you are today, what gaps you might have, and where you want to be. The COSO guide can then be leveraged to help you develop a strong fraud risk management program.

Questions?
Contact Jim Tencza at jtencza@deandorton.com.

Article Dean Dorton

Elizabeth Woodward and Nick Lynch recently presented on fraud risk considerations at the University of Kentucky’s National Conference on Equine Law. They covered top 10 considerations specific for equine clients and operations:

  1. Horse farms are often controlled by high net worth absentee owners. Ensure proper controls are in place to mitigate fraud risk in their absence.
  2. Farm management is often passionate about horses, but may lack financial sophistication. Make sure they are treating the farm like a business and implementing proper internal controls.
  3. Employees at farms (and related family offices) may develop a sense of entitlement that allows them to rationalize fraud based on the farm owner(s) lifestyle. (e.g., I give everything to this farm. Why shouldn’t I enjoy a higher lifestyle? They won’t miss the money anyway.) Be aware that this increases the risk of fraud.
  4. Farms may rely on a single employee or small group of employees for all accounting functions. Ensure duties are properly segregated, especially within the cash receipt and disbursement processes.
  5. There sometimes is a lack of transparency in syndicate expenses. Ensure that expenses are being segregated and billed appropriately. Syndicate managers and members should exercise due diligence to see that only appropriate expenses are being captured and billed.
  6. An ethical culture is the cornerstone of a strong internal control environment. Management must set the tone; employees will tend to follow their lead.
  7. Develop proper purchasing procedures, including authorizations, approval thresholds and strong bidding practices.
  8. Credit card usage is a common area of abuse and should be limited to necessary situations. Most expenses should follow the normal check disbursement or expense reimbursement (e.g., travel expenses) processes.
  9. Horse farms often lack formal policies and procedures. Develop formal policies and require employees to review and acknowledge them.
  10. Tips are the most likely source of fraud detection. Consider an ethics hotline to facilitate tips.

Three Themes:

  1. Absentee Owners
  2. High Wealth Families
  3. Passion for Industry

For more information, contact Elizabeth Woodward at ewoodward@deandorton.com or Jen Shah at jshah@deandorton.com.View Elizabeth Woodward’s BioView Jen Shah’s Bio

Article Dean Dorton

Organizations face numerous risks to their success every day including regulatory risk, economic risk, disaster risk, supply-chain risk, and technology risk, just to name a few. Fraud risk is universally one of the risks faced by all businesses, from individually-owned to government entities and every type of business in between. Unfortunately for many organizations, their greatest assets are endangered by their own employees. Those who have been hired to help the organization succeed are potentially the biggest threats to a company.   For the past nine years, the Association of Certified Fraud Examiners has studied occupational fraud, the victims, and various methods used to commit these crimes. Between January 2014 and October 2015, 2,410 cases of occupational fraud were investigated in 114 different countries throughout the world. Highlights of the findings include:

  • The total loss caused by the cases in the study exceeded $6.3 billion, with an average loss per case of $2.7 million.
  • Asset misappropriation was by far the most common form of occupational fraud, occurring in more than 83% of cases, but causing the smallest median loss of $125,000. Financial statement fraud was on the other end of the spectrum, occurring in less than 10% of cases but causing a median loss of $975,000. Corruption cases fell in the middle, with 35.4% of cases and a median loss of $200,000.
  • Among the various forms of asset misappropriation, billing schemes and check tampering schemes posed the greatest risk based on their relative frequency and median loss.
  • The median loss for all cases in the study was $150,000, with 23.2% of cases causing losses of $1 million or more.

Tips were the most common detection method in the study, representing 39.1% of cases. Organizations that had reporting hotlines were much more likely to detect fraud through tips than organizations without hotlines (47.3% compared to 28.2%, respectively). Having a hotline in place allows for employers to address a situation early rather than letting it continue and end in the courts. A hotline also eliminates the employee excuse that they had nowhere to turn.   We believe that organizations should make it easy for their employees to report suspected fraudulent activity/theft, misconduct, or unethical behavior. Operating an effective fraud tip function is neither too complicated nor overly expensive. Dean Dorton can provide a safe, secure, and anonymous way to report these concerns 24/7 through our secure fraud hotline service, Red Flag Reporting. By putting this hotline in place, you will convey to your employees that your organization is committed to an ethical culture. As an employer, you will have comfort in that the hotline provides you with a safeguard that may identify employee concerns or complaints before they develop into a crisis situation. Utilizing a third-party expert provider provides your employees with comfort that their concerns will be handled in a confidential and anonymous manner.Download 2016 Report to the Nations

To learn more about our Red Flag Reporting service or how to investigate potential fraudulent activity, contact Elizabeth Woodward (ewoodward@deandorton.com) or Nick Lynch (nlynch@deandorton.com).

View Elizabeth Woodward’s Bio

Article Dean Dorton

Are your defenses as resilient as your digital ambitions?

Digitization – creating business value through digitized assets and expanded connectivity – is increasing exposure to cyber attacks. As a result, cyber-risk strategies are under the microscope.

New threat intelligence and trend analysis in the Cisco 2016 Annual Security Report explains advances by the security industry and by criminals. Gain insights into how to effectively combat these threats with increased collaboration, communication, and coordination, and by investing for resilience. You’ll also learn how your security peers assess the state of security preparedness in their organizations.

Report highlights include:

  • How industry efforts have crippled major attacks
  • Shifts in tactics by cybercriminals to make money
  • Expert insights into top vulnerabilities
  • How adaptive, integrated solutions can quicken time to detection
  • An update about the state of enterprise security preparedness

Cisco 2016 Annual Security Report: Achieving Attack Resilience in a Digital Age

Contact Jason Miller (jmiller@ddaftech.com) or David Rice (drice@ddaftech.com) for more information.


View Jason Miller’s Bio