Financial Crisis Banks Were Unable To Manage Their Risk Exposure Accounting Essay


In the late 2000s financial crisis banks were either unable to manage their risk exposure or were unaware of it until assets situations became unfavorable. Firm risk consists of two components. The first one is associated with the assets which a firm chooses to invest and the second one is the uncertainty of the environment that a firm operates in. Assets' risk is endogenous and the environmental risk is exogenous to the firm.

A good management accounting system (MAS) will try to manage both risks. MAS will provide information for managers regarding how to hedge or balance the risk of their asset portfolio and also will track the environment to provide managers with timely information.

The Senior Supervisors Group (2008) worked on identifying general characteristics of the firms which performed better during the credit crisis.

First, they mentioned that firms which avoided such problems analyze firm wide exposures and risk, and share information more effectively across the firm. The second addresses a firm's use of the information in controlling procedures and strategic planning. Both of these characteristics are related to the sophistication and implementation of the firm's management accounting system (MAS). A more sophisticated MAS system will lead to greater performance as these managers will have better information on how to handle the risk of the chosen assets and more timely information on changes in their working environment.

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In addition to sophistication of MAS, Williamson (1975) tells that a firm's structure will determine its performance. Firms working in an uncertain environment need to have structures that are adaptable to change (decentralized firms), whereas, firms in a stable environment will work more efficiently by centralizing authority (hierarchical firms).

Also, regarding the importance of MAS and its effects on managing risk Willimson (1975) states that the financial sector has a wide range of structures (single entity structures to structures that have more than 5,000 separate entities). A firm's structure, the sophistication of their management accounting system (MAS) and the interaction of these two characteristics may have an effect on its ability to manage uncertainty.

This leads us to the second question of this research: Does the level of decentralization, moderated by sophistication of MAS, help explain performance during the credit crisis?

As policy makers in many countries go for new economic stimulus plans and long term regulatory changes, they will need research on financial firms' abilities to survive in the future crises. In addition, some academics pursued the theoretical question surrounding the optimal fit of structure, MAS, and environment (Chia, 1995; Chenhall and Morris, 1986; Chenhall, 2008); this research will add to those literatures.

Waterhouse and Teissen (1978) studied on the connection between MAS and risk. They defined environment as an important variables in determining the structure of MAS, specifically they mentioned that stable environments allow firms to be static or rigid in their procedures.

These firms tend to employ more non financial measures of performance, such as the balanced score card. These firms also tend to be smaller and more decentralized. Relating this theory to financial firms, further studied on this continuum is seems to be needed. In addition, there is a lot of variability in structure of financial firms, implying that their MAS gather different information or are interpreted differently across financial firms.

The depth of a MAS system for a decentralized firm is often referred to as sophistication in the literature. Theory suggests that it is not sophistication of MAS that leads to greater performance but rather the fit between the structure of the organization and their MAS system.

Chenhall and Morris (1986) worked on MAS and decentralization and announced that MAS aspects were related to firm structure. They found that decentralization, environmental risk and firm interdependencies created preferences for different aspects of MAS.

Gul (1991) extends Chenall and Morris work to performance and finds that fit between MAS sophistication and environmental uncertainty matters. For high uncertainty sophisticated MAS leads to higher performance but for low uncertainty, sophisticated MAS reduces performance.

More recently, Chenhall (2008) studied the firms' management of decentralized organizations (horizontal firms). He said that MAS can support a firm's decentralization and customer focused strategy and he asked for more in depth research on how management accounting plays a role in decentralized organizations.

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Chia (1995) investigated on decentralization and MAS and its effect on performance. He found that sophistication of MAS has a larger effect on firm's performance as firms decentralize. His findings are based on self reported survey data and limited to firms in Singapore. Gul and Chia (1994) find that the relationship between decentralization and performance is moderated by MAS sophistication using the same data set.

This study will expand this issue and test the generalization of the previous literature findings in Malaysia During the Asian financial crisis Also in recent years many multinational investment firms are increasing their presence in Malaysia so it is important to look at the firm's structure changes, risk management and their effects on the performance in Malaysia.

This study differs from other studies on structure, MAS and environment, by first

focusing on financial firms. It is always difficult to interpret empirical results in

heterogeneous samples. Limiting the sample to only the financial industry will help

provide a clearer picture of the effects and interactions. Secondly the period of study,

1995-2000, which was the sharpest financial crisis to hit the developing world since the 1982 debt crisis, also is the least anticipated financial crisis in years. This provides a natural experiment testing the ability of financial firms to adapt to changing conditions.