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At the end of 2007, The McKinsey Quarterly had a rountable discussing "Building a competitive finance function ".
This discussion was grounded and pragmatic.
I'll summarise the article, and then compare what we did in Philips; this will partly explain my role, experience and contribution.
1. Contribution to value and growth: The foundation
As a starting point, Finance should:
- Ensure a highly effective capital structure
- Setting expectations for investors and not surprising them
- Setting strech goals for revenue, profitability and cash that meet long term aspirations
My comments: the first two points are text book, derived from the CAPM which shows how capital structure (eg, the mix of debt and equity) can influence cash flows and valuation. The third point derives from the responsibility of Finance to reduce agency costs and the general fidicuary duty towards the owners; in other words, to make sure management is working hard enough to create value for shareholders. For point 2, see also this article where I discuss a presentation given to our finance group by an analyst.
2. Going to the next level
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Expose areas of underperformance and areas that are a drag on value.
The roundtable noted that "This is very hard to do and takes a lot of political skill to get right." Finance can help by making sure there is a good understanding of how the organisation is creating value, and what is happening in the market. This makes the exposure of underperformance much more objective, and will also identify areas of opportunity for investment.
In Philips, the Finance Director is number 2 in his or her management team, and one key responsibility is to lead the strategic planning process through to the financials (high level) and to set financial objectives, including tangible and operational targets like cost-price roadmaps. I always present price erosion analysis during business reviews, and make sure that we are using input from Purchasing, Market Intelligence, sales organisations and tender teams, so that we know what competitors are offering. This can make areas of drag quite objective to understand, and to predict; some things you can see coming.
For example, we had products made in a German factory; these were the highest specification products of their type. But on closer inspection, only one component provided the high specification. A considerable part of the added-value was assembly of more standard components. The German organisation was focused on the added value component. The German factory believed in our added-value strategy, and working with the unit management (me, for example) we moved assembly and packing to a new organisation in Poland (with lower labor costs and a fierce focus on cost). Later, we applied the same logic to a French factory, and met with resistance, but the value-chain was clearly the same. In both cases there were layoffs, although the German factory has grown in its core competence and three years later we are hiring again. They were able to do this because we invested in new high-tech equipment: the process of exposing areas of of underexposure should be part of a review of areas of interest for strengthening and opportunities for investment. Also, Finance should take the initiative in drafting exit strategies and corrective actions.
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Pull together cross functional teams to drive productivity,
efficiency and resource allocation. Finance can lead a discussion of
areas that can be centralised, outsourced or spun-off.
This is why good financial leaders should have cross-functional abilities.
Talent Management
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If Finance is exporting good people, it is doing something right
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Look for real strengths in technical skills and systems
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Recruit in diversity of experience
European companies rely greatly on talent development; hiring and promotion is usually from within. All managers spend a lot of time on management development ("MD"). At Philips, Finance is the role model for other functions. Lighting is a "destination employer" among the divisions, and Philips is usually very highly rated by graduates. In fact, in the Netherlands it has been ranked as the number 1 most-sought graduate employer in the last few years, which is not too bad considering the competition.
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Professional