Finance Brings Value Discipline to Strategy Execution

Interesting comments from Costco's CFO Richard Galanti in the report "Finance Brings Value Discipline to Strategy Execution: Different Paths to One Truth" from CFO Research Services, in collaboration with Deloitte Consulting LLP:

“We tend to be arrogantly simple.” When planning a new store, Costco is willing to trade off academic sophistication in favor of practicality. He explains, “We use a very basic cash-on-cash, return-on-investment calculation. One might argue that the rate in a new market should be a little different from that in an existing market, where we have a high degree of predictability. But from our viewpoint, keeping it simple is more important.”

"… No matter who you are in the company, one-fifth of your bonus [is tied to] inventory shrinkage. Low inventory shrinkage indicates a clean operation because shrinkage is not just pilferage. It includes things that are damaged, get stale, or lost. It can be caused by paperwork problems in accounting due to discrepancies between the actual shipments and billings. So low shrinkage is indicative of a clean operation in our mind, from many operating perspectives.”

“We’re not going to explain the capital asset pricing model to a buyer … We try to keep things basic and simple—much like our business itself. We sell 4,000 items, not 200,000 items. We don’t advertise. We cut out a lot of the complexities of the retail business and by cutting out those complexities and those costs, we can sell goods at prices lower than anybody else out there—and that’s what makes us successful.” So instead of explaining arcane financial economics, Galanti reduces things to the essential elements that managers need to execute strategy effectively. For example, reduction of inventory shrinkage through theft, loss, or paperwork inconsistency is a metric that goes into the incentive pay of everyone eligible for a bonus. The beauty of the metric, Galanti says, is that everyone can do something to influence it. Buyers can make sure that easyto- pilfer items arrive in hard-to-pilfer packages.Warehouse managers can minimize losses by running a tighter ship. Even accounting personnel can impact the metric by keeping a close eye on the paperwork.

Incentivising employees to put theories into practice

“What do you think is a good incentive to help people think through theories that show evidence in practices or outcomes?” asks Dr. Ellen Weber of the Brain Based Business blog, commenting on my earlier post on talent management. From my experience (as a participant) in the talent management initiatives of some well-managed organizations, this is how I think the process can be formalized:

  • Participants in a talent development course, say a 6-sigma course, are first asked to formally note down their understanding of the subject matter, say Quality Management and 6-Sigma concepts before attending the course.
  • Before the course starts, they are to note down their expectations from the course and how they plan to translate it into results. For key courses / audiences, this could be quantified – say, in the number of hours or dollars they expect to save by using the inputs from the course.
  • At the completion of the course, participants are to again note their key learnings from the course as also any additions / changes to the benefits they can think of having completed the course.
  • These objectives can then be formally tracked at the completion of set timeframes, say 1 week, 1 month and 1 quarter from the completion of the course – how many objectives were practically achieved? Of the objectives that couldn’t be achieved, analyze the reasons for further process improvements.
  • In the annual / periodic performance appraisals, track against each performance objective how much the courses attended earlier contributed. If possible, attach dollar values to the value added attributable to the courses.

Thus you have metrics to measure the benefits derived from each course as also a ranking of the attendees who were the best at putting the theories into practice – something which can be further incentivized in the form of recognition and/or rewards.

The disappearing mid-market

The Economist has a thought-provoking article on the "two most noteworthy trends among the swelling ranks of middle-class consumers around the world—trends that appear to be, at first glance, at odds with each other. These are the tendencies for consumers to be more cost-conscious; but simultaneously more willing to splurge money on luxury items." Key takeaways:

  • Sales both at the top and bottom of the consumer market are rapidly growing while sales are being squeezed hard in the middle, though it is still the largest market segment in rich countries.
  • One reason [for trading down] why this change has taken place is that the discount retailers have raised the quality of their products. A second development is the rapid increase in transparency in consumer markets, thanks not least to the internet.
  • Americans, in particular, “have become addicted to the deal, which is leading them to do irrational things” … One consequence is that people buy lots of stuff they do not need … chiefly because it seems to be a bargain.
  • Companies that get stuck in the mid-market may be doomed. But as businesses trading up clash with those trading down, some of them may end up as losers, too.

Recommended reading on this topic:

The CEO’s role in talent management

The EIU published a report "The CEO’s role in talent management: How top executives from ten countriesare nurturing the leaders of tomorrow" in collaboration with Development Dimensions International (DDI). Key takeaways: 

  • Good talent management is not undertaken in a piecemeal fashion but consists of comprehensive development programmes. These include the identification of leadership potential, performance evaluations, targeted development activities and job experience.
  • Many CEOs mentor executives in their organisations—an additional and important part of the programme. They regard the development of the next generation of leaders as one of the best ways of leaving a strong legacy.
  • Formal processes for identifying top talent, including performance evaluations, and strategic reviews of key talent should occur at least annually and incorporate written feedback to buttress scored categories.
  • A varied business background is the best grounding for the CEO and COO roles. As today’s corporate leaders face such diverse challenges and opportunities, firms are looking for people with wide experience in terms of function, role, and, increasingly, geography. 
  • Talent development programmes should combine both theory and practice in the form of structured learning experiences and off-site meetings, as well as the proper business experience. They should be supported on a daily basis by coaching and mentoring activity.

Finance outsourcing in the high-tech and electronics industries

Key Findings of an Accenture-sponsored survey conducted by the EIU looking into trends, risks and opportunities associated with finance outsourcing in the high-tech and electronics industries:

  • Finance is among the most outsourced functions.
  • Finance being outsourced by small and large firms at differing rates.
  • Executives are satisfied with outsourcing arrangements.
  • Barriers to increased finance outsourcing exist.

What are the primary benefits / objectives of outsourcing the Finance function?

  • sharper focus on core competencies
  • lower costs.

If you do not outsource finance and accounting functions but you do outsource in other areas of your business, please indicate why the finance function has not yet shifted to this model.
The finance functions are considered too critical tobe outsourced (54%)

What will be the primary drivers behind the increasing use of finance outsourcing in your industry?

  • Improved quality of service from outsourcing providers (46%)
  • Pressure on costs (49%)

In your own organisation, what are the barriers that stand in the way of a decision to outsource finance functions?

  • Desire for greater direct control of finance functions (68%)
  • Cultural resistance to change (42%)

In your view, what are the 3 primary risks associated with finance outsourcing?

  • Risk that quality of service is inadequate (63%)
  • Risk that in-house knowledge and expertise erodes beyond repair (42%)
  • Risk of breaches of data security (41%)

Shaping digital convergence through mergers & acquisitions

Useful EIU / PwC survey findings and report on the opportunities and the pitfalls involved in digital convergence and mergers and acquisitions (M&A). This is an exhaustive survey of 149 executives supplemented with over 30 in-depth interviews of industry veterans. Key takeaways:

  • According to Dow Jones CEO Richard Zannino, “I’ve done 20 or 30 M&A deals, and one thing I’ve learned is never to rely on revenue synergies, because they never seem to materialise. No matter how great the brands, no matter how great the match, you’re going to lose some revenue in the process.” For this reason, says Zannino, “I put more weight on cost synergies, and that’s what makes up for the lost revenue.”
  • Many executives prefer partnerships and alliances as a less risky way to explore unfamiliar terrain. But there are shortcomings, including an inability to control relationships, either with customers or even with other parties in the alliance or partnership. And risk aside, alliances and partnerships may also move too slowly to capitalise on fast-moving opportunities. By failing to place a significant bet, executives realise, their companies may fail to maximise the convergence payoff.
  • But for those organisations choosing the M&A path, the warnings from the research are clear. Be certain you’re pursuing a realistic strategy-and then compare the value of that strategy versus the acquisition price. Markets today are heating up and few if any strategies in the history of business have been pursued successfully at any price.
  • Which sectors do technology, media and telecom executives believe will become the overall winners in digital convergence?
    1. Entertainment content developers (42% respondents)
    2. Consumer electronics manufacturers (36%)
    3. Wireless operators and related service providers (30%)
  • As for the role of mergers and acquisitions amid the many likely success stories, the last word goes to a CFO from a large, US-based high-technology company: “We know a lot of companies are going to stumble badly, but a lot more are going to do really well. I’d have to say strategy is important, but in the end, it’s all in the execution. A great strategy, poorly executed, is a waste of everyone’s time and cash. But a decent acquisition, well executed, with loads of cost synergies, can generate enormous returns. So in M&A, all you need is a good idea-not even a great idea but a good one-coupled with great execution and you can achieve amazing results.”

Also, a useful side-bar on “How to make a strategic alliance work” on pg.21.

EIU/Accenture suvey on innovation and growth strategies

The Economist Intelligence Unit (EIU) just came out with the results of an Accenture-sponsored survey on innovation and growth strategies. Key findings:

What do you think will be the main drivers of profitable growth at your company over the coming three years?

  • Globalisation – allowing their companies to tap new markets and new sources of materials and talent (54%).
  • Demand from the marketplace for constant innovation (49%).

What do you think will be the two biggest drivers of innovation at your company over the coming three years?

  • Technology advances-including convergence, ERM, biotechnology and automated sales tools (21%).
  • Customer demand for better convenience, improved service and more advanced products (19%).

Importantly, few people (6%) believe that management focus or compensation structures are driving innovation at their companies.

Which of the following do you think are significant barriers to innovation at your company?

  • Lack of collaboration within the organisation (43%)
  • Lack of incentives to find innovative solutions (39%)
  • Lack of end-to-end processes for getting an innovation to the marketplace (36%)

But there are differences in perspective among the top-management and middle-management groups, with the latter seeing more barriers to innovation. In particular, non-C-level executives see a greater need for compensation structures that reward innovation and a greater need for end-to-end processes to bring ideas to market. C-level executives express greater confidence in their companies’ abilities in all three stages of growth and innovation.

Does it mean that C-level execs know more because of their macro perspective or does it mean they are not in touch with the ground realities?