This is an article from the August 2006 issue of DM Review's Extended Edition. Click on this link for more information on DMR Extended Edition or to download this entire issue in a PDF format.
Performance and Predictability: The Elusive Financial Goal
Across all industries, executives are struggling to make the performance of their enterprises more measurable and predictable.
Closing the Books Opens Pandora's Box
In the month-end close process at most organizations, financial analysts download summary and transactional data from general ledger and budgeting systems as they perform their month-end analysis activities. As significant variances appear, the analysts leave voice and email messages asking cost-center managers to explain discrepancies.
If the cost-center managers discover errors, they send messages back to finance, but most of these communications go undocumented and untraceable. If the analysts hear nothing back from cost center managers, they are left to assume that all the deviations from plan are correct. How are CFOs to certify financial statements when they cannot even tell if the numbers have been reviewed or what managers communicated in the review process?
To make matters worse, this bulky information-exchange process is time-consuming, inexact, error-prone, hard to audit and creates multiple versions of the truth. The process also forces financial analysts to spend a large portion of their time clarifying miscommunication rather than helping managers run their businesses.
Trust in the Numbers Doesn't Come Easy
After the period-close process, financial analysts collate and prepare actual vs. budget reports and distribute them to business-unit managers. In many companies, these monthly performance reports are the only guides that cost center managers receive to help them make decisions. These reports often take the form of unwieldy, hard-to-use spreadsheets that are out of date the moment they are received. As a result, many managers don't trust the reports enough to use them at all. Instead, they resort to making decisions based on incomplete, inconsistent and outdated information, and even rely on estimates, hearsay, instinct and guesswork. In doing so, these managers and their business units:
- Fall prey to inconsistent, inefficient and unrepeatable processes that hammer productivity;
- Are victimized by budget overruns and underruns;
- Make poor decisions based on missing, late and wrong information; and
- Miss business opportunities regularly.
The sad truth is that most organizations have a long way to go before they can declare that their financial controls, reports and forecasts are truly trustworthy. New regulations require executives to testify that all financial processes and results are both comprehensive and accurate. Such mandates leave managers frightened that they are being misled by falsified, erroneous or missing information. They have great reasons to be fearful; financial performance is often erratic, forecasts are missed regularly with little warning and reporting processes are slow and error prone.
Case in point: in the first half of 2005, a record number of companies have been forced to restate or delay their financial statements. This demonstrates how many, if not most businesses lack predictability and control, and their finance departments must be the watchdogs that right the ship and put it back on course. However, the Capgemini study found that 67 percent of CFOs say they still need more time to comply with Sarbanes-Oxley Section 409, which requires them to disclose material changes to company financial condition within two days. Clearly, companies need better processes and tools to forecast and report on the financial health of their business.
Down and Out in Corporate Finance
To take their organizations to the next level, finance teams must become more active partners in business processes throughout the organization and push accountability downward and outward into the organization. This effort is difficult because most organizations:
- Have many financial and operational systems from many different vendors to handle order entry, sales forecasting, production, distribution, customer service, human resources, accounting, payroll, budgeting, planning and other functions;
- Need to empower large numbers of line managers with tools to manage business activity, including but not exclusively revenues and spending;
- Must comply with increasingly strict and complex reporting regulations.
Typically, finance organizations have found it difficult to become proactive partners to the rest of the enterprise. Instead, they are buried under mountains of work that grow ever taller as managers and government agencies demand more trustworthy information on a timelier basis.
Figure 1: Traditional Approval Workflow
Performance Data and Responsibility is Stuck in Finance
Most financial systems play a crucial role in capturing and managing financial information, but they are not designed to integrate information from multiple sources and distribute it across the enterprise. As a result, financial performance data is stuck in finance. Without the ability to arm line managers with the information they need to run their business, organizations cannot take full advantage of the managers' extensive experience, nor hold them accountable. There are many reasons for this problem:
- Data is usually provided too late due to aggregation and replication delays;
- Data is not in a form that can be accessed and manipulated easily by users;
- There are too many data sources and reports;
- There is no drill down to detail from summary data;
- There is no monitoring capability to provide visibility, so issues are not discovered until it is too late;
- There is no timely dialog between financial managers, line managers and executives; and
- There is no audit trail that documents assumptions and conversations regarding budget andforecast exceptions.
Financial Policing Does Not Scale
For all these reasons, financial groups have been solely responsible for reviewing the accuracy of all transactions, clearly casting the finance function as a police force to the rest of the enterprise. Studies and real-world experience prove that this policing approach creates adversarial rather than partner relationships and does not scale efficiently as organizations and the responsibilities of the financial function grow.
One of the primary problems with traditional approval workflows is that they route transactions through a series of sign-offs that elongate approval processes. When exceptions are found during period-close efforts, there is very little online, subjective information for financial analysts to examine, and long email and phone interchanges ensue, threatening close deadlines and making the period-end process a harrowing experience.
Unless the financial reporting process changes, the only way finance groups can fulfill their responsibilities is to hire many more accountants to police each and every transaction for accuracy and compliance - and in doing so, they will still miss many of the exceptions that undermine the trustworthiness of financial reports.
Include Line Managers in the Financial Review Process
It has not been until the last few years that the world has recognized that finance groups alone cannot possibly vouch for the validity of all transactional information entered into financial systems. They need the help of line managers, who are best equipped to review and validate their own financial statements because they are most intimate with their business. This approach makes every manager a driver of corporate performance because they agree up front to their targets and know that they are being measured against them. Therefore, managers review financials more frequently and more carefully, and become part of the process of producing accurate statements.
Without the participation of line managers, the financial review process includes only limited checks and balances instituted by a few financial analysts who are unfamiliar with day-to-day operations. Hence, errors and fraud occur much more easily and continue undetected. These very real dangers have given birth to new regulations that require a high degree of scrutiny and control in the preparation of financial results. Many executives have falsely assumed that this in-depth effort applies only to the creation of financial statements, but most errors and fraud occur in individual transactions - the atomic elements that make up the statements. Therefore, to produce trustworthy and accurate financial reports, organizations must have more trained eyes looking at transactions more often and during the normal business process - not just after the fact. In essence, a proper review process is like watching an entire movie rather than seeing just a snapshot of its ending.
To include line managers in financial review processes, organizations must transform their management reporting systems into financial performance management (FPM) systems. FPM brings more eyes, more often to the financial review process and transforms financial teams from police into performance experts. Rather than losing control by pushing accountability outward into the organization, CFOs actually gain control by adding the insight and experience of line managers to financial review processes. The result is higher productivity, profitability and performance across the entire enterprise.
A modern FPM system arms its new community of reviewers with the information and tools needed to measure, monitor and analyze their piece of the business and become productive, accountable contributors to corporate performance. Using such a system, everyone can evaluate trends and opportunities; facilitate better, timelier decisions; react faster to changing market conditions; and share their expertise and insight with others in the organization.
An FPM system improves the quality and trustworthiness of financial information across the enterprise by giving reviewers the ability to measure performance with periodic reports, monitor real-time performance with dashboards and ad hoc reports, forecast revenues and expenses more dependably, and manage budgets more effectively.
To meet new, stringent requirements for financial reporting accuracy, FPM systems help organizations to shorten review and validation processes significantly, give executives confidence in financial information, and address the challenges of the Sarbanes-Oxley Act and other disclosure mandates.
Figure 2: Revised Approval Workflow
Business Requirements of an FPM Solution
To distribute accountability throughout the enterprise, organization must implement an FPM system. FPM aggregates information from general ledger, budgeting and planning systems and combines it with data from human resource, ERP, supply chain, sales and other applications. In addition, it creates consolidated views of cost centers' financial performance that pinpoint and explain variances against plan. To accomplish this, an FPM delivers the collaboration, process management and information integration power required to drive financial performance in an organization.
Foster Triple-A Collaboration: Auditable, Accountable, Alert Driven
To expand the community of financial reviewers to include line managers and their staffs, organizations need tools that foster participation, encourage collaboration and capture the questions, answers, analyses and insights that occur throughout the review process.
Auditable: Capturing the insights of line managers in the financial performance system creates an audit trail rich in contextual detail. One manager notes the delay of a project that is causing a division to be under forecast this quarter, but will drive it over its goals next quarter. Another division head enters a justification for exceeding a travel budget to win a profitable deal. To avoid losing this invaluable information forever from the performance management process, review systems must capture the comments and associate them with the right numbers in financial reports. This streamlines review and audit efforts by giving managers and auditors one-click access to essential compliance details.
Accountable: A financial performance management system needs to capture not what happened, but why and when it occurred, who was involved and how those managers decided which actions to take. Documenting such information enables managers to communicate their goals, focuses teams on crucial commitments and creates an environment of accountability that extends to every corner of the organization.
Alert Driven: To round out AAA collaboration, financial performance systems must alert managers to problems the moment they arise. Such alerts may come from automated real-time monitors built into the system, as well as from other managers in the review process whose expertise enables them to see issues in their early stages before they cripple the organization.
Enforce and Automate Financial Review Processes
An FPM system encourages the continuous and efficient review of transactions and results in real time. It delivers reports of budget, actual and variance by cost center, product or project to line managers and finance teams on a scheduled or on-demand basis.
Exception reports and alerts prompt managers to take action - accepting transactions as reported or rejecting them with an explanation. Other reviewers are immediately notified so the review process moves along at an accelerated, efficient pace. At any time, users can view dashboards displaying all the issues that require their attention. With a click, a reviewer can see the details behind any issue on their dashboard or in a report or alert.
An FPM system also allows managers to see who has reviewed reports, approved reports, contested reports and taken action on them at any time. Using this approach, senior managers are instantly aware of how much scrutiny a specific report or set of information has been subjected to, and consequently how much faith to put in the numbers.
Integrate Information Across the Enterprise
In a recent survey by Forrester Research, CFOs revealed that the average enterprise must integrate information from a dozen separate systems to produce statements that represent true financial performance. Therefore, as financial managers distribute reporting responsibility throughout the enterprise, they must provide the new reviewers simple access to those systems. This does not call for simply giving line managers a log-on to those systems; rather, they must have point-and-click access that produces reports in easy-to-consume, understandable formats.
It is no longer sufficient to provide line managers with periodic, summary financial statements. Data warehouses and tools are not the complete answer either, since they can create parallel universes of duplicate data while cutting managers off from real-time access to transaction detail. To efficiently and reliably produce dependable and auditable results, managers must have detailed financial information at their fingertips so they can recognize, analyze and document problems as soon as they see them. With a click, they must be able to drill to the details behind a number and view the detailed transactions, tactics, judgments and analyses that shape the summary information.
What does the perfect FPM system look like? Using a capable FPM system, every cost center, business unit and regional manager drives decisions and activities based on daily financial information describing how they are performing against their objectives. The information - integrated from a variety of financial, HR and other business systems - includes financial summaries and transaction details linked with operational data. Users can drill down from summary reports to transaction-level details to understand performance implications and exceptions. Anyone in the review hierarchy can add comments explaining variances within a report, thereby fostering communication throughout the organization, improving decisions, minimizing expenses and exploiting opportunities.
At the end of reporting periods, financial statements are generated directly from financial systems to minimize the chance of compilation and data-entry error. The reports are automatically sent to business-unit and cost center managers for their review and approval. At any time, executives can view the statements as well as the comments and approvals made by cost center managers who still needs to review the numbers. In short order, the executives gain 100 percent confidence that all exceptions and discrepancies are addressed and corrected.
By including line managers across the enterprise in the financial review process and by enforcing and accelerating it, the FPM system effectively and efficiently distributes accountability across the entire organization, and makes everyone in the enterprise a driver of corporate performance, enforces compliance with reporting regulations, and provides predictability and control that creates confidence in the business, the management team and the company.
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