Cost Containment vs. Value Creation – the CFO Dilemma

Companies are continuously confronted with a difficult dilemma. On one hand, there needs to be an ongoing focus on reducing costs and structure/create/modify operations to deliver profits and ongoing value. On the other hand, there needs to be a focus on investment and innovation to create long-term value for shareholders, customers, employees and other stakeholders. The CFO plays a key role in managing these seemingly opposing goals that are both required to grow company value.

 Cost Containment and Reduction

Media reports appear almost daily about businesses that announce cost savings or restructuring plans. Many companies are being confronted in the current business and economic climate to take steps to protect profitability or simply survive. This is not a new occurrence; the economy moves in cycles with peaks and valleys during which the weak are separated from the strong. The current economic climate is considered unique because of the recent unprecedented financial crisis, the role of financial institutions and the weakness of the perceived recovery.

Creating Ongoing Company Value

At the same time, companies need to focus on long-term value creation, which applies to listed companies, private equity-owned companies as well as closely-held and family businesses. This is easier said than done. Many companies continue to be hampered as they suffer serious cash problems that stem from the economic downturn and slow recovery. Businesses in sectors that experience less impact from the recession – such as food or biotechnology – continue to need to take measures to maintain their financial performance and protect their competitive positions.

The Role of the CFO

Companies find themselves in “splits” between short-term financial performance and long-term value creation. How should they react? This indeed is a difficult dilemma.  What is the role of the CFO in this situation?

The CFO plays various important roles. On one hand, the CFO needs to ensure and monitor that business operations take place efficiently, loss-making products or activities are being terminated and cost-saving measures are being executed adequately (here the CFO is a “cash guard” and “restructurer”). At the same time the CFO must be watchful so that money is available for innovation and the organization continues investing to strengthening its competitive position (here the CFO is also a “strategist” and “protector”).

Therefore, the CFO is the “financial conscience” of the company. To fulfill such a role and overcome the dilemma, CFOs need to adhere to the following practices.

Protect the Value Drivers

Companies must have a clear strategy and understand their value drivers. Subsequently, the company should assess to what extent the value drivers are being impacted by the cost savings measures or restructuring plans. If the plans have a positive impact on the short-term financial performance but are harmful for long-term value creation, the company should consider potential adjustments to prevent the value drivers from being hit.

Improve the R&D Process and Apply a Project Portfolio Approach

Companies need to improve their R&D process and reassess the costs/potential benefits of their R&D projects. R&D departments are populated with engineers, designers and product developers who focus mainly on the content and show less attention to the development process. For example, if hand-off moments between designers and engineers are not clearly defined and functional and technical specifications are not properly documented or prototypes are not fully tested and evaluated, the final result is sub-optimal due to process flaws.

Additionally, R&D projects should periodically be evaluated from a portfolio perspective: Which projects are we working on? Where do budget overruns occur? Why is progress behind schedule? Why are deliverables and milestones unclear? Allocating funds to projects that have become “hobby projects” or do not have a clear relationship with company strategy and objectives does not create long-term value nor does it contribute to short-term financial performance.

Therefore, the R&D department and product development process should not be excluded beforehand from cost savings initiatives. Process execution should take place in an efficient and effective manner and the projects portfolio should be reassessed periodically. A clearly defined strategy is required, and robust project management and project control are important to monitor and manage the often less than transparent and cash-burning, but essential innovation process.

The role and responsibilities of the CFO in successful companies have evolved dramatically. Changing regulations and increased regulatory scrutiny, greater stakeholder involvement, and higher expectations for transactions and the finance function have made the CFO more directly accountable for business performance than ever before. Once limited to the finance function, the CFO is now a strategic partner charged with creating value across the entire business. Harvest CFO Consulting is solely focused on delivering ongoing value creation within your company.

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