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Ventana Research

Information-technology-led performance management can enhance the strategic valueof finance departments.

During the 1990s, many large corporations made substantial strides in improving the efficiency of their finance functions. Indeed, the average cost of operating a finance department relative to a company’s revenues fell by nearly half during this period. When applied only to the Fortune 500, this amounts to ongoing annual savings of $60 billion. Since then, increases in efficiencies have been limited. Several factors are probably at work here. Companies used the IT innovations of the 1990s (including financial and reporting applications) to good effect, but many have largely exhausted the potential for further savings simply through increased automation. In addition, in the United States, public companies have had to deal with the Sarbanes-Oxley Act and other regulatory issues that for many have been a drain on productivity.

More important, the inability of finance departments to achieve further efficiency gains is an indicator that focusing solely on efficiency in administrative tasks is last year’s game. Today reaching a median cost benchmark is simply table stakes. True differentiation for the CFO and his or her organization no longer entails achieving “world class” cost minimization; it’s all about driving performance management throughout the company. Yesterday’s benchmarks looked for ways to minimize the time spent on a less-than-useful corporate budgeting system. Today’s performance management culture uses the planning to align objectives to strategy and optimize the use of resources in achieving those objectives. It amplifies the effectiveness of that planning process with information technology to increase the company’s agility.

Corporations that already have achieved above-average or even average efficiency can realize additional improvements by making the finance organization a more strategic contributor. Many CFOs and senior finance executives do not fully appreciate the degree to which they themselves can improve their company’s performance by using information technology.

Efficiency Is No Longer Enough

Information technology can deliver far more strategic value than most companies ask of it. Finance departments, in particular, can and should be using existing systems to support more effective operations than they are today. And, rather than being content with having achieved good efficiency metrics, they need to maximize that gain by playing a greater role in driving the success of the entire organization.

Efficiency in executing administrative functions is important, but it is not the only measure of the value that the finance department can add. For many routine finance operations, such as processing invoices, efficiency is pretty much all that matters because outcomes are largely binary (e.g., the invoices either were entered accurately or were not). However, other finance activities are not that simple because the desired result is more qualitative. To take a prime example, budgeting and planning are areas where efficiency and effectiveness collide. The traditional metrics by which companies assess their budgeting efforts aim to limit the time spent on the process without considering the outcome. These measures implicitly assume budgeting is a purely administrative function with limited value and, therefore, companies ought to minimize the time and resources spent on it. Yet this assumption misses the point, which is that companies spend too much time on budgeting and not enough time on planning.

Transforming the annual budgeting ritual into a value-adding planning activity means redefining the process and its objectives. Proper planning is a structured dialogue that ensures closer alignment of resources across the company. It forms the basis for objective measures of employees’ or business units’ contributions to the organization’s objectives. It facilitates benchmarking performance relative to external or internal objectives. It makes it easier to optimize resources by analyzing plans to uncover unnecessary or misdirected spending. Planning well increases accountability and buy- in from managers and employees. It also promotes operational efficiencies. In large companies the annual budget rarely accomplishes these objectives well. Simply measuring the efficiency of a budgeting process according to time spent or subprocesses does not promote effective planning.

IT Drove Major Efficiency Gains in the 1990s

Most of the improvement in finance department efficiency in the 1990s was the result of implementing information technology capabilities such as enterprise resource planning (ERP), business intelligence (BI) and reporting software. Some challenge this assertion, citing their experience after their first big ERP rollout. “We laid off all of these people to justify the investment and then hired most of them back as consultants at a higher cost,” is the typical retort. When asked whether those consultants were still there a year later the answer is always, “No.” Major enterprise software systems are not like energy-conserving light bulbs that begin saving money the minute you switch them on, so it has been easy to overlook the magnitude of their contribution. Much of the efficiency gained by these IT investments was achieved over time, often through avoided costs. While revenues climbed, finance department headcounts remained the same.

However, since the start of this decade, further efficiency gains have been slight. Certainly part of the reason was the impact of the Sarbanes-Oxley Act and other regulatory burdens in the United States and possibly the slow economic growth in Europe. Yet it is also clear that most of the straightforward efficiency improvements from employing ERP and BI have been achieved. Gaining lasting value from information technology also requires changes to business processes and the ways people work. Some of these process and people issues must be addressed before implementing new software, while some should be done afterward. So what should a CFO do now, especially since, for many finance executives, there is increasing pressure to be less of a bean counter and to play more of a strategic role in the company? Performance management is a good place to start.

Performance Management

Executives can achieve better alignment between business and IT to achieve sustainable improvement in a company’s execution. Performance management is an approach that sets objectives for individuals and business units based on a corporation’s strategy. This involves identifying the things that will have the greatest impact on the success of a company and determining the best ways to measure them. Periodically organizations measure results and assess how well they are doing. Almost all large and midsize companies do this today; however, most of them could be doing a much better job.

Performance management represents a shift – sometimes small but always important – in how companies use information. It is planning, not simply budgeting. Scorecards, not just dashboards. Culture and process that focus on the important factors that drive the business, focus people’s efforts on their contribution to these drivers and embrace change and adaptation.

Performance management is the embodiment of the late Peter Drucker’s famous phrase, “You cannot manage what you cannot measure.” The billions of dollars that corporations invested in expanding their enterprise information systems over the past decades have greatly expanded the things that they can measure. What were once simple billing and accounting programs are now full management systems. Information that was once locked up in proprietary systems is far more accessible today. The increased attention on performance management over the past five years comes from a growing understanding that corporations have the opportunity to use this wealth of information to drive better results. Yet there continue to be companies that are not achieving the full potential of these systems.

For example, planning – rather than simply budgeting – is an important step in making the finance organization more effective in driving better performance in the company. As noted earlier, most companies spend too much time budgeting and not enough time planning. While people use the two words interchangeably, they are, in fact, different.

Planning is a process that defines a set of coordinated actions aimed at achieving specific objectives; budgeting is a process that develops the means of fiscal control to match outlays to expenditures. Plans are about things, while budgets are about money. Both are important to a company’s success, but people focus mainly on the latter in a process we call “budgetingandplanning.” In this mixed bag, people do a lot of planning in their heads or in other ways that are not captured in documents and shared with others. Assumptions are implicit, not explicit, and what one person assumes about the direction of the business may not line up with what others think. Driver-based planning makes those assumptions explicit and quickly reveals disconnects between parts of the business. Moreover, driver-based planning forces companies to focus on those key activities and objectives that drive success. These are the same metrics they should be using to assess the performance of business units and individuals. Driver-based planning helps limit the game playing and sandbagging that is all too easy to do in a “budgetingandplanning” system.

When “executive information systems” first appeared decades ago, they were hailed as a breakthrough because they gave senior managers fast access to the most up-to-date performance numbers. However, these systems had two basic flaws. First, owing to the limits of technology, they were available to only a small number of people in a company. Second, they offered data points with limited context. Today’s corporate “dashboards” are widely available. Managers and employees have access to large amounts of data. What is still missing in most companies, though, is the context for adding value to that information – what it means and how important it is. A dashboard is like a thermometer that indicates it is 68 degrees Fahrenheit/ 20 degrees Celsius. Is that good, bad or neutral, and how relevant is knowing the answer to any given individual? For a company that makes ice cream, it would be a disaster if that were the temperature inside its freezer. It might be a fine level for the accounting department but unimportant to an accounts payable clerk and too cool for the facilities manager who wants to save on air-conditioning expense. Too often the data presented to employees gives little context or weight. It’s as if they are supposed to know.

Our research shows that most employees think they receive enough of high-level information about their company’s or business unit’s financial performance but too little about how well they are performing relative to their own objectives. Many companies cannot provide this information because they either do not have established relevant metrics, do not (or cannot) collect the data, or both.

Embracing performance management as a core value for a company also can help overcome the difficulty executives face when trying to improve their organization’s results. Some companies have a measurement culture. For these, performance management is an extension of what they normally do. Some, however, either reward attendance or intentions. These organizations resist any systematic attempt to instill accountability. Overcoming this obstacle is never easy, but it is made easier through a focus on objective measurements.

Why It’s a Job for Finance

Measuring how well a corporation performs has long been the job of the finance people. This has evolved from simple ratio analysis to more sophisticated cost accounting methods (e.g., marginal cost, activity-based costing) whose development was driven by the need of the large industrial concern to manage production and other costs on a larger scale than ever before. As companies jockeyed to find new means of achieving sustainable advantages, the scorecard was born. The first was developed in the 1980s by a semiconductor manufacturing executive who grew frustrated by his company’s exclusive focus on the bottom line. He understood the company’s long-term competitiveness depended on product quality, on-time delivery and other nonfinancial measures that directly affected a company’s profitability and competitiveness. While it’s important to look at a company’s results expressed in generally accepted accounting principles, so too are these other numbers.

Today’s scorecards have evolved as corporations have come to embrace the concept and so have enterprise IT systems. One reason companies used to focus exclusively on accounting data is that was most of what was available. Today many of the important nonfinancial metrics used in any kind of scorecard (balanced or otherwise) are (or could be) collected by the company’s ERP and other IT systems. Finance organizations need to exert more active ownership of the data in these systems. That means ensuring that the important data the systems can collect is, indeed, being collected.

Since the data and the analytical talent are there, the finance department is best positioned to handle this task. Doing it well, though, requires setting both financial and nonfinancial objec- tives and measuring performance against these. All of these numbers should be part of a company’s planning and review process.

Performance Management and the Role of Finance

Finance organizations traditionally have played a largely administrative role in most corporations. While executing this function efficiently remains a core part of its mission, a majority of people believe finance should take more of a leadership role. Senior finance executives who have achieved above-average efficiency should focus on ways to broaden the mission of their organization. Performance management, especially efforts that incorporate operational as well as financial aspects of an organization’s performance, is a natural extension of finance’s traditional role. It can benefit the entire company and enhance finance’s standing as well.