Risk Management Committees Hedge With Best Practices

By Judd W. Vande Voort | October 06, 2008
Boards of directors at operating ethanol plants understand the importance of risk management. In today's market environment, deciding how to effectively manage costs of goods sold and a facility's margins often makes the difference between being in the black or the red. Many of our ethanol clients have established risk management committees at the board level consisting of the board members best suited to interact with management on procurement, marketing and hedging decisions.

How risk management committees function varies significantly, but they share a common goal: overseeing the procurement and pricing of feedstocks and other inputs, as well as the marketing and pricing of ethanol, distillers grains and other coproducts. How can a particular board determine if the risk management framework in place at their company is adequate? Does it depend entirely on whether the company is making money? What about fiduciary duties and director liability? Has the committee tied management's hands or have they delegated too much responsibility to management? The answers to these questions aren't necessarily clear. Each company has varying degrees of risk management expertise at the board level and the management level, varying personalities and degrees of risk aversion, and varying levels of liquidity available to implement certain strategies.

Accordingly, it's no surprise that each company has its own approach to risk management.

Ethanol companies filing periodic reports with the U.S. Securities and Exchange Commission can appreciate the necessity of having certain procedures regarding the use of derivative instruments clearly articulated and documented in their quarterly and annual reports. Further, board members can appreciate the importance of making business decisions in good faith after informing themselves of material facts necessary to exercise good judgment to meet their fiduciary duties to the company. Finally, board members and managers can both appreciate the importance of being able to answer a shareholder's question about a decision with a well-reasoned and process-oriented response. For these reasons, regardless of whether your ethanol company was in the black or the red last quarter, it is important for your company to have a well-defined process for delegating risk management responsibilities and assessing performance.

Regardless of who is responsible for making trading decisions, whether it's the risk management committee, the general manager, an in-house commodities manager, a third-party risk management consultant or a combination thereof, each should be acting in accordance with a written risk management policy adopted by the risk management committee. From a best practices perspective, the creation and utilization of a risk management committee consisting of knowledgeable and informed board members—implementing a risk management policy that has been adopted by the company's board—is the best way to ensure that the board of directors is doing its part to oversee some of the company's most important decisions.

Judd W. Vande Voort is a securities attorney with BrownWinick, a law firm based in Des Moines, Iowa. Reach him at vandevoort@brownwinick.com or (515) 242-2440.