Q1: How has the role of the CFO changed in the last few decades and how has it influenced and shaped corporate and business strategy?
A: The traditional role of the CFO has been to keep track of a company’s performance and numbers and to report on the financial performance of the business. The CFO was often described as the “bookkeeper/ beancounter”. Over the years, the CFO has taken a more active and significant role in setting the business and corporate strategy of an organization, especially as a result of market volatility and economic uncertainty. Depending on the organization and the CFO himself, he could participate in defining and developing the overall strategy. In addition, the CFO 1) Provides insights and analysis to support the decision making process to ensure that decisions are based on solid financial criteria; 2) Lead finance initiatives to support the strategic direction of a company; 3) Identifies and seeks funding sources and develops the financial plan to enable and execute the strategies; 4) Assumes the function of “stakeholder relations” reporting on the progress of implementation of strategic plans.
Q2: Finance people always have performance data. What metrics do you think are overrated and underrated? Why should we use less or more of these metrics?
A: I do not agree that financial metrices can be classified as overrated or underrated. I believe that what is more important is for users of these matrices to understand what these mean and their limitations, and that these matrices should be used in tandem with other quantitative and qualitative factors and not on a “stand alone” basis to evaluate the performance of a company.
To cite a few examples: 1) Price earnings (P/E) ratio, defined as the ratio of the price of a share vs its earnings per share . This is often used to estimate the value of a listed share. One limitation of this ratio is that it does not necessarily measure the company’s ability to generate cash for the business; 2) Return on equity (ROE), a measure of profitability, defined as the amount of net income returned as a percentage of shareholders equity, or in simple terms how much profit a company generates with the money shareholders have invested. A high ROE does not necessarily mean that the company is performing well as the measure does not consider the company’s debt level. Another indicator of profitability is Return on Assets ( ROA), computed as net income over total assets, which measures the company’s ability to generate profit from all sources of funds, borrowings and shareholder’s investments; 3) Book Value, another measure of value, defined as total assets less total liabilities as reported in the balance sheet. Oftentimes the figures in the balance sheet are reported at their acquisition costs and do not reflect current market values, and may not also include the value of intangibles like goodwill, customer base, human resources, etc., which are often not booked; 4) Net profit, defined as revenues less expenses. Net profit may be distorted because of non cash items like depreciation, bad debt expenses, taxes, and capital expenditures. Profits do not necessarily show whether the company is liquid or has cash. Thus, another metric used is cash flow, which shows the movement of money into or out of a business, usually measured during a specified, limited period of time.
Finally, metrices should not be viewed as static measures, but should be evaluated over a time horizon to indicate trends which the user should be aware of. Also, as financial statements, are prepared only at set intervals, rather than wait for the statements, CEOs should require, management reports on a regular and periodic basis, on critical items such as cash position, accounts receivables and accounts payables, year to date revenues, unfilled or back orders, etc.
Q3: How do you think a firm can create value? How does it destroy value? Can you give tips on how executives can identify value drivers?
A: A firm can create value through several ways: 1) Innovation, by offering customers something more than competition to become the preferred supplier; Innovation can create new value, or provide more or better value to deliver what customers find compelling; 2) Acquisitions to grow the business inorganically; 3) Alliances and or joint ventures to achieve synergies.
Firms may destroy value: 1) Because of a lack of understanding of what drives value for customers; 2) Too much focus on the achievement of short term targets rather than on the long term; 3) For acquisitions, a lack of knowledge of how to integrate the acquisition
To help executives identify value drivers, they should: 1) Adopt the SWOT analytical tool to determine what creates and destroys value for the business; 2) Identify the key value drivers, distinguish between what is business related and internal, and market drivers which are external; 3) Establish performance indicators and responsibilities; 4) Measure performance periodically; 5) Review the validity of identified value drivers on a periodic basis
Q4: From a finance perspective, what marketing practices can be improved ?
A: 1) Focus should not only on the “top line” (revenue) but should also consider the recovery of the costs associated with producing and marketing the product; 2) Pricing of products should not only take into consideration the target market and what competition is offering, but also its impact on profitability (Should you sell a high volume of products at low price or a low volume of products at a high price to achieve profitable operations?); 3) Disregard the inventory conditions (or too much focus on fast selling products and disregarding slow moving and obsolete products which have carrying costs and therefore impact on the bottom line); 4) Target setting without consideration of historical performance and the availability of the resources to achieve the targets.
Q5: Why do you think business or marketing plans are rarely evaluated like how shareholders evaluate their investments?
A: Many shareholders adopt the view that the ultimate measure of a company’s success is the growth in shareholder value. The belief is that the goal of a company is to increase the wealth of shareholders, payout dividends, and increase the price of the stocks. Thus, for shareholders to appreciate the purpose of business and marketing plans, these should respond to questions such as: 1) Will the plan create value for the shareholders?; 2) Which business units create / destroy value?; 3) How would alternative strategies affect shareholder value?
Q6: There is a popular saying ‘What gets rewarded gets done’. Rewards can be designed incorrectly. When should reward be based on cash flow? When should it be based on economic profit? How can rewarding sales and shipments be destructive?
A: Rewards/ compensation based on cash flows are more appropriate for mature companies to ensure that bonuses are paid for the right reason. Traditional measures such as earnings per share, net income are easier to manipulate. However this would not be advisable for smaller companies who may tightly managing their cash flows to the detriment of their customers and suppliers. Like wise for startups, companies in an expansion mode, high growth companies who need cash/ capital to reinvest to sustain their long term growth.
Rewards based on economic profitability/ economic value added are more appropriate for businesses with autonomous business units who do not have one large organization structure where resources are shared, where the incentives are tied to the performance of the business unit, where there is a “buy in” from the CEO himself, and where business unit heads have a long term tenure and are motivated by long term incentives. A key feature of the applicability of this type of incentive package is the relative autonomy independence of the manager responsible for the business unit.
Rewards based on sales or shipments can be destructive since while its good to make a sale, it is also important to know when the sale will be collected or how long it will take to be converted to cash.