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Enterprise Risk Management and the Cost of Capital
Author(s) -
BerryStölzle Thomas R.,
Xu Jianren
Publication year - 2018
Publication title -
journal of risk and insurance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.055
H-Index - 63
eISSN - 1539-6975
pISSN - 0022-4367
DOI - 10.1111/jori.12152
Subject(s) - unobservable , cost of capital , business , enterprise value , economic capital , implicit cost , enterprise risk management , weighted average cost of capital , capital cost , capital call , finance , industrial organization , capital (architecture) , risk management , microeconomics , economics , individual capital , total cost , profit (economics) , accounting , econometrics , macroeconomics , history , archaeology
Enterprise risk management (ERM) is a process that manages all risks in an integrated, holistic fashion by controlling and coordinating any offsetting risks across the enterprise. This research investigates whether the adoption of the ERM approach affects firms' cost of equity capital. We restrict our analysis to the U.S. insurance industry to control for unobservable differences in business models and risk exposures across industries. We simultaneously model firms' adoption of ERM and the effect of ERM on the cost of capital. We find that ERM adoption significantly reduces firm's cost of capital. Our results suggest that cost of capital benefits are one answer to the question how ERM can create value.