Are your metrics future-proof?
In my previous article ‘What finance should be, but rarely is‘, I set the scene of how CFOs need to transform the Finance function. Finance needs to redefine itself as a business partner that creates real customer value in a volatile and digital world. One of the key challenges in that transformation journey is the definition of new metrics that represent the value of the company. Traditionally, Finance looks at the return on shareholders’ equity to determine the value of the company. Based on a business plan for the next 3 to 5 years and financial data from the past, a financial projection is made of a free cash flow model that should more or less represent the value of the company.
A new perspective on value creation
These numbers still matter, but if you take a look at the Fortune 500 companies today, most of the metrics that determine their value aren’t on the balance sheet. These companies now focus on metrics such as intangibles valuation, brand equity, customer profitability and customer equity. The underlying idea is that regardless of how good your products and services may be, if you can’t achieve customer loyalty, you don’t create real value.
Many companies still struggle to determine this new set of metrics. Quite understandably, since these are much more difficult to calculate than traditional metrics such as solvency, cash flow and EBITDA. What has to come first is a mind shift. Finance not only has to reach out to the business, it has to gain a deep understanding of it. Recently, I was talking to a CFO who told me that some of his Finance people hadn’t visited the company’s plant for years. That just demonstrates that some companies still have a long way to go. Silos – each working on its own data sets and focusing on its own performance – need to disappear and Finance must take a deep dive into the business dynamics.
Long term horizon
To make the shift from piloting the business on the basis of short term profitability to focusing on long term value creation, action needs to be taken on different levels. CFOs should let go of their focus on the end of year closing, which almost by definition disconnects Finance from the operations. Instead, Finance must learn to think and act according to the customer’s total lifetime value. The concept of customer lifetime value is in fact the common language shared with sales and marketing that Finance needs to learn to speak.
Within that total lifetime, different moments can be defined. There is the moment when you acquire a new customer, another when you service your existing customer in a cost efficient and operationally excellent way and yet another when you focus on stretching the customer lifetime as far as possible. Many aspects that Finance considers to be a cost today are in fact managerial investments. For instance, marketing. Is marketing a cost or an investment? If you consider it a cost, and you allocate it to new or existing customers, that would mean that the more you spend on marketing, the less profitable your customers become. However absurd it may seem, we still see that kind of logic being applied. Whereas, when costs arise, they should be spread over the total customer lifetime and often be considered managerial investments that need to be underpinned by a business case and need to deliver a clear return on investment. By doing that, companies are already making an important first step towards driving the business on customer value.
To survive in the rapidly evolving world we live in today, companies have to become more agile and have to be able to grasp opportunities as soon as they occur. There is no doubt that Finance still has a valuable role to play, but therefore it should be aware of the requirements to fulfill its new role and start to act upon it. Now is the time to do so if you don’t want to be outpaced by your competitors.
This article is the second of a series of 6. After setting the scene of why CFOs need to transform the finance role, I dive deeper into the 5 challenges CFOs are facing today. I also shared some of my findings in the report `Fast Forward Transformation or Back to Basics?’
Author: Thierry Bruyneel. You can connect with Thierry on LinkedIn.