OCTOBER 2018

CFO.COM

THE STATE
OF AUDITING
CARILLION:
COULD IT HAPPEN
HERE?

Switching
Industries:
What it takes
to make
the jump
 RETIREMENT
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 IN THIS
ISSUE October 2018
Volume 34, No. 5

28

40

28 COVER STORY

Industry Switchers
Do you have the adaptability and
skills to make the transition to a
totally new industry?
By David McCann

34
Failure to Audit
The sudden, spectacular collapse of
U.K. construction firm Carillion
exposes the limits of external auditing.
By Russ Banham

40
Special Report: The State of Auditing

Time for An
Adustment?
A lot of the problems with public
company auditing boili down to the
relationship between the auditor and
the client.
34
By Vincent Ryan

Cover: Getty Images; this page, Getty Images (3) October 2018 | CFO 1
 IN THIS
ISSUE

October 2018
Volume 34, No. 5

20

18
Up Front By the Numbers
4 | FROM THE EDITOR 44 | BUSINESS OUTLOOK
6 | INBOX Duke University/CFO Survey Results
8 | TOPLINE: Brand-value risks | FASB REFORM IMMIGRATION POLICIES
tackles disclosure issues | Banks earn TO AID HIRING: CFOS
a bundle | Tax translators wanted | In an extremely tight labor market,
SMBs a high security risk | The bull finance executives contemplate
market for CFOs | Clouds over IT changes to H-1B visa policies so they
outsourcing | And more can draw on the worldwide pool of
technical talent.
18 | ACCOUNTING | By Matt Heller and Vincent Ryan
Keep Quarterly Reporting,
Ditch Guidance
By Robert J. Pozen and 46 | FIELD NOTES
Mark C. Roe Perspectives from CFO Research
22 HELPING SOFTWARE SUCCEED
20 | CAPITAL MARKETS The process of implementing
Six Keys to a financial planning and analysis
Profitable Spinoff software is as critical as the
By Tze-Liang Chiam and quality of the solution, according
Lasida Klinsukond to new research.
| By Chris Schmidt
22 | STRATEGY
Avnet Turns the Page 48 | THE QUIZ
By David McCann Noteworthy Numbers
How much do you know about the
26 | HUMAN CAPITAL latest economic numbers? Take
How Companies Get our quiz based on J.P. Morgan's
Culture Wrong "Striking Facts to Guide Your
By Carl Robinson Corporate Finance Decisions in 2018."

2 CFO | October 2018 Getty Images (4)

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 FROM THE
EDITOR EDITOR’S
PICKS

Lack of ◗ FINANCE
New York is the site of
the annual Chief Finan-

Accountability cial Officer Leadership

Forum on November 28,
hosted by Argyle Execu-
tive Forum. The speaker
Reading CFO.com, I’m sure it has been lineup includes finance
hard for our audience to avoid the tales of executives from Diageo,
Walt Disney, the NFL,
public accounting missteps that have been
Sony Music, and Bed
detailed in lawsuits and regulatory actions the past two years. ¶ Bath & Beyond. Register
In “defending” themselves, the Big Four usually trot out a famil- on the Argyle Executive
Forum website.
iar excuse: Auditors provide a written report that contains
an opinion about whether a company’s any professional skepticism. And that ◗ LEADERSHIP
financial statements are fairly stated and may be happening because: Can you learn effective
comply with GAAP. The audit’s goal un- • Auditors are still too chummy with leadership skills from our
der professional standards is “reasonable their clients 16th president? In “The
assurance”—not absolute assurance—that • The auditing market is highly concen- Leadership Journey of
financials are free of material misstate- trated in the hands of the Big Four Abraham Lincoln,” Har-
ments. Therefore, a properly planned and • A good framework for accountability for vard professor Nancy
performed audit may not detect a material auditors, one that would deter bad au- Koehn writes how Lin-
misstatement resulting from error or fraud. diting practices, doesn’t exist coln’s experiences can
Here’s the problem with that: not all of Don’t misread me; the PCAOB has help executives “craft
the rules and standards violations by au- done a tremendous job the last few years lives of purpose, dignity,
ditors are the result of a CFO or a CEO or holding auditors to task. But something and impact.” Read more
an audit committee trying to pull the wool more is needed. A cap on the number of on the McKinsey Quarter-
over the auditor’s eyes. Some of them are issuers a firm can audit? More prohibi- ly website.
purely the result of the audit firm's or tions on client-auditor relationships? A
partner’s laxity or apathy. Is the assigning higher standard of legal and financial ac- ◗ PROFESSIONAL LIFE
of engagement personnel with absolutely countability for auditors? One of those “In a rich nation where
no technology industry experience to au- things, perhaps all three. technological advances
dit a software company’s revenue recog- No one wants another Enron. Nor allow companies to cre-
nition practices the fault of the issuer? would it be constructive to eviscerate the ate more wealth in less
From the seat of an observer, it seems Big Four. But it’s time to turn our eyes time, it seems that em-
pretty clear that some public accounting once again toward the gatekeepers of the ployees should have
firms are, in some engagements, rubber- public securities markets. ample hours to spend
stamping financials or failing to exercise Vincent Ryan according to their own
Editor-in-Chief will,” writes Livia Ger-
shon. In “Clocking Out,”
she examines the idea
of a U.S. economy “built
for free time.” Read the
article on the Longreads
CFO, Vol. 34, No. 5 (ISSN 8756-7113) is published six times a year and distributed to qualified chief financial officers by CFO Publishing
LLC, 50 Broad St., 1st Floor, New York, NY 10004 (editorial office). Copyright ©2018, CFO Publishing LLC. All rights reserved. Neither this website.
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4 CFO | October 2018 Mark Bennington

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 INBOX

◗InCutting
“How to Cut the Fat Without
Staff,” contributor David
dealing with results after the fact than causing results.”

Johnson, founder of boutique advi-

sory firm Abraxis Group, noted that ◗Inmove
the online version of our article on Nike’s risky
to launch an ad campaign featuring controver-
“poorly designed or policed ex- sial former NFL quarterback Colin Kaepernick, veteran
pense-reimbursement policies can marketing executive Peter Horst deemed the campaign
result in exploding T&E spend.” was a well-considered risk and likely to pay off.
One reader said the statement “really stood out” to Sure enough, Nike sales spiked 31% in the three
him. “This applies to numerous other expenditures as days after the first ads aired during the telecast of
well,” he wrote. “It often happens that a budget is cre- this year’s first regular-season NFL game, compared
ated and then management and employees fail to use it with the same dates in 2017. Additionally, the compa-
when making a decision on an expenditure.” ny’s stock, after dipping the day following the opening
Another audience member, however, quibbled with game, reversed course and went on to hit several re-
the idea that cost cuts in granular areas like T&E will re- cord highs over the next two weeks.
sult in meaningfully enhanced economic value. Before those results were known, some readers sug-
“Attacking the usual suspects—the things men- gested Nike would pay dearly for the campaign. One
tioned in the article—won’t impact earnings,” he wrote. opined that it was a “dumb move by Nike,” supporting
“Politically, CFOs are rarely in a position to do anything the contention by saying he would now stop buying the
about cost reduction outside their own organization. company’s products. Another said Nike’s brand “will be
Sure, they can carry the CEO’s message, but in the end, forever tarnished in the U.S. marketplace.”
CFOs are in no position to force anything to happen.” A third audience member called Nike’s ad campaign
The commenter also contended that reductions in an “interesting hypocrisy.” He wrote, “If the company
such areas are rarely sustainable—and took another is so concerned about social issues and doing the right
shot at CFOs’ game-changing abilities: “It’s noble, but thing, why are they making their shoes in Third World
of little value to investors. CFOs are much better at sweatshops and paying people very little money?”

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is a wholly owned DIRECTOR, To subscribe to CFO
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6 CFO | October 2018 Thinkstock

STATS TOPLINE
OF THE
MONTH RISK MANAGEMENT

Nike Ads Highlight

Brand-Value Risks
How bold should companies be on political and social issues?
By David McCann

80% “The country is divided,

and companies are not get-
Proportion of S&P
500 companies that ting away unscathed.”
beat mean Q2 EPS So says Peter Horst, a long-
estimates* time chief marketing officer
with several large companies,
including Capital One and
20% Hershey.
Projected average The value of companies’
earnings growth brands is subject to enormous
for Q3 risk in today’s social and po-
litical climate, says Horst, au-

94.7% thor of the new book “Market-

ing in the #FakeNews Era.”
Projected Q3 earn- The risks stem from an array of sourc- derantly Caucasian.
ings growth for
es—for example, being on the receiving end “Research says generations Y and Z want
energy sector
of a Twitter tantrum, consumers angry that to engage with brands whose values match
a company didn’t take a stand on a political theirs,” notes Horst. “Nike didn’t just stum-
16.7 issue, or employees opposing a company’s
dealings with government agencies or politi-
ble into this without thinking about it. I’m
Forward 12-month sure they looked at not only who their cus-
P/E ratio, as of cal groups. tomers are, but also what the demographic
Sept. 7 Among the boldest recent risk-takers is trends are.”
Nike, owner of one of the world’s most rec- There was already a branding trend to-
ognizable brands. In September the compa- ward companies taking positions on socially
7.5% ny rolled out its ad campaign starring for- or politically sensitive issues. But the stat-
Projected year- mer NFL quarterback Colin Kaepernick. ure of Nike’s brand, together with the high-
over-year revenue There was no shortage of subsequent profile nature of the kneeling controversy
growth for Q3 outrage directed at Nike that Kaepernick, (and the charges of police brutality toward
who’s become far more famous for kneeling African-Americans that triggered it), could
during the national anthem than he ever did accelerate the trend.
for his in-game exploits, because he was giv- “The public is looking to corporate
en such a platform. But Horst considers the America to help solve social problems,”
move an educated risk that may well pay off. Horst observes. “I think examples of com-
That’s largely because the company’s tar- panies like Nike taking strong stances on
* All data is for S&P 500
get audience and actual customers are over- controversial issues will embolden others to
companies in 2018. all younger, more diverse, and more social- take similar actions.”
Source: FactSet
ly liberal than the anti-Kaepernick crowd, The brand risks inherent in these polar-
which is, very generally, older and prepon- izing times is clearly not just theoretical. For

8 CFO | October 2018 Getty Images

Starbucks, a manager’s inappropriate ciates made it clear they Horst points to the inci-
treatment last April of two African- wanted the company to dent in which a doctor was
American customers at a Philadelphia stop selling artificial intel- dragged bloody and uncon-
location ignited a global firestorm of ligence to the U.S. govern- scious off a United Airlines
outrage when a video of the incident ment. plane. The gate agent faced a
went viral. That cost Starbucks—an- According to Horst, stressful situation, needing to
other iconic brand—millions. every organization should get the plane out while find-
There are also well-intentioned acts think about and articulate ing seats for off-duty flight
that fail to address the nuances and their values, even if there : Peter Horst attendants. But “the script
sensitivities of this era. An infamous are no plans to say anything didn’t provide a good an-
Pepsi commercial starring Kendall Jen- publicly. “What would they stand up swer,” so the agent called the police.
ner, in which she stopped an apparent for if suddenly they were called out by “It’s hard to imagine JetBlue in that
Black Lives Matter protest by open- President Trump or CNN, or their em- situation,” Horst says. “It has a culture
ing a soda can, “was a tin-eared, ham- ployees?” of customer rights and humanity in air
handed approach to a very sensitive Conducting such a values assess- travel. Those values would have told
and serious issue,” according to Horst. ment provides an internal moral com- an associate in that situation that any-
And don’t forget employees. Among pass to guide in-the-moment decision- thing would be better than calling the
other recent incidents, Google asso- making by employees. cops on a customer.” CFO

ACCOUNTING consistent with the definition used by the Securities and

Exchange Commission, the U.S. judicial system, and the

FASB Tackles Hot

auditing standards of the PCAOB and the AICPA.
The U.S. Supreme Court’s definition of materiality

Disclosure Issues
“generally states that information is material if there is
a substantial likelihood that the omitted or misstated
item would have been viewed by a reasonable resource
Defines “materiality” and describes the provider as having significantly altered the total mix of
proper content of notes to financials. information,” FASB has stated.
Some investors, lawyers, and ac-
The Financial Accounting Stan- countants had contended that estab-
dards Board announced changes lishing a legal standard for material-
aimed at potentially putting to rest ity would be a too-high bar, resulting
some disclosure issues of long-run- in companies not reporting items that
ning debate. were in fact material.
One set of changes involved Both changes are part of an effort to
tweaks and additions to FASB’s con- tackle “disclosure overload.” Accord-
ceptual framework, which identifies ing to a 2012 study by Ernst & Young,
the goals and purposes of financial over the two decades prior, the aver-
reporting. age number of pages in 10-Ks devoted
First, FASB aimed to improve the to footnotes and the Management Dis-
effectiveness of disclosures in the cussion and Analysis had quadrupled.
notes to financial statements. A FASB also announced two account-
new chapter in the conceptual framework explains the ing standards updates (ASUs). One involved Topic 820,
information that should be included in the notes. It de- the disclosure requirements for fair value measure-
scribes the purpose of notes, what constitutes appro- ments. The other concerned disclosure requirements for
priate content, and general limitations. It also address- employers that sponsor defined-benefit or other retire-
es interim reporting disclosure requirements. ment plans.
Second, the board updated an existing chapter of the Russell Golden, FASB chair, said the ASUs “improve
conceptual framework to align FASB’s definition of “ma- fair value and defined-benefit disclosure requirements
teriality” with other definitions in the financial reporting by removing disclosures that are not cost beneficial”
system. As a result, FASB’s materiality concepts will be and clarifying and adding others. | VINCENT RYAN

Top: Courtesy the company; Bottom: Getty Images October 2018 | CFO 9
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 TOPLINE
that at the old effective tax rate net income growth would have
been halved.
BANKING As the Federal Reserve raises interest rates, the average
yield banks are seeing on loans is outpacing the growth in

Higher Rates Lift

funding costs. The interest income earned on loans rose $134
billion in the second quarter, up about 9% from a year ago.

Earnings
That’s the largest annual dollar increase ever reported.
Average net interest margin, which was depressed coming
out of the financial crisis, rose again in the quarter, to 3.38%
While U.S. banks continue to complain about be- from 3.22% a year ago.
ing handcuffed by regulations, they are seeing enor- Banks’ funding costs are gradually
mous growth in profits. increasing as they are forced to raise
The Federal Deposit Insurance Corp. reported that deposit rates. The highest rates in the
commercial banks and savings institutions had aggre- United States on five-year certificates
gate net income of $60.2 billion in the second of deposit, for example, cracked 3% this
quarter, up 25% from a year ago. month.
More than 70% of the 5,542 But all major loan categories also regis-
banks reporting to the FDIC scored tered growth last quarter, up 4.2% from last year.
year-over-year earnings growth, Banks’ loan portfolios are also performing rela-
and the ranks of unprofitable banks tively well. Noncurrent loans fell by $7.7 billion
shrank to 3.8% from 4.3%. (6.8%) from the first quarter, led by residential
Higher net interest income and fee income, coupled mortgages and commercial and industrial loans.
with a lower effective tax rate, contributed to the in- Net charge-offs, however, rose by $447 million (4%) from
crease in the industry’s income. The lower federal tax 2017. Leading the deterioration were credit cards, which saw a
rate gave bank earnings a charge, as the FDIC estimated $191 million (13%) increase in charge-offs. | V.R.

TAX
In their stead is the need
for strong communication and
Wanted: Tax interpersonal skills that en-
able CTOs to “translate and
Translators distill technical information
into business language the C-
What image of corporate tax of- suite and the board can apply
ficers springs to mind? The erst- to decision-making,” says the
while stereotype of round, rimless paper, from executive recruit-
glasses peeking out beneath green ing firm Ormsby Park.
eyeshades? Or perhaps simply that Whether some tax officers
of an inconspicuous functionary toil- can adapt to the new demands on a recent increase in retirements
ing in silence behind the scenes? their position is debatable. In the among CTOs.
The reality is now the opposite, words of a CTO anonymously quot- For those who remain and have
with companies’ management teams ed in the paper, “It’s a sad state- the mindset and skills required for
and boards still trying to grasp the ment about tax people, but we like success, “it promises to be an exhila-
implications of changes to the tax nothing more than complexity. Com- rating if bumpy ride—a future filled
code in 2017’s Tax Cuts and Jobs Act, plexity is opportunity.” with new challenges,” the paper
a new white paper contends. In fact, according to the report— says. It also notes that “it’s not easy”
For corporate chief tax officers which is based on qualitative inter- to find CTOs with the right skills.
(CTOs), as has transpired for CFOs views with 10 large-company chief For their part, many CFOs don’t
over the past decade-plus, the para- tax officers and a quantitative sur- want to risk miscommunicating the
mount importance of technical skills vey of 40 others—discomfort with new tax law to their boards, accord-
is starting to fade. such demands could partly explain ing to Ormsby Park. | D.M.

12 CFO | October 2018 Getty Images (2)

 TOPLINE
Large companies make headlines when cyber-criminals
strike. At the same time, they have dedicated IT and security
CYBERSECURITY staff to vigilantly do battle with wrongdoers. That makes small-
er companies more vulnerable.

SMBs Carry
“Negligent employees remain
the number-one cause of data

Greatest Risk
breaches at small businesses,”
writes Switchfast. “Seemingly in-
nocent actions, like connecting to
At small businesses, rank-and-file employ- a Wi-Fi hotspot in a coffee shop
ees may be more aware of the threat from or hotel lobby, can cause [great]
cyber-crime than are company leaders. damage to a small business.”
It seems so, at least, from a finding in a re- In fact, hackers notoriously
cent survey of more than 600 full-time employ- frequent such venues because
ees and 100 C-suite-level leaders at companies they know corporate workers
with fewer than 500 employees. are likely to be there and commit
In the survey, conducted by Switchfast, an such grievous security errors.
IT consulting and security outsourcer, 35% of In the survey, 66% of the “em-
the employee group, but a disturbing 51% of the execu- ployees” group, but also 44% of small-business leaders, say
tives, say they are convinced that their business is not a they’ve connected to a public Wi-Fi network to do work.
target for cyber-criminals. Poor handling of passwords is another common mistake.
Such complacency with respect to cybersecurity is For example, writing down email passwords on sticky notes
a notable risk, according to Switchfast. In fact, the firm can allow thieves to access otherwise secure accounts.
notes in its survey report, small businesses are prime Also, about 22% of SMB leaders and 19% of employees say
targets for hackers because of their size. they’ve shared their password with a co-worker. | D.M .

Taximize
verb: (tak/suh/myse)
to optimize your Florida corporate tax liability by
investing in K-12 educational scholarships for
underprivileged schoolchildren in exchange for a
dollar-for-dollar tax credit. Do you taximize?

#taximize | 866.344.9553 | www.FLTaxCredit.org

December 2017 | CFO 13
 TOPLINE

CAREERS

The Bull Market for CFOs

An interesting fact about turnover in the C-suite is that it
generally tracks the movements of the S&P 500 Index. That
is, when stocks go up, the number of executives leaving or
switching jobs does, too. And vice versa.
Accordingly, given this year’s bountiful stock returns, the TECHNOLOGY
turnover rate among top corporate leaders—CEOs, finance
chiefs, and chief operating officers—is on track to reach a 24-
year annual high. A Cloud Over IT
The rate is expected to edge past 18% by year-end, against
a historical average of 14.4%, according to the latest edition of Outsourcing
recruiting firm Crist Kolder’s annual Volatility Report. For CFOs,
this year’s projected turnover rate of 16.6% compares with Information technology departments cut
15.8% in 2017 and a long-term average of 15.1%. the percentage of their budgets allocated
Overall, it’s not a surprising trend. When stock prices climb, for outsourcing to the lowest level in five
executives become likelier to cash in equity awards and then years, according to a study by IT manage-
take advantage of the corresponding flexibility to make job or ment research firm Computer Economics.
life changes. The study found that the average out-
This is Crist Kolder’s 15th Volatility Report. It includes data sourcing budget dipped from 11.9% of total
through August 1 on the 673 companies that are in either the IT spending in 2017 to 9.4% in 2018. From
Fortune 500 or S&P 500. 2014 though 2016, the figure had hovered be-
Some other tidbits from the report: tween 10.2% and 10.6%.
• Just 18.5% of sitting CFOs held the title in their immediate- Favorable economic conditions are allow-
ly previous position. ing IT leaders to selectively bring outsourced
• The percentage of CEOs who were finance chiefs in their services back in-house, the study’s authors
immediately previous position ticked up, to 6.9% from wrote. They said the increased use of cloud-
6.2%. based services also pares the need to out-
• The count of female CFOs has reached an all-time high at source support of an organization’s internal
12.5%, double the 6.3% recorded in 2004. | D.M. IT infrastructure.
Company size is a big factor in determin-
ing outsourcing decisions.
CFOs on the Move “Large companies are actually increasing
2018 CFO turnover rate* in Fortune 500 and S&P 500 their outsourcing this year, while small and
(673 companies), by industry midsize companies are cutting back,” says
David Wagner, vice president of research at
Financial 15.1% Computer Economics.
Industrial 15.1%
“Smaller companies are making better use
of the cloud and have fewer legacy systems,”
Energy 13.7%
Wagner adds. “By shedding some of their in-
Technology 13.7% frastructure burden, they don’t need to reach
Health Care 12.3% out to as many specialized service providers.
Right now, large companies and smaller com-
Consumer 12.3%
panies are on different journeys.”
Services 11.0% Thirty-five percent of companies out-
Retail 6.8% sourced some data-center operations in 2018,
down from 41% the year before, the study
0% 5 10 15 20%
*Through Aug. 1
found. And 37% percent outsourced some IT
Source: Crist Kolder security, down from 43%. | WILLIAM SPROUSE

14 CFO | October 2018 Getty Images (2)

REGULATION in organizational structures and in processes undergoing
digital transformation that, in turn, call for changes in SOX

SOX Compliance
compliance practices.”
Another influence on costs is

Still Costly
an increase in acquisitions and di-
vestitures. Many associated activ-
ities “come with the potential for
In the early days after the Sarbanes- material changes to a company’s
Oxley Act took effect in 2002, compa- SOX compliance work,” Protiviti
nies expected to struggle for a few years notes.
under the added costs and effort required With respect to internal SOX
to comply with the law. Then, they be- compliance costs, for large accel-
lieved, the annual exercise would evolve erated filers (public float of $700
into a relatively stable one. million or more) the average rose
The first expectation was certainly re- by 17.2% this year compared with
alized. The second, much less so. 2017, reaching $1.34 million.
The compliance picture continues to But this year’s average cost for
shift year by year, according to manage- that group of filers was almost
ment consulting firm Protiviti. Notably, costs continue to identical to what they experienced in 2016, underscoring the
rise in response to external changes, such as new laws and volatile nature of SOX compliance expenses.
regulations, as well as the transitions many companies are The pattern was similar for accelerated filers (public
undergoing. float of at least $75 million and less than $700 million). Their
“Organizations today are subject to more frequent, sig- internal costs climbed by 24.3% this year, to an average of
nificant, and fast-moving changes,” Protiviti says in a report $997,000, after having declined by 12.3% last year compared
on a survey of 1,004 organizations. “These include changes with 2016. | D.M.

WHY SWITCH TO

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HRMS & Payroll REASON #40:
WE ENJOY
PAYROLL SERVING YOU.

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 TOPLINE
those of Japan and Germany, can expect the highest
wage premiums, “smaller markets with limited work-
HUMAN CAPITAL forces will feel the most pressure,” the report says.
By 2030, Hong Kong and Singapore—small economies

Labor Costs to Soar

with important financial centers—are expected to expe-
rience wage premiums equivalent to about 10% of their
respective gross domestic products for 2017.
Organizations worldwide may have to incur more That means highly skilled workers in those two coun-
than $2.5 trillion in additional annual labor costs tries will command average wage premiums in 2030 of
within 12 years as a result of the global shortage of $40,500 and $29,100, respectively. The corresponding U.S.
highly skilled workers, according to new figure is expected to be only $8,300.
research from Korn Ferry. Percentage increases in wage pre-
The United States will face the biggest miums from 2020 to 2030 are forecast
“wage premium” in 2030, at $531 billion, to be 169% for technology/media/
Korn Ferry says. The term refers to the telecommunications, 161% for finan-
additional amount employers will need cial and business services, and 136%
to pay to secure the right talent, above for manufacturing. For the full econo-
the amount that wages would rise over my, the figure will be 152%.
time due to normal inflation. But the financial industry may ac-
But the crisis is not something that’s tually face the most dire future.
very far off. Even in 2020, the U.S. wage “Workers already command high
premium is expected to reach $296 bil- salaries, so the additional pressure
lion. By 2025, the gap will total $400 bil- caused by [labor] shortfalls could push
lion, according to the report. some firms to the brink,” says Mark
While major economies, including Thomson of Korn Ferry. | D.M.

CYBERSECURITY

Insurance
vid Bradford, co-founder and chief Cyber coverage forms are evolv-
strategy officer of insurance data ing rapidly, encompassing compo-

Premiums
provider Advisen. “A competitive nents such as identity theft as a
insurance market resulting from a result of security breaches; costs

Increase
chronic overabundance of risk capi- associated with damage to or
tal has strongly contributed to TCOR breaches of data records; and costs
decreasing steadily since 2013.” to supply credit-monitoring services
Businesses’ total cost of risk One area bucking the trend of for people impacted by a security
(TCOR), a measure primarily used lower costs, however, breach, according
by the insurance industry, declined is cyber insurance. to RIMS.
for the fourth year in a row in 2017, Over the last six “In the past,
according to The Risk Management years, the proportion common ratio-
Society. of companies buy- nalizations for
Despite record-setting natural ca- ing such insurance not buying cyber
tastrophes, the average TCOR was has risen from 35% in insurance includ-
down 3%, RIMS reported. 2011 to 65% in 2017. ed such things
TCOR—the total cost of insurance The average cost as ‘the company
premiums, retained (uninsured) of cyber insurance does not deal
losses, and risk-control costs—fell per $1,000 of revenue with consumers,’
from $10.07 per $1,000 of revenue in rose 33% in 2017, to $0.28, up from ‘the company is too small to be of
2016 to $9.75 in 2017. $0.21 a year earlier. Average insur- interest to hackers,’ and ‘the IT de-
“Market conditions are favorable ance premiums per employee in- partment has everything under con-
for insurance buyers,” says Da- creased 9%. trol,’ ” according to RIMS. | V.R

16 CFO | October 2018 Getty Images (2)

2018
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 ACCOUNTING

Keep Quarterly Reporting,

Ditch Guidance
The long-term benefits of a switch to semi-annual reporting are doubtful,
while its costs would be significant. By Robert J. Pozen and Mark C. Roe

In mid-August, President Donald Trump waded into another from semi-annual financial reporting
to quarterly reporting. Yet, there was
complex area by a short tweet. He had apparently asked sev- no significant fall in capital or R&D
eral top business leaders how to “make business (jobs) even expenditures over the next three to six
better in the United States.” He then directed the Securities years, according to a CFA Institute Re-
search Foundation study.
and Exchange Commission to study one business leader’s Then, in 2013, the U.K. reversed di-
reply: “Stop quarterly reporting and go to a six-month system.” rection. It replaced the quarterly re-
quirement with a semi-
Trump’s tweet reflected the belief of annual one. Yet the same
many executives and commentators that study did not find any
quarterly reporting pushes public com- significant increase in
panies away from attractive long-term U.K. company spending
investments. However, the long-term on capital investment
benefits of semi-annual reporting are or research after the
doubtful, while its costs are significant. change.
Shifting company reports to every We recognize that
six months does not meet anyone’s investments in property,
definition of the long term. An extra plant, and equipment
three months to announce financial re- are down throughout the
sults would not induce U.S. executives developed world since
to take off the shelf the hypothetical 1990. But this trend in-
stockpile of long-term, job-creating cludes those countries
projects—projects now allegedly sty- that rely more on banks
mied by quarterly reporting. Of course, the SEC could allow each for corporate financing and that have
For years, public companies like public company to report its finan- fewer publicly held firms than the
Amazon achieved large market capital- cial results with whatever frequency it United States has. Indeed, America’s
izations by following long-term strat- chooses. However, that would make it investment decline is less than that in
egies, as investors waited patiently. very difficult for investors to compare the rest of the developed world.
Indeed, most biotechs go public suc- companies in the same industry—a “Corporate R&D is not declining,
cessfully without any history of prof- powerful tool for security analysis. corporate cash is not bleeding out, and
its, so investors must be endorsing the world’s developed nations with
their plans for completing clinical tri- The Evidence neither American-style quarterly-ori-
als and marketing their drugs. Our position is supported by empiri- ented stock markets nor aggressive ac-
Company executives who articulate cal studies of the United Kingdom tivist investors are investing no more
a persuasive, multi-year business plan and more general studies of capital in capital equipment than the U.S.,”
should not worry much about quarter- investment. During the last decade, according to the study. “The economy-
ly reporting. And if they are worried, the United Kingdom twice changed wide picture is more one of capital
moving to six-month reports will not its reporting requirements for public markets moving capital from larger,
help them. companies. In 2007, the U.K. moved older firms to smaller, younger ones.”

18 CFO | October 2018 Getty Images

 would be less accurate as investors sures could be limited to their finan-
struggled to assess the financial effects cial statements plus a concise summa-
of material developments without the ry of material developments since the
company’s numbers. Small bits of pub- last full report.
lic information loom larger in stock In addition, quarterly filings on
price valuations when investors are in form 10-Q arrive too late at the SEC—7
the dark as to the actual earnings im- to 10 days after a company issues a
plications of such bits. short press release summarizing its
Moreover, when the SEC went from quarterly revenues and earnings. That
: Robert Pozen : Mark Roe
a semiannual to quarterly reporting re- press release is extensively discussed
Thus, it’s a mistake to blame quar- quirement between 1955 and 1970, the in an open conference call hosted by
terly stock market reporting for re- cost of equity capital fell for U.S. pub- management for investors and ana-
duced capital spending. Something lic companies, according to a definitive lysts, who quickly respond to that in-
else is operative—factors such as the empirical study. That result strongly formation.
movement to capital-light, technology- suggests that the investors highly val- The SEC should therefore try to
oriented economies; the rise of Asian ue more frequent reporting because it integrate those press releases with its
manufacturing; and the weakness, until reduces the risk of buying stocks
recently, of the economy overall. based on currently available in- “Executives who articulate a
While we don't believe that mov- formation. persuasive, multi-year business
ing to a semi-annual reporting require- Moreover, if the results of plan should not worry much
ment would be beneficial, we do op- U.S. companies were hidden for
about quarterly reporting.”
pose the common practice of quarterly longer periods, more people—
earnings guidance—when companies executives and advisers—would pos- quarterly filing requirements. Most
announce what they expect their earn- sess nonpublic information. The temp- investors read these timely summa-
ings will be in the next quarter. Hav- tation and potential for insider trading ries and trade on them, rather than the
ing put their reputations on the line by would rise substantially. quarterly tomes later filed with the
projecting earnings for the next quar- SEC. The appropriate direction is to
ter, some executives then scramble and A Better Reform coordinate the earnings releases with
distort their company’s businesses to But as any public firm CFO knows, the 10-Qs to cover, in a timely manner,
avoid reporting earning anything less. putting together a 10-Q is an arduous the important information for inves-
But earnings guidance is optional, task, competing for time and resources tors without undue repetition.
not required by the SEC, so compa- that could be better spent elsewhere. Such a reform agenda at the SEC
nies could break this bad habit on their While we believe that abolishing quar- would be more useful than pursuing
own, without a new or amended SEC terly reports is unwise, the SEC should the pipe dream of increasing long-term
rule. Publicly predicting earnings has streamline quarterly reports—which investments by shifting from quarterly
come under growing criticism, includ- now are too dense and long. Compa- to semiannual reporting of company
ing in an op-ed by Warren Buffett and nies spend too many hours and dollars results. Six months simply does not
Jamie Dimon. We note that Buffett and putting together what has become a constitute the long term. CFO
Dimon did not recommend doing away thick tome that repeats too much old
with quarterly reports. information. Robert C. Pozen, the former chairman of
Moving from quarterly to semian- For example, the SEC could require MFS Investment Management, is a se-
nual reporting would also have signifi- full company reports only at the end nior lecturer at the MIT Sloan School of
cant costs. With corporate results dis- and middle of the fiscal year. In the Management. Mark J. Roe is the David
seminated less frequently, stock prices other two quarters, company disclo- Berg professor at Harvard Law School.

Editor’s Choice

CHEAPER XBRL
The American Institute of CPAs (AICPA) and XBRL US reported in mid-August that the
cost of eXtensible Business Reporting Language (XBRL) formatting for small reporting
companies has declined 45% since 2014. Price information given by 1,032 firms showed
that 68.6% of them paid $5,500 or less annually for a full-service outsourced solution.

Courtesy the authors October 2018 | CFO 19

 CAPITAL
MARKETS

Six Key Steps to a

Profitable Spinoff
From higher profits and shareholder returns to tax benefits, a spinoff can generate value
on both sides of the transaction. By Tze-Liang Chiam and Lasida Klinsukond

Spinoffs are increasingly used for creating shareholder value with sustainable total shareholder re-
as companies more frequently analyze their portfolios and turn (TSR). That value comes from
having a well-developed long-term plan
sharpen the focus on their core businesses and assets. ¶ These and executing on it.
deals, which involve separating existing businesses through
the creation of one or more companies, remain a lesser-used Creating Value
Once management and the board are in
tool for shedding assets than a straight sale. They are also one agreement on the strategic case, there
are six key steps compa-
of the least-understood kinds of M&A nies should take to en-
transactions. hance the probability that
Still, C-suite leaders are becoming the spinoff will be suc-
more comfortable with the spinoff as cessful.
a strategic tool, and with good reason. 1. Identify the right
Companies that were separated through leadership mix. In EY’s
a spinoff generally outperformed the sample of 124 global spin-
market from 2002 to 2017. That was true off transactions from 2002
of both the spun-off entity (SpinCo) to 2017, most SpinCos that
and what remained of the original com- did well—delivering a to-
pany (RemainCo). tal shareholder return one
Additionally, a spinoff can often be year after the spin that
accomplished at a reduced tax cost to was higher than the par-
the existing company and its share- ent company’s TSR in the
holders when compared with a direct same period before the
sale of the assets or business. The chart right time to do it. The rationale for the spin—named a candidate from the par-
on page 21 shows the total combined spinoff needs to be clearly articulated ent company as either CEO or CFO, or
shareholder return two years after the to the markets. hired internal candidates for both spots.
transaction for a sample of SpinCos and Examples include enhancing focus Those SpinCos that hired both ex-
RemainCos. as businesses reach different stages of ecutives from outside were less likely to
However, poor planning ahead of the maturity; creating a business-appro- be successful. It’s not unusual to bring
spinoff and a too-narrow focus on near- priate capital structure; or creating a in an outsider for one of the positions
term results and market reaction can distinct investment profile for both when looking for new ideas or an ex-
doom the long-term prospects for sepa- RemainCo and SpinCo. A well-defined ecutive with a specific skill set, but our
rated companies. So, what are the char- strategic case boosts investor confi- research suggests that at least one of
acteristics of successful spins? What dence when the spinoff is announced. the two executives should be very fa-
steps will help companies succeed in Customers and employees also benefit. miliar with the company that is being
creating long-term value? However, a business case goes only spun off.
Start by creating the right strategic so far. An initial-announcement stock 2. Get the operating model right.
case. The first step is identifying the “pop” when investors react favorably There is a big difference between being
appropriate assets to spin off and the to the planned spinoff is not correlated a separate public company and being

20 CFO | October 2018 Getty Images

 ent country, it could cause the spinoff and RemainCo. This is an opportunity
transaction to be taxable in the initial for SpinCo to set its market goals and
country or to shareholders. identity, unfettered by the former par-
Further, a move could shift opera- ent’s go-to-market strategies.
tions from a low-tax jurisdiction to a Carefully plan opportunities to grow
higher-tax jurisdiction, increasing the the business, whether that means new
cash effective tax rate. Hence, a compa- products, increased R&D spending, new
ny needs to understand the tax implica- markets, new customers, or even acqui-
tions of its operating model design and sitions. The spinoff may also present
: Tze-Liang Chiam : Lasida Klinsukond changes. an opportunity for RemainCo to deploy
part of a larger entity. SpinCo should be 4. Prepare people for change. resources in its own search for growth.
ready to operate as a stand-alone entity Make sure to have a stakeholder com- After all, part of the reason for the spi-
before the spin is effective. munication plan. It should have clear noff was to focus management on grow-
But how should the operating model messages about the rationale for the ing the core business.
change to support the spin? spinoff, the timeline, and the expected 6. Act with deliberate speed. EY
Businesses in low-growth indus- stakeholder value creation for staff, examined a subset of 54 larger global
tries can work on managing cash and management, customers, and suppliers, deals and found correlations between the
streamlining operations to reduce costs. as well as investors and the market in spin timeline and shareholder returns.
Businesses in high-growth industries general. Communicate objectives clear- Successful spins that generated positive
will need more management attention ly, set targets, and delegate and monitor TSRs had a window of 7 to 16 months
and an operating model to maximize progress. from announcement to spin. Spins that
their potential. That means making sure the right generated negative TSRs for SpinCo and
Management also needs to ques- people are cleared to make timely deci- RemainCo combined tended to take lon-
tion whether the legacy assets are fit sions for both SpinCo and RemainCo. ger, up to 28 months.
for the spinoff’s purpose. For example, Also, establish the proper incentives to Once the decision to spin is an-
ERP and other IT systems and appli- retain and motivate the management nounced, companies should develop a
cations used by the parent may not be and staff that upper management wants timeline to accomplish the various pre-
appropriate for SpinCo; more stream- to keep. The needs of the new company spin tasks, such as defining an operating
lined systems and applications may be may be different from those of the leg- model, planning the tax structure, pre-
required. acy company, so legacy incentives will paring carve-out financials, and identify-
Another operations question to ask likely need to be changed. ing the market participation model. Then
is if there is a case to be made for re- 5. Focus on the new identity. they should stick to that timeline.
designing the supply chain or rethink- While management tends to focus on The longer the wait, the more time for
ing the go-to-market model. It may not short-term operational issues, the long- something internal or external to affect
make economic sense to operate in cer- term success for any spinoff is predicat- the performance and success of the com-
tain countries or markets once the spin ed on the growth case for both SpinCo pany to be spun off. Furthermore, inves-
becomes effective. tors may run out of patience if compa-
3. Devise a short- and long-term nies take too long getting ready to spin.
Spinoffs Outperform
tax strategy. Any spinoff has potential Executives can efficiently navigate
tax implications. As companies devel- Well-executed spinoffs can the spinoff process by understanding the
op their operating model, they should produce robust shareholder operational challenges and planning for
returns (for both the spun-off
also think in terms of (a) the tax impli- the right amount of lead time and the
company and the remaining
cations for the spinoff transaction it- resources needed for the the separation
business) within two years.
self (e.g., will it be taxable or tax-free); transaction. Planning and preparation
Total two-year shareholder return
and (b) a post-transaction, tax-efficient will help a company execute a spinoff
(SpinCo + RemainCo)
operating model for both SpinCo and in a timely manner, achieving the short-
RemainCo. and long-term objectives for both Spin-
Bottom quartile -8.5%
For example, to make the spinoff Co and RemainCo. CFO
tax-free, the tax-structuring team might Median 21.7%
want to assign different operations to Tze-Liang Chiam is principal, operational
Top quartile 45.6%
entities in one country. If the opera- transaction services, Ernst & Young. Lasi-
tions group decides separately to divest Source: EY sample of 124 global spinoff
da Klinsukond is manager, operational
or move those operations to a differ- transactions from 2002 to 2017. transaction services, at EY Americas.

Courtesy the authors October 2018 | CFO 21

 STRATEGY

Avnet Turns the Page

Financial discipline helps the large semiconductor distributor chart a broad new
strategic path after challenging times. By David McCann

Like its longtime rival Arrow Electronics, electronic thing,” Liguori notes. “And I’m going
to keep doing it until I get my design
components distributor Avnet is in the middle of a gritty perfected.”
transformation of its business, driven by fast-changing cus- Customers similarly interact with
tomer needs. ¶ Making the kind of move that’s clearly not for Avnet through each stage of the prod-
uct lifecycle, and the company's trans-
the faint-hearted, in February 2017 Avnet—128th in the most action-based monetization model is
recent Fortune 500 ranking—completed the sale of its thus designed to drive higher mar-
gins. Ultimately, custom-
technology solutions division. The ers may order compo-
computer-products distribution busi- nents for a product in
ness had contributed roughly 40% of large quantities through
the company’s revenue. Avnet's historical distri-
The sale, together with a handful of bution business.
acquisitions Avnet has made since 2016, “Traditionally, an
facilitated the company’s pursuit of its OEM’s engineer would
key new strategies. For one, it has re- use one source, and then
focused efforts on its traditional core the company might use
business, the heart of which is distrib- another source for prod-
uting semiconductors to manufacturers. uct introduction,” Liguo-
But that’s only part of a broader re- ri notes. “Now we’ve
invention, similar to one that Arrow brought all that together
(113th in the Fortune ranking) is under- under one house. Once
taking as well. The vision, kicked off in customers—most of ours
Avnet’s case by its 2016 acquisitions of are in the industrial, auto-
U.K.-based Premier Farnell and Hack- Financially, Avnet has set a goal of motive, and medical verticals—go into
ster.io, is to support customers at every improving its operating margin from new-product introduction, they’re still
stage of the product lifecycle, from idea 3.5% currently to a range of 4.5% to 5% using Avnet. There’s a lot of stickiness.”
creation and prototype design, to man- within three years. “Traditionally Avnet The future could be bright for semi-
ufacturing modeling, product introduc- was a high-volume, low-margin busi- conductor makers and distributors, giv-
tion, volume production, and product ness,” says Liguori. “Prototype engi- en booming demand for wireless inter-
distribution. neering is just the opposite—low vol- net of things devices and applications.
“When Bill Emilio became the CEO ume but very high margin.” Serving that demand puts Avnet in the
about two years ago,” says the com- How so? For an original equipment business of writing software code and
pany’s finance chief, Tom Liguori, “he manufacturer, time-to-market is crucial. partnering with platform providers like
said, ‘Listen, there’s a big opportunity An engineer can go online to Premier Microsoft and AT&T to deliver connec-
in this product cycle that we’re not tak- Farnell and order one of every item in a tivity and security.
ing advantage of—the engineering and bill of materials and receive all of them Avnet’s customers—numbering
new-product introduction side.’ So he the next day. some 2.1 million individual engineers—
sold the computer distribution busi- “If I’m the prototype engineer, I’m encompass both large manufacturers
ness, and reinvested the proceeds into going to get those items, make the pro- and startups. Part of the company’s
companies that were specialty distribu- totype, test it, make revisions, and then business model is providing online
tors to engineers globally.” tomorrow I’m going to do the same communities that help engineers im-

22 CFO | October 2018

prove their skills and products. “It will be into shorter payment terms or delaying
For example, with the acquisition great to take payments to suppliers. “There are mar-
of Premier Farnell, Avnet gained that ket terms, and we have to assume we’re
company’s element14 community, a dis-
some money going to do those,” Liguori says. “It’s
cussion-based forum where engineers out of our more about blocking and tackling. It’s
collaborate to solve one another’s de- working about discipline.”
sign challenges. Hackster.io, in another capital and For example, improved visibility of
example, offers education on program- redeploy it inventory in company systems allows
ming and building hardware. Dragon procurement to be more efficient.
Innovation, a company Avnet acquired
into M&A “Until six months ago, someone in
last August, allows customers to ac- activities or share Asia that needed a part for inventory
celerate their time-to-market by help- buybacks, which offer didn’t have visibility into whether the
ing them discover fast, simple, and safe higher returns.” Americas or EMEA could provide that
ways to manufacture at scale. —Thomas Liguori, CFO, Avnet part,” the CFO says. “We had way too
many instances where people were
Pain Points “What we saw was that the company buying parts they didn’t have to buy.”
It hasn’t all been smooth sailing for used to work with net working capital Also, some of the company’s messag-
Avnet, however. Most notably, a days in the mid-60s. For many reasons, ing around buying protocols was “off,”
botched ERP implementation in 2015 some valid and some just taking our eye Liguori adds, so procurement people
wrought severe consequences. off the ball, we ended up at more than were buying parts the company didn’t
“It was a big-bang-type implemen- 100 days.” need at all.
tation—unplug that one, plug in this Liguori then set out on a bench- On the receivables side, custom-
one,” says Liguori, who joined Avnet in marking effort, working with the com- ers increasingly wanted to pay for pur-
January 2018, several months after the pany’s banks to assess the working chases using credit cards or PayPal,
former CFO stepped down for health capital efficiency of 11 competitors. The and Avnet had to do more to accommo-
reasons. “Customer-service reps lost finding: the other companies were aver- date that. “If you can move from giving
a lot of basic things, like the quantities aging 52 net working capital days. somebody a 30-day payment term to
customers ordered and when orders In June 2018, at Avnet’s first investor having them just use their company P-
were due." day since 2015, the company announced card to pay, you don’t have a receivable
As a result of subsequent customer a plan to reach a target of 70 net work- anymore,” Liguori says.
defections, Avnet lost about $1 billion in ing capital days within three years. That As for payables, Avnet was using
revenue. would free up about $1 billion, accord- many different payment cycles in vari-
There’s never a good time to lose a ing to Liguori. What’s the plan to make ous regions and countries. In some
billion dollars of sales. But the prob- that happen? places vendors were being paid once
lems caused by the ERP mess played The answer is not forcing customers per month, in others as often as twice
out at the same time that new CEO Wil-
liam Amelio, who came aboard in late On the Upswing
2016, was spearheading Avnet’s trans-
A new buyback authorization and a 5% dividend increase
formation. That included the aforemen-
in August are helping lift Avnet’s share price.
tioned acquisitions and the sale of the
computer-distribution business. 50
47.4*
The company canceled an investor
44.4 44.3
day scheduled for May 2017 as it contin-
41.8
ued its efforts to recover from the sales 40.5
39.6 39.2
shortfall and refine its messaging about 40 38.0
the business transformation. 37.3
Making matters worse, when Liguo-
ri arrived early in 2018 he discovered
that Avnet was not competitive from a
working-capital standpoint. 30
May July Sept Nov. Jan. Mar. May July Sept.
“The first thing we did was a 10- 2017 2017 2017 2017 2018 2018 2018 2018 2018
year history of days receivables, days
* As of September 12, 2018
inventory, and payables,” the CFO says. Source: Nasdaq

Courtesy of the author October 2018 | CFO 23

 STRATEGY

a week. Looking at all of the arrange- will be a very good return for inves-
ments, the finance team decided that
one Avnet unit in Europe had a best
Vital Signs tors,” Liguori notes.

practice, which was paying vendors Avnet Inc. Cost-Minus

twice per month. That’s now become a HEADQUARTERS: Phoenix, Ariz. The third priority for Avnet finance is
company-wide standard. BUSINESS: Distribution of cost optimization. It aims to cut costs
“These are just a few examples,” electronic components and in four areas, a project designed to take
Liguori says. “What I tell investors is embedded solutions out more than $200 million in expenses.
that there’s no silver bullet that’s going REVENUE: $19 billion First, some of the company’s back-
to bring our working capital days down OPERATING INCOME: $545 million office operations, including its inside
where we need them to be. There are CASH: $621 million sales reps, are located in low-cost labor
going to be many, many examples, and LONG-TERM DEBT: $1.5 billion markets like Guadalajara, Serbia, and
we’re going to manage it centrally.” Financials as of June 30, 2018 India. Migrating more of Avnet's back-
“The good news is that Avnet used office activities to such markets is ex-
to operate with less working capital, pected to save $50 million.
and the people we had five years ago 20% of the company’s cash flow is to be Another $50 million gain is expected
are still here today." allocated for that purpose. to come from reviewing and adjusting
Another 20% of cash flow is ear- the number of management levels and
Giving Back marked for investment in company sys- spans of control. The company’s acqui-
Improved working capital was one of tems and warehouses. sition binge has resulted in some excess
three key strategic finance priorities that The rest, 60% of cash flows, is for in that area. It also brings a $40 million
Avnet outlined at its investor day. shareholders. Avnet began issuing a opportunity to consolidate back-office
The savings to be generated from the dividend a few years ago and has been operations, standardize processes, and
working capital discipline will be use- increasing it 5% to 7% annually. The integrate all company operations into
ful for capital allocation, which is the dividend will continue to increase at the SAP ERP system that Avnet runs.
focus of another finance priority. “It the same rate, “but that’s only going to The other $86 million in savings is
will be great to take some money out take 10% of our cash flow,” Liguori says. expected from miscellaneous transfor-
of our working capital and redeploy it “That leaves 50%, and we’re going to mation initiatives. To support them,
into M&A activities or share buybacks, use it for buybacks.” two years ago the company hired a
which offer higher returns,” Liguori says. Given the plan to increase operating transformation officer, Pete Bartolotta.
There may be opportunities for some income over three years, Avnet consid- “A lot of times cost reduction is a
“tuck-in” acquisitions of companies that ers its stock to be undervalued. “If we one-time project and it’s done,” Liguo-
Avnet partners with, he notes. While can buy back stock today at $47, but we ri says. “But while that can work, you
there are currently no specific plans, think it’s really worth $60 or $70, that want to get people in a mode of always
looking at their processes.”
So, Avnet employees are encouraged
to submit ideas for process change.
With the past year, the company has
standardized under a single business
travel management firm, reduced exter-
nal hedging costs, and eliminated most
human resources paperwork.
“Our philosophy here is to focus on
what we can control,” Liguori says. “We
can’t control our share price or market
trends like pricing. We can control our
strategic building blocks, working capi-
tal, capital allocation, and costs.
"Now," he adds, "we have those stra-
tegic blocks in place, and we’re trying
to put the cost structure and the finan-
The future could be bright for semiconductor makers, and distributors like Avnet, giv- cial model underneath them to get the
en booming demand for wireless internet-of-things devices and applications. returns we think we can get." CFO

24 CFO | October 2018 Courtesy of the company

 FINANCIAL
LEADERSHIP
FORUM
November 28, 2018 | New York, NY

RSVP TODAY | 646.839.0012 | [email protected] | argyleforum.com/2018CFONY

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%(1UVQFGOQPUVTCVGPQVQPN[ƂPCPEKCNCEWOGPDWVCNUQVJGCDKNKV[VQRCTVPGTYKVJQVJGTFGRCTVOGPVUCPFQVJGTDWUKPGUUWPKVUVQ
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 HUMAN
CAPITAL

How Companies Get

Culture Wrong
At most organizations, culture is over-hyped, under-managed,
and of little tangible value. By Carl Robinson

Given the time, energy, and money most American businesses it’s a force for evil. How the desired
culture filters through senior leaders
spend to define their values and a desired culture, one would determines whether it actually influ-
assume a big payoff. Yet there’s very little evidence that ences behavior in the right direction or
these investments yield much impact. ¶ The organizations is compromised.
Most important, company culture
that can accurately cite culture as a driver of their business is local. The most direct way culture is
strategies are few and far between—think Apple, Facebok, experienced, understood, and translat-
ed is through the indi-
NASA, and Southwest Airlines—and vidual behavior of one’s
they work at it relentlessly. boss. He or she captures
For most, company culture is over- most of the attention
hyped, under-managed, and of little by setting the cultural
tangible value. The reasons are easy to ground rules, establish-
discern: In most places, culture is like ing the expectations, and
a warm fog. It is generally not clearly reinforcing what’s right
articulated or highly relevant, and it’s and wrong.
almost never consistently demonstrat- Unfortunately, a sin-
ed. Indeed, the internal variance can gle bad manager can eas-
be dramatic. ily trump a well-crafted
This might not matter, except that values statement.
all employees (top to bottom) love
to engage in a game you might call, business driver, leaders need to under- What to Do
“Catch the Organization in Contradic- stand the complex space they are play- If the company's intent is to create a
tions.” Culture is a favorite target. ing in. Culture is fragile, contextual, durable, impactful company culture—
While words matter, actions matter and entirely soft. one that aligns and galvanizes efforts
more. When people see a gap between At its best, culture is the consistent toward a common purpose—then se-
what is promised and what is deliv- reflection of closely connected and rious leadership work is required. A
ered, they understandably become actionable norms, and well-stated and little sage wisdom can go a long way:
wary, often defaulting to thinking that understood operating principles that • Know what you stand for and start
leadership doesn’t seem to have its act tie directly to the company’s mission. there. What’s actually important to
together. Anything less can present a blurry you and the organization? Where will
In this way, a deliberate focus on mess that translates as nonsense. With you take a stand? Your cultural expec-
values and desired culture without the cynicism on the rise anyway, this isn’t tations can be aspirational—up to a
managerial will to act will inevitably a good thing. point.
breed skepticism, distrust, and disen- Most organizations have a shadow • Ensure your desired culture is
gagement. culture, and often that is a function of well-reflected at the top. That
favoritism, history, and politics at the means through the behavior of those
The Nature of the Beast top. This shadow side can play out as in charge. This is not conditional;
To manage company culture as a true a force for good, but more commonly rather, it’s a requirement for every ex-

26 CFO | October 2018 Getty Images

 ecutive in the organization. 1. Do we at the top have a well-defined
• Make fewer promises and make and agreed-upon view of our desired
“How the
sure you keep them. At the outset, culture? desired
recognize that this is much easier 2. Is this cultural picture a clear, seam- culture filters
said than done. For instance, creating less reflection of our corporate vi- through
cultures of respect and helpfulness sion, mission, and values? senior leaders
sounds great, but it requires commit- 3. Do we see this work as integral to
ment and dedication. our business success, or simply a
determines
• Over time, outlying behavior has nice thing to have? whether it actually
to be met with zero tolerance. An 4. How will we mediate inevitable cul- influences behavior in
employee either gets with the pro- ture clashes? the right direction or is
gram or he or she gets shipped to the 5. Most importantly, how will we han-
compromised.”
competition. “He may be a jerk, but dle individuals when their behavior
—Carl Robinson, founding partner,
he’s our star performer” is no lon- compromises or violates our expec- Vantage Leadership Consulting
ger an excuse for putting up with bad tations?
conduct. Establishing a durable, impact-
• Understand that culture is rein- ful culture that helps attract and re- If leadership isn’t fully prepared
forced by story. Leaders must be tain top-flight employees and actually to live up to the implications of their
evangelists. Expect nothing less. draws customers and partners to your compact, no one should expect em-
door is not for the faint of heart. Any- ployees to follow. CFO
Five Questions thing less than a full commitment to
Executive committees should ask it is destined to create more problems Carl Robinson is founding partner of
themselves the following: than it does value. Vantage Leadership Consulting.

“I had the assumption that if you

Automation increase efficiency, you decrease staff
Won't Reduce levels,” he tells CFO. So, FERF put the
question to a number of financial exec-
Finance Staffs utives in post-survey interviews.
“The answer we consistently got is
Finance execs don't plan to that they can’t cut any more people,”
cut heads in response to tech- says Westfall. “New automation is com-
nology-driven efficiencies. In a survey of 1,730 North American ing at such a clip that they need their
finance executives, only 3% and 6% of people to oversee the automated tasks.”
Will companies decrease their fi- U.S. and Canadian respondents, re- Exacerbating the situation is the dif-
nance and accounting staffs in re- spectively, say they expect to pare their ficulty of finding people with skill sets
sponse to automation-driven produc- finance and accounting teams as a re- suitable for such oversight. Univer-
tivity gains? Or will they instead assign sult of digital transformation. sity finance and accounting programs,
workers to activities that are more More than half of the survey takers rather than helping students develop
value-additive than the rote ones taken (59%, in the case of U.S. executives) such skills, continue to “teach the
over by machines? say they will maintain their existing same things they’ve been teaching for
Many observers have suggested the staff levels. What’s really eye-opening, many years,” according to Westfall.
latter is more likely. However, skep- though, is that 17% of U.S. executives At the same time, the most highly
tics—accustomed to seeing companies and 22% of those in Canada say they skilled finance staffers are needed for
seize almost any opportunity to cut anticipate actually expanding their fi- other priorities. “As business demands
costs—abound. nance and accounting staffs because of change or rise due to digital trans-
A study from the Financial Execu- proliferating technology. formation,” the survey report notes,
tives Research Foundation (FERF) and The findings surprised Christopher “many financial executives now have
staffing firm Robert Half may help si- Westfall, a vice president of Financial the flexibility to put their best people
lence the skeptics. Executives International. on those projects.” | DAVID MCCANN

Courtesy of the author October 2018 | CFO 27

 CAREER
CHOICE:

THE
INDUSTRY
SWITCH
Companies are reaching
outside their industries for
CFOs who have special skills
or bring a unique
perspective to a
market undergoing
disruption.
Is it possible to
make the leap?
PROFILES BY
DAVID MCCANN
PHOTO ILLUSTRATION FROM GETTY IMAGES

28 CFO | October 2018

As much as anyone else, finance In addition, a case can be made that it makes
sense to focus on CFO skills rather than industry:
chiefs swap companies when un- activist investors have no qualms about pushing
employment is extremely low, job- for a CFO to be replaced if his or her experience
hopping is profitable, and exciting does not match the company’s current situation,
even if the CFO has significant industry chops. For
opportunities abound. The CFO example, pre-IPO tech companies almost always
turnover rate for 2018 is 1.5 per- hire finance chiefs with public-company experi-
ence to steer them through an initial offering.
centage points above its long-run
Can finance chiefs who switch industries be
average. But what about moving successful, and what would it be like heading fi-
not just to another employer but to nance in a sector totally different from your cur-
rent one? We spoke with three CFOs: two that
another industry? have made interesting industry shifts and one that
Being finance chief of one organization or in works in an industry few CFOs might consider
one industry for one, two, or even three decades switching to—until they read her story.
has plenty of pluses. They include the opportunity Finally, if entering a whole new sector captures
to become immersed in the business and indus- your imagination, now might be the perfect time
try to a degree that enables highly nuanced deci- to explore your options. That goes double if you
sion-making. Many of today’s CFOs, though, see a have held a CFO job for a number of years. In an
downside: forgoing the diversity of perspectives economy where talent is scarce, the most valuable
and experience that time spent with multiple em- experience a candidate can have is time in the lead
ployers or industries brings. finance role.

October 2018 | CFO 29

THE INDUSTRY SWITCH

Changing Tracks “You have a license

to ask dumb questions
When switching industries, know what for an extended period
makes a great finance organization of time. Groupthink is
and ask a lot of questions, says Change a common enemy for
Healthcare’s finance chief. a lot of leaders,” says
Eliasson.
Count Fredrik Eliasson as one who thinks CFO skills are
highly transportable across industries. serving in other finance roles. “But I felt my CFO skills
Not everyone agrees. Indeed, it’s fairly common for fi- were probably the most transferable,” he says.
nance executives to stay in an industry for their entire ca-
reers. For others, the time comes when they just want a Defining Success
change. Eliasson understandably had his hands full negotiating the
Eliasson, 46, is among the latter. After 20 years with rail- learning curve when he first joined. Still, he stresses that he
road company CSX, he switched industries in a big way by knows what it takes to run “a great finance organization.”
signing on in March 2018 to run finance at Change Health- He has a two-fold definition of success for finance. For
care. The firm provides software, one, it’s about making core processes—processing receiv-
analytics, network solutions, and ables, closing the books, forecasting results, etc.—better,
other technology-enabled services to faster, and cheaper. Two, it's about influencing the finance
health-care payers and providers. team to be “positive, challenging partners to the people run-
The company was formed in ning the businesses.”
March 2017 through a merger of “If you approach finance with those sorts of objectives,
Change Healthcare Holdings and then CFO skills are very much transferable,” Eliasson says.
a majority of McKesson’s technol- In fact, a top executive newly brought in from outside
ogy solutions business unit. Change can be just the tonic some companies need.
Fredrik Eliasson, Healthcare is privately held, owned “You have a license to ask dumb questions for an extend-
CFO, Change jointly by McKesson and Blackstone ed period of time,” he observes. “Groupthink is a common
Healthcare Group, but when the deal was an- enemy for a lot of leaders. They’ve done something for a
nounced in June 2016 the merger long time and everybody in the organization believes that’s
partners said they had pro-forma revenue of $3.4 billion. the right way. But coming in with different experiences, I’m
Eliasson left CSX in late 2017 without knowing what his already questioning whether several things are still right,
next move would be. “I felt I wanted to do something differ- now that there’s a new organization after the merger.”
ent from what I’d done in the past in the industrial transpor- Meanwhile, what are some of the elements of Change
tation space,” he says. Healthcare’s business that differ from Eliasson’s past experi-
When the opportunity at Change Healthcare arose, it ence?
certainly checked that box. CSX, aside from being in a much For one, the company has a multi-tiered revenue model.
different industry, is a publicly held company that’s much Software solutions are typically offered as software-as-a-
larger, with a topline of $11.4 billion for its 2017 fiscal year. service subscriptions. Other services have a volume-based
Change Healthcare, in contrast, is a private company that pricing model. But a key aspect of Change Healthcare’s
Eliasson could help take public at some point. “The oppor- business is its contingency-based pricing model, where the
tunity set itself is different,” he says. company earns revenue only when customers derive value
In seeking the new job, Eliasson had a broader skill set in the form of, for example, cost savings.
to work with than some other CFOs. After serving as CSX’s Then there’s the product set. The company’s Intelligent
finance chief from 2012 to 2015, he spent his last two years Healthcare Network processes clinical, administrative, and
with the company as chief sales and marketing officer. financial transactions for hundreds of thousands of physi-
If that sounds like it was a step down, it wasn’t. “For a cians, hospitals, and other providers, as well as commer-
railroad, and some other organizations, the two most im- cial and government payers. The value of claims processed
portant jobs under the CEO are the chief operating officer through the network tops $2 trillion annually.
and the chief sales and marketing officer,” Eliasson says. Eliasson isn’t wasting time worrying about all the details.
“They have a more direct influence on the business than “It might be less challenging to get up to speed than you
the CFO does.” might think. Ultimately, it’s about creating value and [apply-
He also had a previous sales role at CSX, in between ing] common sense."

30 CFO | October 2018 Courtesy Change Healthcare, Getty Images

Feeling Fintech Short Stops
The high turnover rate in CFO positions
suggests more finance chiefs are taking
A background in private equity prepares advantage of a tight labor market.
Sarah Dickens Spoja to take the CFO Average tenure of CFOs, by industry*
position at accounts payable firm Tipalti.
Retail 5.9 Years

For Tipalti's relatively new finance chief, Sarah Dickens Financial 5.8
Spoja, successful experiences in consulting and private eq-
uity led to her entry into a dynamic industry. Industrial 5.5
After graduating from Williams College in 2004 with a
double major in mathematics and economics, Dickens Spoja Services 5.1
went straight into a four-year gig with management consult-
Consumer 4.8
ing firm Bain. There, she was heavily exposed to private eq-
uity, working on projects in the areas of buy-side diligence, Technology 4.4
customer research, and new product potential.
Next came Stanford University Graduate School of Busi- Energy 4.4
ness, where Dickens Spoja earned an MBA in 2010. Newly
minted diploma in hand, her first aim was to put her PE ex- Healthcare 3.9 Years
perience to work. So, she joined KKR Capstone, an indepen- 0 1 2 3 4 5 6 7
dent firm that provides support for the deal teams and port-
folio companies of PE giant KKR.
She and her colleagues spent a
portion of their time “doing diligence Advantage: Experienced CFOs
for new investments, understanding Less than 20% of sitting CFOs have prior CFO
whether they were good and in par- experience at another company. Here are the
ticular what types of value improve- immediate previous positions of current CFOs.*
ments KKR could make on them as
owners.” Another chunk of time was CFO 18.5%
devoted to existing portfolio firms,
Sarah Dickens along a spectrum from project work Controller/CAO 18.4
Spoja, CFO, Tipalti to “actually having a seat in the com-
pany and taking on a role.” Corp Finance 16.9
Dickens Spoja calls it “probably the best job I could have
Treasurer 11.3
had.” While she had done more traditional strategic consult-
ing during her years at Bain, she “wanted to get more skin Divisional CFO 10.8
in the game,” which is what drove her to private equity.
Division president/ 8.9
“I wanted to be involved not only as an adviser but also operations executive
as a shareholder,” she says. “With every project I took, I
Strategy/M&A 6.8
thought about how to align my interests with the manage-
ment team’s interests.” Other 4.1

Time is Money President/COO 2

While she rose to become a director at KKR Capstone,
Dickens Spoja’s next logical career step was to “go to work Investor Relations 1.4

in a company and have a seat at the table more directly,” she CEO 0.6
says. “I talked to headhunters for a few years about chief op-
Chief Administrative
erating officer or strategic CFO jobs. I was looking for the 0.5%
Officer
right combination of people, product team, and vision of
0% 5 10 15 20%
where the company was going.”
She was particularly interested in opportunities at finan-
* 2018 Fortune 500 and S&P 500 companies
cial technology (fintech) companies, the focus of half of her Source: Crist Kolder Associates Volatility Report 2018 (data as of August
work at KKR Capstone. 1, 2018); percentages do not add up to 100 due to rounding

Courtesy Tipalti October 2018 | CFO 31

THE INDUSTRY SWITCH

Notably, she had

Water World
Going worked on the acquisi-
tion of a small fintech
Outside firm, Clover Network,
by First Data, which
Being CFO of a public utility can be as
Why hire a CFO from KKR bought in 2007 challenging as the private sector, finds
another industry or and took public in 2015. Linda Sullivan of American Water Works.
sector? “After we did the
• As a catalyst for change in deal, I worked for two The job of CFO at a public utility might appear on the sur-
a sector going through some years alongside the face to be rather bland.
kind of transformation
founders of [Clover] After all, strict regulations dictate many of utilities’ ac-
• To bring in specific skills in a chief commercial tions. Utilities don’t set their own prices for their services.
at a critical moment in the
officer-type role,” Dick- They are much better able to forecast revenue than are
business
ens Spoja says. “I did most businesses. Their capital structure is established by
• To maximize the pool of everything from plan- state regulatory commissions, which also dictate a return-
“top-tier” candidates avail-
able for targeting
ning out the teams and on-equity ceiling for their capital investments.
the budgeting to doing Don’t try to tell Linda Sullivan that utilities are bland,
• As part of a broad ap-
business development though.
proach to creating a more
diverse leadership team and setting up bank The finance chief of American Water Works started han-
partnerships.” dling a public utility account almost 30 years ago during her
• As part of a talent strategy
that puts leadership ability When the Tipalti op- early-career days at a public accounting firm. That led to
above purely technical skills portunity arose, Dick- a 22-year stretch with electric utility Edison International,
Source: Spencer Stuart
ens Spoja performed where Sullivan rose to the CFO role. In 2014 she moved to
due diligence on the American Water, the biggest player in the highly fragment-
company and its finan- ed U.S. water-utility industry.
cial models “exactly as if I were a KKR executive [trying to “A lot of people outside the utility industry think it’s
understand] whether I wanted my money in this business— stodgy, but it’s anything but that,” she says. “It’s very inter-
because at this stage of my career, my time is my money.” esting, very exciting, and serves the public. I love it.”
Dickens Spoja was particularly attracted by Tipalti’s cus- The heart of the job is balancing significant ongoing cap-
tomer-retention rate, “which was higher than any I’d seen in ital investments with the mission of achieving efficiencies
the B2B fintech space,” she says. that serve to keep customers’ rates as low as possible. That
Tipalti is a much more mature company than was pre- balancing act breaks down into four key issues.
acquisition Clover, “but it has a lot of the same qualities,” Most important among them is the supply of water.
Dickens Spoja says, because it has to figure out how to con- There is a finite amount of fresh water in the world, Sul-
tinue to grow fast, satisfy customers’ needs, open up more livan notes. It comes from four primary sources: ground
addressable markets, and fund growth. water; surface sources such as rivers and lakes; desalination
Both fintech and the payments space have fast-evolving of saltwater; and recycling and re-use. But supply is tight in
ecosystems, Dickens Spoja notes. “Understanding the many portions of the United States, especially areas afflicted by
dimensions in those ecosystems and all the participants— near-chronic drought conditions.
banks, associations, competitive or complementary prod- “We need to make sure we’re taking a long-term view
ucts—is important, and they’re changing all the time." of water supply and understand the risks—relating to wa-
ter storage and water stress—in each of our locations, so
that we can mitigate those risks,” says Sullivan, noting that
“I wanted to be American Water has coverage territories in 16 states.
involved not only as Such mitigation requires investment. For example, the
company is building a desalination plant on California’s
an adviser but also Monterey Peninsula, “because there’s really no other solu-
as a shareholder. tions in that area,” the CFO says.
With every project The second key issue is aging infrastructure. Like most
I took, I thought other U.S. water systems, the pipes and other infrastructure
American Water uses were installed well more than 100
about how to align years ago and need to be repaired or replaced.
my interests with the management team’s “Every year U.S. water systems lose about 20% of al-
interests,” says Dickens Spoja. ready-treated water, or about 2 trillion gallons,” Sullivan

32 CFO | October 2018 Getty Images

says. “We’ve gone to the expense of getting that water, treat- “We need to make
ing it, and putting it in the pipes. But we lose 20% of it due
to leaks and main breaks. It’s very expensive.”
sure we’re taking a
Here too, the challenge is making the right investments long-term view of
while keeping an eye on customer affordability. But in gen- water supply and
eral, infrastructure upgrades tend to be good investments. understand the risks—
“The way our rates are designed, if we spend a dollar of
operating cost, our customers pay for that, dollar for dollar,
relating to water
every year,” she says. “But if we invest in our system, then storage and water
our customers pay for that over the stress—in each of our locations, so that we
life of the system, which is generally can mitigate those risks,” says Sullivan.
40 years or more. So, we know that
for every dollar we can save in op-
erating expense, we can invest $8 in as a monopoly in its coverage territories. However, “the way
capital infrastructure and have the we look at our customers is that if they were given a choice,
same impact on customers’ bills.” we’d want there to be no question in their mind that they
The third big issue is water qual- would choose us,” Sullivan says.
ity, which has been in the spotlight in
Linda Sullivan, CFO, recent years because of the polluted- The Long Term
American Water water situation in Flint, Mich., and In making decisions on all types of capital investments,
Works algae blooms in Lake Erie and the American Water must take into account that household wa-
Ohio River. ter usage is declining in the United States, slowly but steadi-
Sullivan’s challenge is making the correct investments in ly, at a rate of about 1% to 2% annually. That is the result of
smart technologies that allow water quality to be measured the increasing prevalence of low-flow toilets, more-efficient
at the source and that issue alerts when “something foreign washing machines, and the like, as well as a growing “con-
comes into our water,” she says. servation mindset,” Sullivan says.
The fourth key issue, which the company calls customer “We must adapt our systems and rate structures to re-
connectedness, is interesting because the company operates duced consumption trends in order to cover fixed costs and
maintain reliable service, while a number of fixed costs con-
tinue to rise,” Sullivan says.
Such fixed costs range from capital needs to operating
Weighing a Transition costs such as plant maintenance, customer service, IT sup-
port, and security. “The challenge is to work with regulators
Before taking a position in a new industry, CFOs to be progressive in establishing rate structures that support
should ask themselves the following questions. appropriate levels of ongoing investment in the pipes and
plants that ensure reliable service,” Sullivan says.
1. Does the company have a clear strategy that I can help
support, reform, and deliver? Regardless of all the challenges, American Water is ac-
tually growing and forecasts a compound annual earnings
2. Is the culture compatible with my values and principles?
growth rate of 7% to 10% through 2022.
3. What are the common threads between my current sector
and the new one?
The company also buys, each year, 15 to 20 of the 50,000-
plus water systems in the United States, typically ones op-
4. Am I comfortable with how big a stretch it will be to work
in this new sector? erated by troubled municipalities. Deciding which ones to
acquire involves answering two “sophisticated” questions,
5. Am I willing to learn and be flexible in a new environ-
ment? Sullivan says.
“One is, where is the ‘stupid line’? At what price are we
6. Do I have enough backing from the CEO and am I comfort-
able with the quality of the board? happy to walk away? If someone else is willing to pay that
7. Do I know who supports this external appointment, who is
price, we can be happy for them,” says Sullivan.
against it, and why? The second question is, “In 5 or 10 years, are people go-
8. Exactly what are the expectations of me? Is there a realis- ing to look back and believe we made a good decision? Or
tic timeline to deliver? are they going to say, ‘What were they thinking?’ I think
9. Am I completely clear about my goals? How will my that’s really important for the utility industry, because we’re
success be measured? in the business for the long term.” CFO
Source: Spencer Stuart
David McCann is Deputy Editor at CFO.

Courtesy American Water Works October 2018 | CFO 33

34 CFO | October 2018
 The sudden collapse of U.K. construction
firm Carillion exposes the limits of
public company auditing and
sparks discussion of reforms.

FAILURE
TO AUDIT
BY RUSS BANHAM

If past is prologue, U.K. accounting

regulators may want to take a hard
look at the great American business
tragedy known as Enron. ing them into
multiple firms. While the first
In 2002, the scandalous collapse of the en- has been done in the United States, some
ergy company caused the demise of one of here are still calling for the second.
the Big Five audit firms, Arthur Andersen, The United States is ahead of the United
resulting in the Sarbanes-Oxley Act’s stern Kingdom with respect to regulating auditing,
reforms. The now Big Four are in the cross- but no one would say America has perfected
hairs of U.K. regulators, following the spec- the approach. An effective framework of ac-
tacularly speedy collapse in January 2018 of countability for auditors doesn’t presently
Carillion, one of Britain’s largest construction exist. So, could a downfall of Shakespearean
firms. It was the largest insolvency in U.K. proportions like Carillion’s happen here? And
history, jeopardizing some 20,000 jobs and is there a solution to making sure it doesn’t?
countless pensions. The company went into
liquidation with liabilities of $9 billion and Applying Judgment
only a few million dollars in the bank. When considering the accountability of au-
All four auditing giants were connected to ditors in a sizable corporate meltdown like
Carillion in some capacity, with KPMG its ex- Carillion’s, or MF Global’s, or even that of
ternal auditor. A House of Commons report Lehman Brothers, accounting experts under-
says KPMG failed to challenge management line the imposing task audit firms face. In
on “highly questionable assumptions” about every engagement, they issue an opinion on
construction contract revenue and accumu- the fairness and accuracy of a company’s fi-
lated goodwill from acquisitions. As with nancial statements based on a statistical sam-
Enron, this roiling hurricane has whipped pling of its financial data.
up urgent calls in the U.K. for auditing re- The key word here is “sampling.” No audi-
form. Some want Parliament to separate the tor of a large public company could possibly
audit work of the Big Four from their prized dig through every single transaction to guar-
consulting services; others suggest shatter- antee its financial integrity. Consequently,

GETTY IMAGES October 2018 | CFO 35

 there is always the risk of issuing worries over another Enron. But does that make the Caril-
an opinion that may be ambiguous lion calamity a case of “it can’t happen here?”
or flat-out wrong. That is why it is The list of mistakes that the U.K. parliament accuses
FAILURE called an “opinion,” a “judgment not
necessarily based on fact or knowl-
Carillion’s auditor, KPMG, of sound pretty similar to errors
that U.S. auditors have made since SOX, especially during
TO AUDIT edge.” And why an “audit” is just an- and after the 2008 financial crisis: questionable assump-
other word for a “survey” or “check.”
“A lot of what audit firms do is a legitimate judgment
call,” says Erik Gordon, a professor in the University of “[With SOX], the U.S.
Michigan’s Ross School of Business. “Here in the United took a hard step in
States, judgments are based on [generally accepted account- adding another layer of
ing principles], but they’re still judgments.” regulation. But the result
The problems occur when the client pushes back, disput- has been greater financial
ing the auditor’s judgment. The auditor may decode com- transparency and
ments such as “I’m not sure you really understand our busi- corporate governance.”
ness” or “I don’t think you appreciate what is special about
Robert Hartwig, professor of finance, University of South
our industry’” as implying that the company will curtail the Carolina’s Darla Moore School of Business
high-priced consulting services provided by the firm,” says
Gordon. “That’s when the auditor’s objectivity can become
strained.” tions about revenue recognition and the goodwill value on
corporate balance sheets, for example, and a lack of profes-
The U.S. Stage sional skepticism toward aggressive accounting judgments:
Audit firms in the United Kingdom can still provide con- • In 2014, the Public Company Accounting Oversight
sulting services to the Board (PCAOB) banned a Pricewaterhouse Coopers partner

By the
same client (unlike in the for overlooking improper revenue recognition by a medical
United States), resulting in device firm. The practices missed included unusual pricing

Numbers a blatant conflict of inter-

est. That and other cir-
and payment terms, quarter-end sales spikes, and a scheme
by which the company funded a distributor’s purchases.
cumstances of the Caril- • A U.S. district court recently found PwC guilty of giv-
43,000 employees lion case are an old tune in ing Colonial BancGroup a clean audit for years before it
Number of Carillion the U.S., which confronted emerged that huge chunks of Colonial’s loans to a mortgage
employees worldwide
before liquidation
similar issues post-Enron originator were secured against assets that did not exist.
until Congress passed the • The PCAOB charged Deloitte with violating PCAOB
450 Sarbanes-Oxley Act of rules and auditing standards in audits of software firm Jack
The number of construc-
2002 (SOX). SOX prohib- Henry. The PCAOB said none of the engagement personnel
tion and service contracts
Carillion had across its firms from providing had the knowledge to properly evaluate and audit the firm’s
the U.K. public sector non-audit services to audit accounting for software license revenue.
clients like internal audit In addition, criticisms of the U.K.’s accounting watchdog,
$38.1 million
The amount of cash
outsourcing and large- the Financial Reporting Council, are similar to those leveled
Carillion had when it scale, large-fee informa- at the PCAOB: that the regulating entity is too close to the
went into liquidation in tion systems design and firms it oversees.
January 2018 (against implementation. The law Two of the current five members of the PCAOB, for ex-
$9.2 billion of liabilities) also requires publicly held ample, spent significant time at Big Four firms, and an April
$2.63 billion companies to disclose the 2018 academic study found that an increasing number of
The amount Carillion fees paid to auditors. PCAOB employees leave the regulator for senior-level posi-
owed to its 30,000 suppli- Three of the Big Four tions at large audit firms.
ers and subcontractors
firms pulled out of con-
$1.11 billion sulting after SOX came Robust Regulation?
The reduction of value into effect, eventually re- The Big Four declined to be interviewed for this story, re-
in its contracts Carillion turning to the business by ferring the subject to the Center for Audit Quality (CAQ),
disclosed in July 2017
when it issued a profit
committing not to provide which represents the interests of public company auditors.
warning audit and consulting ser- CAQ issued a statement to CFO maintaining that “robust
Source: Work and Pensions
vices to the same compa- independent regulation and oversight” is firmly in place in
and BEIS Committees Report ny. For the most part, this the United States “to safeguard auditor independence.”
accommodation has eased “Auditing has become much more rigorous in the past 15

36 CFO | October 2018 Courtesy University of South Carolina’s Darla Moore School of Business
years,” says Owen Ryan, one-time CEO
Stretching Terms Breaking Up
and managing partner of Deloitte’s advi- In the United Kingdom, Parliament
Carillion’s average days
sory business and a member of its global has remedies in mind in the wake of
payables outstanding
executive committee. Financial restate- the Carillion collapse, some of which
(DPO) jumped in 2017
ments and large bankruptcies without as the company tried to have also been contemplated here. The
forewarning by auditors have fallen sig- conserve cash. two principal ones are (1) fragmenting
nificantly, he says. “Lawmakers and regu- the Big Four into smaller firms or (2)
200 DPO
lators like the [PCAOB] deserve credit detaching their audit arms from their
for putting pressure on audit firms to be consulting services arms, which gen-
independent and to continually improve 150 erally offer strategy, legal, and merger
practices.” and acquisition advice.
Like all sweeping business regulations The first solution would encourage
that are passed, SOX was initially greeted 100 competition in the audit market, say
by companies as unnecessarily burden- U.K. lawmakers, limiting the poten-
some. But it has changed corporate be- tial for audit firms and clients to nur-
50
haviors for the better, restoring needed Jun Sep Dec Mar Jun ture long-term, cozy relationships. The
investor confidence in the accuracy and ’16* ’16 ’16 ’17 ’17 Big Four check the books of nearly all
completeness of financial statements says *Days payables outstanding are as of (98%) of the U.K.’s 350 leading public
Robert Hartwig, a professor of finance at quarter end. companies. “The veiled threat [by regu-
Source: S&P Capital IQ
the University of South Carolina’s Darla lators] is that if you don’t do it, we’ll do
Moore School of Business. it,” says Gordon.
The statement bears repeating, as the White House and More competition would break the Big Four’s strangle-
Congress are questioning the effectiveness of many capital hold. Other suggestions being proposed in the U.K. would
markets regulations. A current bill in the House of Repre- cap these firms’ market share of public company auditing or
sentatives, for example, would allow small broker-dealers to limit the number of audit clients any one firm can have.
hire audit firms that are not registered with the PCAOB. But is an oligopoly of four top-tier firms a bad thing,
“The U.S. took a hard step in adding another layer of reg- either in the U.S. or the U.K., given that there are tiers of
ulation. But the result has been greater financial transpar- other audit firms right below it? “More competitors usually
ency and corporate governance,” says Hartwig leads to more competition,” says Gordon. “But, I know peo-
And the PCAOB is still refining its approach. As of June ple at all four firms, and in a sort of semi-genteel way they
really do compete for business. Would a ‘Big Six’ be more
competitive, giving a CFO more places to shop? Maybe, but
“Audit committee mem- I’m not sure it would result in higher audit quality.”
bers need to have more of Jian Zhou, a professor of accounting at the University
an open mind in appointing of Hawaii’s Shidler College of Business, would rather see a
second-tier audit firms like market solution. He notes that the market share of the sec-
BDO, Grant Thornton, and ond tier is growing in the United States. “We may soon have
Crowe Horwath.” a Big Six, without the need to break up the Big Four to spur
competition,” Zhou says. “Audit committee members need
Jian Zhou, professor of accounting, University of Hawaii’s
Shidler College of Business to have more of an open mind in appointing second-tier au-
dit firms like BDO, Grant Thornton, and Crowe Horwath.”
Villanova, now vice president and corporate controller at
30, 2019, auditors have to include in their reports a dis- BlackLine, is doubtful about the prospect of breaking up the
cussion of critical audit matters (CAMs) that have been Big Four. “The second-tier firms readily admit they currently
communicated to the audit committee. CAMs are matters don’t have the national office resources, technical expertise,
related to disclosures that are material to the financial state- or the global networks of the Big Four,” he says.
ments and involve “especially challenging, subjective, or He is not alone in that position.
complex auditor judgment.” "The Big Four are the ‘A-team’ for a reason—they’ve
Another factor involving the difference in oversight hired the cream of the crop,” says Tom Wheelwright, a for-
here and in the U.K. is a wide disparity in funding, points mer tax specialist in Ernst & Young’s national office and
out Patrick Villanova, a former lead audit senior manager CEO of WealthAbility, a provider of tax and accounting
at PwC. The PCAOB’s $250 million annual budget is pretty educational tools. “No one goes to a second-tier firm if they
much double the funding of the FRC and regulators in the have the opportunity to work for the Big Four ... their re-
Netherlands, Ireland, France, Germany, and South Africa— sources aren't nearly as good. You'll get better audit prices,
combined. but not better audits.”

Courtesy University of Hawaii’s Shidler College of Business October 2018 | CFO 37

 Core Conflicts Disappearing “It could result in a
The provision of both audit and con- new practice, whereby
Profits
sulting services by a Big Four firm is a group of firms spe-
Carillion’s total provisions
FAILURE the other chief complaint of U.K. law-
makers. Their arguments are driven
for problem contracts in
cializes in scrutiniz-
ing the financial data
TO AUDIT by an enhanced potential for con-
July and September of
2017 wiped out 7 years of
that another firm has
flicts of interest, since audit firms are before-tax profits. already scrutinized,”
both an advocate and a public protector of a company on Villanova said. That al-
behalf of shareholders and investors. And the job of advo- In $ ready happens when a
millions Sept.
cate, in the form of advisory work, pays more. Total 2017 company goes through
The Big Four counter that added services like tax and $1,400 $1,376 $1,372 a major acquisition or
legal consulting are useful from an expertise standpoint, al- 2016 divestiture—one Big
lowing for higher quality audits. They also say the added $193 Four firm gets hired
1200
revenue stream of consulting services income helps subsi- to give the company a
2015
dize clients’ audits. “If you remove the ability to offer these $204 valuation report and
1000
services, audit prices would be considerably more expen- another audits the as-
sive, as much as double,” Wheelwright claims. 2014 sumptions and models
800 $188
Nevertheless, these factors do little to offset the possibil- used in the valuation.
ity of a serious conflict of interest. “If there are no disputes 2013
on the audit side with the client, no issues over asset im- 600 $146 What Now?
pairments or how revenue and expenses should be booked, 2012 The Big Four would
$236
then no problem—the conflict of interest is hypothetical,” 400
hardly relish having
says Gordon. “But, if the auditor is questioning these things 2013 other audit firms peer-
while the firm also provides profit- $188 ing over their shoul-
200
able services to the client” then the ders at their work-
2010
auditor may turn a blind eye. $221 papers. In addition,
The conflict of interest argument $0 issuers and investors
Profit Provision
has also arisen in the United States, before tax for might not put up with
where many wonder if it makes sense contracts longer lead times be-
anymore for the issuer being audited Source: S&P Capital IQ tween when the books
to be the one paying the auditor. After are closed and the au-
all, why do auditors continue to make ditor gives its imprimatur to the financial statements.
“The Big big, costly mistakes that result in law- One thing auditors can do to head off any new rules is to
Four are the suits? Could it be the pressure to keep ensure new auditors are trained to appropriately challenge
‘A-team’ for the audit client happy? the client on accounting and disclosure matters. Audit com-
a reason— Big Four alumni say the over- mittees on boards of directors can also play a part. They
they’ve hired whelming majority of auditors are must keep auditor independence intact and identify for au-
the cream of not being negligent. As Villanova ditors the transactions and accounting issues from which
the crop.” explains, an auditor is often trying to misstatements are likely to arise.
figure out some “newfangled, inge- Still, audits will miss things, given that auditors need to
Tom Wheelwright,
CEO, WealthAbility nious thing that some banker came up form an opinion drawn from only a small wedge of the cli-
with” while the “clock ticks toward ent’s financial data. “The public sees an audit as assurance
the quarterly earnings report.” The that everything is perfect in a company, which is not what
company makes a best estimate based on the available infor- an audit is,” said Wheelwright. “It’s a testing process to see
mation, and the auditor scrutinizes the company’s key as- if what a company is doing is reasonable.”
sumptions to the best of his or her ability. Lawmakers in the U.K. might be off base—"looking for
A potential solution to the problem of long-term auditor- precise answers to improve a science that is inherently
client relationships, says Villanova, is having another firm gray,” as Villanova puts it. But that doesn’t mean the qual-
come in and check the assumptions. ity of audits can’t be improved. For certain, if the Big Four
There is no law or accounting rule requiring the use firms don’t join the discussion about how to make incidents
of peer reviews, in the U.K. or the U.S. Not only would a like Carillion less likely, they may not be happy with what
“referee” weaken the conflict-of-interest charge—an audi- regulators impose as a solution. CFO
tor would know its work would be evaluated by a competi-
tor—it would spread the wealth among a greater number of Russ Banham is a Los Angeles-based financial journalist and
firms, addressing the oligopoly assertion. author.

38 CFO | October 2018 Courtesy WealthAbility

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40 CFO | July/August 2017
 SPECIAL
REPORT
The State of Auditing

Time for An Adjustment?

Keeping the auditor-client relationship free of conflicts of interest is
still a struggle. By Vincent Ryan

Failure to detect corruption, negligence in approving an a client’s position on a fairly subjec-

tive, even speculative accounting mat-
accounting treatment, lack of professional skepticism, ter had an interesting result: 76% were
failure to unmask fraud, and inappropriate familiarity with inclined to do so if the client’s CFO
the client. The Big Four have been accused of all of these was a former colleague at the same Big
Four audit firm, while only 44% said
transgressions, and more, in the past three years. ¶ Material they would do so otherwise.
accounting mistakes resulting in restatements by U.S. public This “alumni effect” occurred even
if it had been two years since the CFO
companies rose to 65 in the first six of public accounting firms and their left the audit firm. “A one-year or two-
months of 2018, compared with 60 the personnel. The Securities and Ex- year cooling-off period is not enough
year prior, found Audit Analytics. And change Commission’s rules on audit … particularly if it requires overcom-
the International Forum of Indepen- independence prescribe prohibitions ing social bonds that colleagues often
dent Regulators (IFIR) revealed this on non-audit services, partner rota- develop,” according to the study, "The
year that it had found problems in 40% tions, and conflicts of interest. But Alumni Effect and Professional Skepti-
of the audits of 918 listed public com- some observers think CFOs and their cism: An Experimental Investigation."
panies that it examined in 2017. companies’ auditors, especially the Big Most large auditing firms have poli-
The deficiencies found in the audits Four, are still too cozy for comfort. cies, systems and controls to try to
of U.S. public companies don’t mean SOX addressed the issue by outlaw- avoid independence violations. They
that the resulting financial statements ing the hiring of an accounting firm require certain internal approvals and
can’t be trusted. Auditing in the United to perform an audit if a top finance or reviews of transactions and services
States has undeniably improved since accounting executive at the client was that have independence implications.
the crackdown represented by the Sar- employed by the audit firm during the But, retired Ernst & Young audit
banes-Oxley Act of 2002 (SOX). But preceding year. But a 2018 study of the partners Jay Bornstein and Steve Blow-
in the last few years, as lawsuit settle- willingness of Big Four firms to adopt ers, writing on CFO.com, say that may
ments from the financial crisis reveal not be enough. Finance chiefs have
what auditors missed and companies an obligation to develop their compa-
“Indepen-
wrestle with rule changes like rev- nies’ own independence policies and
enue recognition, allegations of audi-
dence for me procedures and test their effective-
tor malpractice seem to be growing. is a mindset. ness, they write. Company-wide pro-
Where are the problems in public For myself cedures concerning the relation of C-
company auditing, whether real or and all suite executives to the audit firm also
just perceived? A lot of it boils down need to be in place.
my fellow
to the auditor-client relationship.
partners, independence Trusting the Committee
Independent Streak and integrity are absolutely Lately, regulators seem to be hoping
Much work has been done to try to critical to our profession.” that audit committees can iron out
ensure the objectivity and integrity —Michelle Hinchliffe, U.K. head of audit, KPMG any problems with auditor objectivity.

Left: Getty images; Right: Courtesy the company October 2018 | CFO 41
 SPECIAL
REPORT
The State of Auditing

That makes sense, since, officially, the efit plans, opened an investigation into ropean Union, issuers have to rotate
audit committee oversees the financial whether its audit committee withheld auditors every 10 years (the KPMG-
reporting process, the audit process, information from its outside auditor. Carillion case was an exception). The
and the systems of internal control. only U.S. provision specifically tar-
Audit committees are better- Tenure Tensions geting longstanding auditor-client
equipped than a few years ago—in Even an expert audit committee of un- relationships prohibits the lead audit
the Fortune 100, 66% of audit commit- questionable integrity may have trou- partner, not the firm, from performing
tee members are financial experts, up ble addressing the issue of overlong audit services for more than five con-
from 59% in 2012. More audit commit- client-auditor relationships, and many secutive fiscal years.
tees are also disclosing in public filings may not want to. The Public Company Accounting
the factors that go into their assess- After the Carillion meltdown in the Oversight Board (PCAOB) tried to in-
ments of the auditor’s qualifications United Kingdom, members of parlia- stitute mandatory auditor rotation five
and its work quality. ment attacked the fact that KPMG had years ago but the opposition was ve-
Indeed, audit committees have their been Carillion’s auditor for the con- hement, from industry and even Con-
limits—and their flaws. Audit commit- struction firm’s entire corporate life of gress. ExxonMobil’s controller at the
tees have more tasks on their plates, 19 years. Parliament said that “such a time said the idea had been met with
which may be diluting “an audit com- long tenure inevitably calls into ques- “universal rejection” from board audit
mittee’s ability to focus on its core re- tion whether [KPMG] could provide committees, “as the proposal diminish-
sponsibilities,” former SEC chair Mary the independence and objectivity that es the audit committee’s role in hiring,
Jo White declared in 2015. Surveys is crucial to [a] high-quality audit.” assessing, and firing audit firms.”
have found that many audit committee In response, Michelle Hinchliffe, This issue doesn’t seem to be going
members have difficulty finding time KPMG’s U.K. head of audit, told Parlia- away, however. Earlier this year, proxy
to perform all their responsibilities, es- ment that she did not believe 19 years adviser Institutional Shareholder Ser-
pecially as they are called on to over- was “too long to be impartial” and that vices recommended that General Elec-
see major risks like cybersecurity and “independence for me is a mindset. tric shareholders vote to dump KPMG
global compliance. For myself and all my fellow partners, after a surprise $6 billion-plus write-
There’s no guarantee that an auditor independence and integrity are abso- down. ISS says that for all companies
committee is going to handle an audit lutely critical to our profession.” saving time and keeping audit costs
responsibly, either. In September, Wage- But would rotating a client’s ex- down need to be balanced against (1)
Works, a provider of employee ben- ternal auditor make sense? In the Eu- the risk that a long-tenured auditor can
become too close to a client and (2) the
potential for a new auditor to uncover
Trust Issues problems previously unidentified.
Main Street investors that have little to no confidence in
audited financial information (15%) indicate that conflicts of Accounting Oversight
interest and auditor trustworthiness are among the reasons. The one area that should comfort U.S.
investors and anyone else interested
2% 4% in the quality of audited financials is
■ Companies are not trustworthy
the success of the PCAOB. The U.K.’s
■ Companies or auditors have
conflicts of interest Financial Reporting Council received
7% a tongue lashing from Parliament af-
■ Negative news heard
7% 28% ■ Companies don’t provide ter the Carillion collapse and was
enough information described as “toothless.” But, as EY's
7% ■ Personal experience
Bornstein wrote in 2015, “Through
■ Auditors are not regulated enough
public release of inspection reports,
10% ■ Auditors are not trustworthy
to enforcement actions against firms
■ Other
23% and individuals, the PCAOB is laser-
11% ■ Don’t know
focused on audit quality and inde-
pendence.” Wesley Bricker, the SEC’s
Data may not add up to 100% due to rounding former chief accountant, said in Feb-
Source: Center for Audit Quality Main Street Investor Survey of 1,100 investors, August 2018 ruary 2018 that “the PCAOB has had a

42 CFO | October 2018

positive impact on [auditing] “Audit partners need to lytical tools, when applied in
firms’ system[s] of quality auditing, may allow for a wid-
controls.”
hear clearly from firm er sampling of data in audits
Indeed, a 2018 Protiviti leadership that … no and catch more fraud.
study found that 75% of com- client is too big to lose Second, the Big Four can
panies whose external audi- and that the partner has help themselves by ensuring,
tors required them to sig- if they haven't already, that
the firm’s full and
nificantly boost their SOX they have the right tone at the
compliance activities attribut-
unwavering support top. Wrote Bornstein: “Audit
ed the initiative to heightened when he or she is appropriately partners need to hear clear-
PCAOB requirements. challenging the client on accounting ly from firm leadership that
Not all is necessarily well and disclosure matters.” quality, including indepen-
at the PCAOB, though. In a —Jay Bornstein, retired Ernst & Young partner dence, is the most important
Republican administration part of their job; that no client
that is highly skeptical of the occurs in the United States, it wouldn’t is too big to lose; and that the
wisdom of tight government regula- be out of the question. One of the sug- partner has the firm’s full and unwav-
tion, the PCAOB, now with a new gestions made in the United Kingdom, ering support when he or she is appro-
chairman, may be back on its heels. by none other than Grant Thornton, is priately challenging the client on ac-
This spring it kicked off a soul-search- to have a public body select the au- counting matters.”
ing survey project, asking the public’s ditors for all U.K.-listed groups and Third, no matter how good a job au-
help in figuring out how to enhance authorize it to review and rotate audit ditors see themselves doing in the con-
the PCAOB’s relevance to the capital contracts every five years. text of an audit’s natural limitations,
markets. For now, there are some things the failure to catch corporate fraud and
apart from regulation that could im- the attendant publicity will continue to
Moving Forward prove audit quality, or, at least, the sour firms’ reputations. That’s unless,
With the success of the PCAOB and optics on public accounting firms and of course, they find a way to address
SOX, few would call for more regula- their clients’ financials. the expectation gap between what the
tion around the auditor-client relation- First, technology will be a help: ar- general public wants from an audit and
ship. But if anything akin to Corillian tificial intelligence and advanced ana- what an audit can really deliver. CFO

Collaborating on
correct information, increasing the ditor during the planning phase to
number of adjustments and control discuss the engagement person-

the Audit
deficiencies. That can result in a nel’s understanding of high-risk
qualified audit report—not exactly areas. Finance should scrutinize
a gold star for potential investors the prepared-by-client list to iden-
The finance team has a or lenders, Sheth says. tify items that are not applicable,
crucial role in ensuring an The right audit firm not only un- Sheth recommends.
effective audit. derstands the business and indus- Sheth also advises that finance
try, but also has years of experi- be forthcoming, raising potential
Companies often make garden- ence auditing similar companies. issues as early as possible, and
variety mistakes when it comes Equally important, says Sheth, being available to answer ques-
to financial audits, says Rahul is that the CFO and other execu- tions throughout the audit.
Sheth, a former director at Accor- tives understand the audit plan. Finally, Sheth emphasizes,
dion Partners and now a corporate That means ensuring that the au- year-end surprises should be
controller at DigitalOcean. The first, ditor focuses on the high-risk ar- avoided. If a company enters
and perhaps most damaging one, eas and the businesses with more into any non-standard or unusu-
is engaging the “wrong” auditor, or complex structures, including var- al transactions (e.g. purchase or
one who doesn’t have a nuanced ious revenue streams, locations, sale of business, change in seg-
understanding of the business. and segments. ment reporting), it’s crucial that
With that comes the risk of audi- Sheth recommends that finance these transactions be audited
tors asking for unnecessary or in- team members meet with the au- when they occur. | V.R.

Courtesy the company October 2018 | CFO 43

 BUSINESS
OUTLOOK
Duke University/CFO Survey Results

Reform Immigration Policies

to Aid Hiring: CFOs
In a tight U.S. labor market, finance executives contemplate changes to H-1B visa
policies so they can draw on the worldwide pool of technical talent.
By Matt Heller and Vincent Ryan

Finance chiefs are expressing strong support for easing greater percentage of applications.
restrictions on foreign students as they struggle to hire The Duke/CFO quarterly survey, which ended September
and retain qualified employees, according to September’s 7 and had more than 800 global respondents, also found that
Duke University/CFO Global Business Outlook survey. 78% of CFOs believed the United States should drop the lot-
Eighty percent of survey respondents believed the U.S. tery system and adopt a merit-based immigration policy.
government should routinely grant H-1B work visas to for- “The current constraints on hiring immigrants pose
eign science and technology undergraduate students study- considerable risk to the United States being able to sustain
ing in the United States. And 77% thought foreign science three-percent-plus economic growth,” said Cam Harvey, a
and technology graduate students should have easy access founding director of the survey who teaches a technology
to green cards. innovation course at Duke’s Fuqua School of Business.
H-1B visas allow U.S. businesses to employ foreign work- “Given the tight labor market, firms are most concerned
ers in specialty occupations, defined as those requiring about securing the right talent,” he added. “The CFOs are
theoretical and practical application of highly specialized loud and clear that immigration reform will allow them to
knowledge. Caps on H-1B visas have been a controversial fill some gaps with skilled immigrant labor.”
issue for years, with business leaders calling for the caps to The scarcity of talent was reflected in the survey results.
be increased. A majority (53%) of CFOs identified hiring and retaining
More recently, U.S. CEOs, especially those in the tech- qualified employees as a top-four concern—a two-decade
nology industry, have claimed that the Trump administra- high and up sharply from the 41% recorded in June.
tion is trying to discourage H-1B visa applicants by request- Over the past 12 months, CFOs reported that they had
ing more information from candidates and turning down a to replace 14% of their workers, compared with 13% in the
year-ago period. Still, they expected to grow full-time em-
ployees by 3.9% in the next year.
Economic Optimism Steady in U.S. Among those finance executives listing hiring as a top
But Falling Elsewhere concern, more than half (56%) said they have raised sala-
Finance executives rate their optimism about ries to improve their chances of filling open positions and
their domestic or regional economy* retaining workers. Nearly one-third (31%) have increased
human resources budgets to better advertise positions, and
80
29% have increased vacation or flex hours to improve both
retention and hiring. In addition, 21% have sweetened em-
70.0
70 ployees’ health-care benefits packages.
59.5 ■ U.S. These measures, of course, will eat into company earn-
60 57.9 ■ Europe ings. On average, the executives surveyed projected that
56.4 ■ Asia wages and salaries would increase 4.8% and health-care
■ Japan costs 7.8% in the next 12 months.
55.2
50
■ Latin
43.1 America Still Optimistic
40 ■ Africa Low unemployment and a plethora of unfilled jobs are, of
Q3 ’17 Q4 ’17 Q1 ’18 Q2 ’18 Q3 ’18
course, signs of robust economic conditions. It’s no surprise,
*On a scale of 0–100, with 0 being least optimistic then, that despite the hiring issues, finance executives held
Africa
Latin America
44 CFO | October 2018
Japan
Asia
fast to their positive economic out- plan to reduce their capital spending
look. by 6% in the next year.
The CFO optimism index fell
almost imperceptibly to 70 in the Shorter Horizons
September survey, down from all- The third-quarter Duke/CFO sur-
time highs of 71.1 in June and 71.2 in vey asked a special question about
March. CFOs’ optimism over their whether fast-paced changes in tech-
own firms’ financial prospects, nology, the economic environment,
meanwhile, increased to 71.4, the and the geopolitical situation have
highest level since 2007. affected the number of years into the

77%
On average, U.S. finance execu- future that companies could reliably
tives projected a 7.5% increase in plan. The survey also asked if those
revenue, a 5.7% boost in capital factors have affected the planned
spending, a 6.3% rise in technology length of a typical investment project.
spending, and a 3.6% increase in U.S. finance executives that The results indicated that the fast
marketing and advertising spending think science and technology pace of technological change is ham-
in the next 12 months. graduate students from pering the ability of companies to
In addition to worries over hir- foreign countries should have plan for the future. Finance execu-
ing, CFOs said government policies, easy access to green cards. tives said that 5 years ago they could
rising wages and salaries, benefits effectively plan 3.5 years into the fu-
costs, and regulatory requirements ture, but in the current environment
were top concerns. they can plan only 2.3 years out.
On the policy front, the Trump administration’s actions Coincident with this shorter planning horizon, CFOs indi-
to shrink the U.S. trade deficit through aggressive tariffs is cated that the projects they adopt now have an expected life
front and center. But most finance executives indicated that of 4.6 years, compared with a 6.2-year life for projects they
the international trade environment will not affect their initiated five years ago.
plans for capital spending or hiring. Those who said they The accelerated obsolescence is on top of widespread
have been negatively affected by the trade wars, however, concern that pressure to hit quarterly earnings targets has led
to a short-term focus among public companies. The survey
found the shortening of planning horizons is even more se-
Company Confidence Dips Outside vere among private firms than public companies.
U.S. and Latin America “If companies hold off on investing because of the fast
Finance executives rate their optimism about pace of change, this may damage long-run growth prospects
their own companies’ financial prospects* for the overall economy,” said John Graham, a finance profes-
sor at Fuqua and director of the survey.
80

71.4
Global Unevenness
70 The direction of finance executives’ optimism in economies
66.2
■ U.S. outside the United States took a significant dip. The survey’s
62.5 optimism index fell among CFOs in Africa, Europe, Latin
60 ■ Europe
59.8 America, Asia, and Japan.
■ Asia
55.5 ■ Japan Optimism in Europe plummeted to 57.9 in September,
50 52.1 down from 68.5 last quarter. Low optimism in the United
■ Latin
America Kingdom, Italy, and Spain dragged down the region’s score.
40 ■ Africa Capital spending and employment among these European
Q3 ’17 Q4 ’17 Q1 ’18 Q2 ’18 Q3 ’18
firms are both expected to grow only about 2% over the next
*On a scale of 0–100, with 0 being least optimistic year, with revenue increasing 4%.
Africa Optimism among finance executives in Latin America
LatinDuke
Source for all charts: America
University/CFO Magazine Global Business Out-
slipped to 56.4. Economic uncertainty is the top worry in the
look Survey of finance and corporate executives. The survey concluded region, followed by government policies, currency risk, and
Japan
September 7, and generated responses from more 600 CFOs, including 260
from North America, 65 from Asia, 128 from Europe, 352 from Latin America,
weak demand. Few Latin American companies said they have
Asia taken specific steps to attract and retain workers. CFO
and 41 from Africa.
Europe
US

iStock October 2018 | CFO 45

 FIELD
NOTES
Perspectives from CFO Research

Helping Software Succeed

The process of implementing FP&A software is as critical as the quality of
the solution, according to new research. By Chris Schmidt

CFOs understand the importance of financial planning • Do not establish and use clear metrics to measure the ef-
and analysis (FP&A) solutions that allow their finance ficiency and effectiveness of the financial software they
teams to develop budgets and forecasts quickly and accu- adopt
rately. They need confidence in their numbers and the de- • Do not use a phased approach to implementing enterprise
cisions they drive. But selecting the right FP&A software is financial software, opting instead for a single-step switch-
only half the battle. over that can dramatically elevate the level of change man-
Equally important is how that technology is implemented agement involved
across the enterprise, from training users and setting their • Do not make the end-user experience a critical factor in
expectations to ensuring that they receive continued sup- selecting and implementing new enterprise financial soft-
port after the software goes live. Absent a successful imple- ware (ignoring a key variable in the success of the imple-
mentation, a company will never realize the full value from mentation)
its investment. • Do not consider it very important to integrate their FP&A
A new survey by CFO Research, in collaboration with software not only with financial but also nonfinancial data
Vena Solutions, provider of enterprise-class software for sources, foregoing the opportunity to uncover more fully
budgeting, planning, and forecasting, found that many com- what’s driving their financial results.
panies employ a number of best practices when implement-
ing new financial software. At the same time, a significant Legacy Matters
minority do not—including, in some cases, practices that The challenges of conducting financial planning and anal-
affect far more than the success of the software implementa- ysis using legacy systems and processes are well known.
tion. Not following some of these practices can even impact Legacy systems typically require that finance personnel
a company’s ability to compete in a world where technol- manually copy and paste information from disconnected
ogy laggards operate at an increasingly wide disadvantage to data sources into numerous, disparate spreadsheets. Those
more advanced peers. spreadsheets are then shared via email with other parties
Specifically, the online survey of U.S. senior finance ex- involved in their creation. Several revisions of those spread-
ecutives found that a substantial percentage of firms: sheets occur along the way and also get shared.
While still common practice, that approach to FP&A is
highly inefficient and lends itself to human error and ver-
FIGURE 1
sion control problems. In some cases, requiring such te-
Many organizations fail to employ a number
dious work can make it difficult to attract and retain skilled
of best practices when implementing new
financial software. finance professionals.
A critical path to addressing these problems is imple-
Do not consider it very important to integrate menting an FP&A solution that can use data from many dif-
30% their FP&A software with financial and ferent sources, both financial and nonfinancial, and unify
nonfinancial data sources
them in a single database so that everyone is always work-
Do not establish and use clear metrics to ing with the same set of information. Today’s best-in-class
29% measure the efficiency and effectiveness of the FP&A systems do that by automating routine processes,
financial software they adopt
eliminating version control issues, providing robust report-
Do not use a phased approach to implementing ing and analysis tools, and allowing finance professionals
29%
enterprise financial software to spend more time on higher-value activities, like scenario
modeling. The following set of implementation best practic-
Do not make the end-user experience a critical
17% factor in selecting and implementing new es are supported by the findings.
enterprise financial software Set and Manage User Expectations. Identifying goals,
Multiple responses allowed. requirements, and success criteria upfront is critical to a suc-

46 CFO | October 2018

cessful implementation. By failing to like demonstrable success, and the
spell this out early, CFOs risk burden- sooner it comes the better. The best
ing their organizations with wrong way to deliver quick wins is to break
or poorly informed design decisions, the implementation into manageable
gaps in functionality and usability, phases, starting with a discrete pro-
and longer adoption timelines and cess, like a departmental forecast.
payback periods. They also may find In addition to phasing in the im-
they’ve damaged their own reputa- plementation, finance can build faster
tions and those of their organizations. support for the project by ensuring
In the survey, 81% of the execu- continued, controlled engagement

29%
tives polled said their organizations with both end users and the software
take the time to set clear expecta- vendor. That can be facilitated by
tions, timelines, and success criteria periodic peer reviews, design work-
with their vendors, leaving nearly shops, and team demonstrations.
Organizations that do not
one in five that do not. Identify Opportunities for
establish and use clear metrics
Engage End Users Early and Innovation. CFOs should look at
to measure the efficiency and
Often. All users of new software must implementations as a chance to im-
effectiveness of the financial
know what’s in it for them and how prove on existing finance processes
software they adopt
their job will become easier once the for which meaningful gains can be
new software has been implemented. achieved, including: maintaining cur-
They should understand how the new rent processes but with greater ef-
software and the process changes that accompany it will ben- ficiency, adoption, and reliability; retooling processes to
efit the entire organization. Employees almost always per- improve how and when people and other resources are in-
form better and adapt more easily to change when they feel volved; and completely changing or adding processes to opti-
they’re working toward a common and worthy goal. mize efficiency and the overall value provided.
In addition, the more structured this process, the bet- Establish Clear Vendor and Customer Roles. Cre-
ter the chances for success. Seventy-five percent of survey ate a governance structure that keeps stakeholders aware of
respondents said their rollouts of new enterprise financial what’s happening, and both involved in and accountable for
software were highly structured, and included demos, work- the process. Participants should include an executive spon-
shops, help lines, and peer-to-peer mentoring. sor for each side, and they should meet regularly.
Ensure Executive Leaders See Value. To ensure C- An internal project champion should promote the imple-
suite support, make sure the new system delivers reports mentation’s progress using well-formatted and compelling
that meet executives’ expectations. Senior finance managers internal updates. Even small wins should be celebrated.
need to understand the full value of the new software, in- Ensure Integration with Systems. Today’s best FP&A
cluding how it will help them play a more effective leader- solutions connect with ERP and other information systems
ship role by providing faster, more accurate budgets, fore- containing operational and company-wide data. Once these
casts, and reports and drive company decisions with the ties are made, CFOs and their C-suite colleagues can use the
right, forward-looking data. software to more easily connect the dots between operating
Focus on Quick Wins. Nothing drives support for a decisions and financial results, and more accurately fore-
new software system, or its accompanying process changes, cast how results might play out under different scenarios.
Ongoing Support. Companies will want to agree with
their vendor, upfront, on support and maintenance expecta-
FIGURE 2
tions, including how long the vendor will take to respond
How do finance executives view the
to and resolve any issues. Companies also should look for
implementation of enterprise software?
a packaged service offering for the application areas they
want to automate.
As a means of automating processes to improve
36% In searching for the right offering, organizations should
efficiency
be mindful that the majority of FP&A implementations in-
As an opportunity to reengineer processes to
48% volve the same tasks, milestones, processes, training, and
deliver stronger value
documentation—i.e., the same basic implementation stages.
As an opportunity to fundamentally change the That allows for straightforward and consistent comparisons
15%
processes underpinning their business model
of the implementation timelines and pricing structures pro-
Does not add up to 100% due to rounding. posed by competing software providers. CFO

Getty Images October 2018 | CFO 47

 THE QUIZ

Noteworthy Numbers
There’s great variation in the degree to which CFOs factor
data about the general economy into decision-making. J.P.
Morgan, for its part, published an advisory, “Striking Facts
to Guide Your Corporate Finance Decisions in 2018,” from
which the answers below are drawn. How much do you
know about the economy outside your company’s walls?

1 What is the shortest time period it took the

Dow Jones Industrial Average to climb from one
1,000-point threshold to the next? (Hint: it was
4 What percentage of U.S. IPO dollars were raised
by special purpose acquisition companies
(SPACs) in 2017?
achieved in 2017.) A. 14%
A. 122 days B. 20%
B. 38 days C. 9%
C. 375 days D. 4%
D. 24 days

2 How many physical currencies have more

value in circulation than the current total
5 Over the last three years, how did the amount of
capital invested in nonpublic U.S. firms compare
with the capital raised via IPOs?
amount of cryptocurrency? A. 10% less
A. 6 B. 20% less
B. 15 C. 125% more
C. 9 D. 25% more
D. 12

3 The OECD recently reported that 100% of the

countries it tracks were experiencing economic
6 What was the dollar volume of corporate pre-
ferred equity issued by U.S. companies in 2017?
A. $12.7 billion
growth. How many years has it been since that B. $3.3 billion
was last the case?
C. $7.4 billion
A. 10
D. $10.6 billion
B. 7
C. 13
D. 5 7 What is the approximate yield spread (basis
points) between two-year and 10-year U.S.
Treasuries that has prevailed in 2018?
A. 40 bps
B. 30 bps
C. 50 bps
D. 60 bps

Answers: 1-D; 2-A; 3-A; 4-B; 5-D; 6-C; 7-C

48 CFO | October 2018 Source: J.P. Morgan | Getty Images

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