This article was first published in the January 2012 International edition of Accounting and Business magazine.
2012 was dominated by a combination of regulatory confusion, particularly as it relates to the adoption of International Financial Reporting Standards (IFRS) in the US, the political and fiscal instability in the US and EU, and concerns over currency fluctuations and inflationary pressures in emerging economies. US-based finance executives particularly were struggling for clarity around proposed changes in accounting, reporting and audit standards, while many of their colleagues in countries like India faced wholesale changes in their corporate governance and operating environments. Added to the impacts of uncertainty in the regulatory and political environments were the effects of the related market volatility around the world that underscored the importance of risk management. This topped the agenda for many CFOs in 2012, meaning more stress-testing of alternative risk scenarios, more reliance on models and more oversight. Ultimately, 2012 saw closer ties between senior finance executives and risk than we’ve seen in recent years, promising a clear expansion of their domains going forward.
So what’s keeping our senior finance executives up at night in 2013? Against a backdrop of good news surrounding steady global economic growth, a slowly recovering US housing market, and increases in consumer spending, industrial production and export growth in the US, eurozone woes continue to be the number one source of pessimism for companies with exposure in the region.
Running a close second is whether newly re-elected US president Barack Obama can keep the US from falling off the fiscal cliff at the end of 2012, or at least buy more time to get Congress on board with much-needed policy to stave off an impending economic catastrophe in 2013 (see also feature on page 23). If not, the resulting forecast is that the US will be thrown back into recession early in the year, potentially reducing GDP growth to zero for 2013 and pushing unemployment beyond 9%.
Strategies for uncertain times
International companies with specific exposure to the EU and US are adopting a variety of practices to hedge against the mostly political and therefore highly unpredictable risks on the horizon for 2013, while others are maintaining business-as-usual strategies with a view to the longer run.
Clearwater Foods, for example, is a North American-based seafood company with a large international fishing fleet and processing plants. With 38% of its annual sales coming from the EU, the company is redoubling its efforts to minimise its exposure to a potential downturn in sales, should the economic climate worsen in the region.
First, risks associated with foreign exchange are partially mitigated by strategies to diversify sales internationally, which will reduce the impact of any country-specific economic risks on its business. Tyrone Cotie, finance director at Clearwater, says: ‘What diversification meant to us over the last year, and into the next five years, is to move more into China. We’ve seen some big growth last year and this year in our Chinese sales.
Over the next five years I expect we’ll also be tipping our toe into India.’
Secondly, Clearwater is executing on pricing strategies by limiting the majority of sales to short-term contracts, typically less than six months, that provide a margin for exchange rate fluctuations.
Finally, inter alia, in terms of ensuring their customers are liquid, Clearwater regularly monitors credit availability in the EU, insures receivables or obtains cash advances on sales.
For other companies, the nature of their products helps to act as a natural insulator against a dramatic downturn in either the EU or the US in 2013. TCT, with two main subsidiaries in the UK and US and roughly US$180m in revenues annually, is the world’s largest licensed repair and overhaul facility for the industrial gas turbine engines manufactured by Rolls-Royce and GE that are used in the power generation and oil/gas transmission markets around the globe.
As Aberdeen native Bev Stewart, CFO of TCT, explains, the company is somewhat recession proof. ‘We’re fortunate that we’re in a high-demand industry, regardless of what’s happening in the global economy,’ she says. ‘People still need power and our clients still need their engines maintained and repaired in order to generate that power.’ However, the company shifted its focus, says Stewart. ‘For example, we’re spending a lot of time opening up new markets in places like Africa, China and the Middle East. Not often the best in terms of political stability and commercial stability, but when some of our traditional markets are affected, we have to look elsewhere.’
Meanwhile, TCT has instituted a staged payment programme in order to minimise default risk. ‘When these engines come in to be fixed, they’re usually here for between two weeks and three months and we’ll be getting probably 80% of that paid before the engine even leaves the shop,’ says Stewart. Since the downturn in the EU, it’s been much easier to ask for staged payments. ‘Ten years ago staged payments in this industry were unheard of; now it’s almost standard.’
For other companies, such as Ely Lilly, a global pharmaceutical company with manufacturing plants in 13 countries and research facilities in 55, the state of the global economy in 2013 will have little impact on the way they do business. As Arnold Hanish, vice president and chief accounting officer at Ely Lilly, explains: ‘The nature of the pharmaceutical business model is that we go through cycles as far as product launches are concerned. It’s the new products that come out of our pipeline and approvals that drive business, and right now we’re going through some cycles in certain countries where we’ve lost patent protection on major products.’ So in terms of what’s driving growth in this business, he says, it has a lot less to do with overall economic conditions within a certain region, but more to do with when the next wave of products is going to be approved. ‘For example, in 2013, we’ll continue focusing on expanding in countries like China and Japan primarily because we don’t have a lot of products coming off patent in those markets in the near term. We consider those countries countercyclical. We’ll also focus on expanding in other Asian countries and further into Brazil.’
Meanwhile, the company will continue to evaluate global outsourcing opportunities and, at the same time, continue to migrate to a shared service environment for backlogs – particularly of financial activities – which has meant setting up shared service centres internationally in Kuala Lumpur, Mexico City and US cities.
Says Hanish: ‘We’ve done a lot to create efficiencies in our administrative processes and anything that can reduce costs also minimises your overall risk profile.
For example, we’ve transferred a significant amount of back-office accounting activity and transactional processing and outsourced some very basic transactional routine activities to companies in Eastern Europe and in India, and this will carry on into 2013. So in terms of what’s driving our strategy into the next year and the year after that, we continuously re-evaluate what’s best for the business, regardless of the economic environment. As a result, it’s lowered our costs, created efficiencies and better controls, and enabled us to migrate to one SAP platform globally.’
Expanding domain of the CFO
In terms of what will impact the finance function and its CFO most in 2013 and beyond, ACCA and the US-based Institute of Management Accountants (IMA) have recently published a report which outlines the nine top issues.
CFOs have an increasing stake in, and accountability for regulatory adherence and compliance.
Global experience on the CV will be a baseline expectation. Global leadership will be the cornerstone of the future CFO’s role.
A key challenge for CFOs is that data systems and their hierarchies often do not reflect business structures or reporting needs. At the same time, the business continues to change, which means that technology plays catch-up and finance spends significant time reworking data in spreadsheets. Predictive analytics, forecasting future performance based on past performance, will be a key enabler for CFOs and their finance operations.
There will be greater scrutiny of the effectiveness of risk management processes and much higher expectations on the adequacy of longer-term financial results.
Tomorrow’s CFO will need to ensure that finance is a catalyst for change across the whole of the business, driving outcomes that affect long-term business performance, and not just short-term cost finance outcomes or cost reductions.
CFOs will increasingly need to be good at dealing with the media and at brokering the external relationships that matter for the face of the business. In many senses they will be the face of the corporate brand.
Too often the financials and budgeting process remain disconnected or detached from the realities of the business. CFOs will need to drive change programmes that integrate and attune the finance processes of the organisation to business strategy more effectively.
Reporting on the social and environmental dimensions of performance, as part of a broader move towards integrated reporting, requires the design and implementation of new reporting systems and more intangible non-financial measures.
Developing talent through a global finance function across geographic, language and cultural differences will be a priority for future finance leaders as they seek to develop and retain the capabilities that will be needed in tomorrow’s finance function. The rise of virtual teams will make people development strategies more complex.
Ramona Dzinkowski is an economist and business journalist