ERM: If You See the Iceberg, It’s Too Late

A look at the Titanic shows why there must be, in advance, measurements to determine if risk tolerances have been exceeded.

Let’s imagine a meeting of the risk committee of the International Mercantile Marine Co. a bit more than a century ago. The meeting was called to order. Mr. Morgan addressed the representatives of its companies: Mr. Clement Griscom of the American Line and Red Star Line (International Navigation), Mr. Bernard Baker of the Atlantic Transport Line, Mr. J. Bruce Ismay of the White Star Line and Mr. John Ellerman of the Leyland Line. The topic was the business of the trust, including opportunities for growth and boosting investor confidence. Mr. Morgan noted with approval that IMMC had met the competitive challenge from Cunard by launching the Olympic. He said he expected that the builder, Harlan & Wolff, would deliver an even more prodigious conqueror of the sea, with Titanic.  He asked Mr. Ismay if plans were proceeding as scheduled for the second jewel of the White Star crown. Mr. Ismay replied that there had been a problem securing sufficient high-quality iron ore for the rivets fore and aft on the hull. Mr. Ismay added that Harlan & Wolff had decided that, to control costs, it would use iron rivets, rather than steel, to secure the hull fore and aft. Steel rivets would still be used amidships. Mr. Morgan cleared his throat.  He said he found it somewhat annoying that Mr. Ismay’s shipbuilder’s plans to lower quality to preserve its profits would, given the cost-plus nature of the contract, cut into IMMC’s own profits. Mr. Morgan also said that Lord Pirrie, the chairman of Harland & Wolff, had cabled him expressing concern about labor shortages and whether the suppliers of the iron rivets were up to the task. Mr. Ismay assured Mr. Morgan that the success of the Olympic vindicated Harland & Wolff’s approach and that it was typical in projects such as these that there would be labor and materiel shortages that must be resolved by using smaller firms to fill the gaps. He was certain that these suppliers would be up to Harland & Wolff’s standards. Every specification for Titanic meets maritime regulatory requirements, he said, and White Star will deliver handsome profits to IMMC.  He expressed his disappointment that Lord Pirrie raised his concerns to Mr. Morgan directly. That was not how a gentleman, let alone a peer, should conduct business. Mr. Morgan said he was also told that Harland & Wolff expressed concerns that not enough lifeboats are planned to be available in the event that the unthinkable were to occur. While the prime objective is to bring value to investors, Mr. Morgan said, IMMC must be prepared in the event that a serious loss, no matter how unthinkable, may occur. Insurance can cover the loss of property, but no policy can indemnify against a loss of reputation. Mr. Ismay reiterated that the number of lifeboats met regulatory standards and reaffirmed White Star’s compliance with the rules governing international shipping. Mr. Ismay also noted with pleasure that, while the announcement had yet to be made, legendary White Star Capt. Edward Smith would be pilotin Titanic on her maiden voyage. There was a deathly silence in the room. The other company officers looked away awkwardly. Mr. Morgan stared at Mr. Ismay and asked, almost under his breath, whether this was the same Capt. Smith whose piloting of the Olympic caused the collision with the HMS Hawke? The same Capt. Smith who caused Olympic to be laid up in Belfast and delay completion of Titanic? The Capt. Smith whom the Royal Navy found to be at fault for that collision; that Capt. Smith? Mr. Ismay replied that using the “Millionaires’ Captain” was necessary to make sure that the elite sailed to New York on Titanic. The ship has an excellent crew and experienced officers and is well-nigh unsinkable, so nothing will happen to her, Mr. Ismay told the group.  He assured all those in the room that the British had a rich tradition of honor and seafaring and that nothing would dim the success of the White Star Line and its crossings from Southampton to New York. Titanic and Capt. Smith would exceed their expectation for return on investment. After a brief pause, Mr. Morgan stated that he hoped that the IMMC would not prove to be his one business failure. With that, he looked to the other operating subsidiaries and asked for their reports.

Obviously, this meeting never occurred, but it illustrates many problems that do occur with enterprise risk management (ERM). In our hypothetical meeting, the overall objective of investor return was articulated, but there was no enterprise-wide view of risk and no mechanism by which to measure whether IMMC’s risk tolerances were defined, let alone exceeded. Each subsidiary was a silo even though each subsidiary, and the White Star Line in particular, could put the entire enterprise at risk. From the management of the finances to the assessment of the qualities and capabilities of spot labor and materials, the only “risk” identified was not finishing the project (Titanic) as close to deadline as possible. Had IMMC not been so leveraged in Mr. Morgan’s efforts to create a transatlantic trust to dominate the shipping trade, perhaps an enterprise view of risk could have been articulated that would have allowed for sufficient controls and incentives on identifying and reporting risk, and Titanic would have sailed the Atlantic successfully for decades. But that was not to be. Virtually everything that could go wrong did go wrong. J.P. Morgan considered IMMC to be one of his few failures and was, indeed, a colossal one. Morgan died in 1913, and IMMC sought bankruptcy in 1915. The company continued on until the last vestige of IMMC, the United States Lines, went bankrupt in 1986.  The White Star Line merged with Cunard in 1934, and in 1950 Cunard bought the last remaining shares of White Star Line, ending that marque forever. Harland & Wolff continues to build ships in Belfast.

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