Business Analytics for the CFO Function

How do business analytics apply to the CFO’s finance and accounting function? It is increasingly apparent that corporate accounting is evolving from its traditional role of collecting and validating data and subsequently reporting information to a more value-adding role of providing and supporting analysis for decision making. To be clear, the message here is not about accountants simply getting better with traditional financial analysis methods like cost-volume-profit (CPV) breakeven graphs and expense-to-sales ratios. The message here is about how accountants can use “deep analytics” to discover relationships to discern knowledge not previously made visible – to provide information to line managers for better decisions.

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Accountants’ progress with analytics has been notable. With the recent explosion of available digital data, accountants are certainly getting better at measuring and reporting more. But are the measures and reports the most relevant ones? Do they answer critical questions to drive growth and profits? The upside potential to applying analytics with the accountants’ financial planning and analysis (FP&A) role is substantial.

As the CFO’s scope of responsibility broadens with more oversight and as CFOs become that “strategic advisor” so often written about, they now have the opportunity to become catalysts for introducing innovation and change. This can include leading transformational projects that increase efficiencies, lower costs, increase revenues, and better execute strategies. Accountants traditionally have been reactive to historical information. Business analytics enables them to help their organization be more proactive.

The trend clearly is toward increased use of business analytics and enterprise performance improvement (EPM) methods within the finance function. An example described in this IIA Research Brief is a shift beyond just reporting profitability by product and service line toward providing a more encompassing view of channel and customer profitability reporting using activity-based costing (ABC) principles. With this type of reporting business analytics can take decisions to a higher level by providing insights as to what factors differentiate higher from lower profit levels from a supplier’s customers other than just the customer’s sales volume with the supplier.

Measuring and Analyzing Customer Profitability

The only value a company will ever create for its shareholders and owners is the value that comes from its customers – current ones and new ones acquired in the future. To remain competitive, companies must determine how to keep customers longer, grow them into bigger customers, make them more profitable, serve them more efficiently, and acquire more profitable customers similar to existing customers who are already very profitable to the supplier.

But there’s a problem with pursing these ideals. Customers increasingly view suppliers’ products and standard service lines as commodities. This means that suppliers must shift their actions toward differentiating their services, offers, price discounts, and deals to different types of existing customers to retain and grow them. Further, they should concentrate their marketing and sales efforts on acquiring new and relatively more profitable customers.

As companies shift from a product-centric focus to a customer-centric focus, a myth that almost all current customers are profitable needs to be replaced with the truth. Some high-demanding customers may indeed be unprofitable! Unfortunately, many companies’ management accounting systems are not able to report customer profitability information to support analysis for how to rationalize which types of customers to retain, grow, or win back and which types of new customers to acquire. With this shift in attention from products to customers, managers are increasingly seeking granular nonproduct-associated costs to serve customer-related information as well as information about intangibles, such as customer loyalty and social media messaging about their company and its competitors.

To summarize, today in many companies there is a wide gap between what the CFO’s function reports and what the marketing and sales function needs. That gap needs to be closed.

Here’s the basic problem. With accounting’s traditional product gross profit margin reporting, managers cannot see the more important and relevant “bottom half” of the total income statement picture – all the profit margin layers that exist and should be reported from customer-related expenses such as distribution channel, selling, customer service, credit, and marketing expenses.

The marketing and sales functions already intuitively suspect that there are highly profitable and highly unprofitable customers, but management accountants have been slow to reform their measurement and reporting practices and systems to support marketing and sales by providing the evidence with fact-based information. To complicate matters, the compensation incentives for a sales force (e.g., commissions) typically are based exclusively on revenues. Companies need to not just increase market share and grow sales but to grow profitable sales. Compensation incentives should be a blend of both customer sales volume and profits. But to accomplish this customer profits to the supplier need to be calculated.

Who are the troublesome or high-maintenance customers, and how much do they drag down a supplier’s profit margins? More important, after this question is answered, what corrective actions should managers and employees take to increase the profit from a customer? Business analytics are essential to answering these questions.

Good versus Bad Customers

Some customers purchase a mix of mainly low-profit margin products. After adding the nonproduct-related costs to serve for those customers, apart from the costs of the mix of products and standard service lines they purchase, these customers may be unprofitable to a supplier. But conversely customers who purchase a mix of relatively high profit margin products may demand so much in extra or special services that they also could potentially be unprofitable. How does a company measure customer profitability properly? In extreme cases, how might it conclude to deselect or “fire” a customer that shows no promise of ever being profitable?

Every supplier has what can be referred to as good and bad customers. Low-maintenance “good” customers place standard orders with no fuss, whereas high-maintenance “bad” customers always demand nonstandard offers and services, such as special delivery requirements. For example, the latter constantly returns goods, shifts delivery schedules, or contacts the supplier’s help desk. In contrast, the former just purchases a company’s products or service lines and is rarely bothersome to the supplier. The extra expenses for high-maintenance customers add up. What can be done? After the level of profitability for all customers is measured, they all can be migrated toward higher profits using deeper analysis and better decisions and actions.

These observations have been around for decades. Back in 1922, William B. Castenholtz wrote in “The Application of Selling and Administrative Expense to Product” in the National Association of Cost Accountants (NACA) Yearbook:

“Very often, although a cost system may be nearly perfect and all possible factory economies may have been effected, a manufacturer may nevertheless show losses due to inadequate control over his selling and administrative expenses. In fact, unless the same (costing) principles are applied in controlling selling and administrative costs (as for production), the entire advantage gained through efficient low-cost production may be lost.”

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