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An introduction to corporate performance management . By Mike Sharratt (ALG)

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19th Jun 2006
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With more stringent reporting financial requirements emerging in the US, ALG Software's CEO Mike Sharratt argues that accountants need to grasp the importance of corporate performance management. In the first of two articles, he sets out the basic ingredients of a CPM system and explains what they can do.

The dynamic nature of the commercial world places enormous demands on those who operate within it. Furthermore, as commercial and political worlds continue to accelerate, organisations are looking for better ways to monitor and control themselves. Financial directors are under increasing pressure to steer their business on a steady, accurate course and deliver realistic earning projections.

Recent tightening of reporting procedures by the Securities and Exchange Commission (SEC) and the Sarbanes-Oxley Act's disclosure policy enforces the need for organisations to recognise the impact that financial and operational changes have on an organisation's future performance immediately.

In order to comply with section 409 of the Sarbanes-Oxley Act, US-based organisations and any organisations listed in North America are required to disclose material changes immediately, together with some quantitative and qualitative guidance on how they anticipate their financial performance will be impacted. For example, if the sales of a company's major new product group fail to reach their initial projections or its largest customer announces it is taking its business elsewhere.

Although these potential scenarios may not impact a company's financial performance immediately, in order to comply with section 409, the organisation is obliged to disclose the event and its financial impact almost immediately. Fourteen days is the time period that is currently being discussed.

Faced with such a situation, organisations deploying traditional budgeting applications do not have systems in place that analyse the impact of such an event so quickly and are unable to provide a reliable estimate of future earnings. As a result, these organisations issue a string of increasingly pessimistic earning warnings that cause their stock price to dive, destroying shareholder confidence.

The fundamental problem facing organisations is that the traditional and most widely used tool for setting targets and future performance expectations is the annual budget. Typically focused around a single year budget, this tool contains high-level revenue projections and costs by line item and cost centre. Although the purpose of budgeting is to align the resources of an organisation with its strategy, this process is still dominated by finance, too focused on costs and control and in these increasingly turbulent times, increasingly ineffective.

To align the resources of an organisation with its strategy, financial directors need greater and more rapid visibility of their current business performance and potential future earnings so they can be more agile and quicker at realigning resources to changing demands. The new concept of corporate performance management (CPM) addresses these problems. But what is CPM all about?

CPM is an umbrella term that describes the processes, methodologies and metrics used to monitor and manage the business performance of the enterprise. This incorporates:

  • Processes used to manage corporate performance, such as strategy formulation, budgeting and forecasting
  • Methodologies that drive some of the processes, including the balanced scorecard (BSC), activity based costing (ABC) and value-based management
  • Metrics used to measure performance against strategic and operational performance goals.

    Looking beyond traditional financial metrics for a deeper and more accurate understanding of how an organisation is performing, CPM has become a key focus of attention within the financial software industry. However, as with all new approaches, it is important to examine and appreciate the benefits that are to be gained.

    Any enterprise considering CPM should start by understanding and defining the processes that drive CPM and then identifying how these processes will be deployed. This helps to build a cross-functional vision for CPM and avoid disparate, disconnected initiatives in functional "silos." As we shall see, connection and integration are essential to a successful approach to CPM.

    A true understanding of cost, or the amount of resource an activity requires to produce an output, is also vitally important. However, understanding costs must reflect the way in which managers explore and manipulate the information they use on a daily basis, rather than just analysing historical figures.

    Departmental line managers typically focus on a handful of key performance indicators that drive their costs. For instance, the manager of a call centre will model the projected number of inbound and outbound calls, call duration and the availability and utilisation of their staff, as these are the key drivers of their costs.

    The same thing happens when line managers prepare their budgets. Existing planning and budgeting software solutions lack a methodology for including operational factors. This results in finance directors having a narrow view of what is actually driving cost in the enterprise.

    Therefore, to predict and achieve profits, planning and budgeting applications need to span both the financial and non-financial (or operational) information that drives expenses and revenues within the organisation.

    Thus the benefits of a CPM approach start to become clear. Creating a complete picture of both financial and non-financial information by integrating cost and profitability analytics alongside planning and budgeting, allows an organisation to identify its most profitable customers, regions and channels and to understand exactly what drives that profitability. At the same time, CPM will uncover hidden costs in individual business processes, allowing the organisation to focus on areas that may need to be improved. Ultimately, integrated CPM applications allow the financial director to drive higher profit levels.

    CPM is already gaining credence as a mechanism for improving business performance and it is clear that the effective deployment of CPM will enable enterprises to be more competitive. Gartner Group, for example, states that although less than 10% of Global 2000 enterprises will have implemented CPM solutions by the end of this year, this will increase to 40% by 2005. Gartner Group also predicts that those organisations deploying CPM solutions will outperform their industry peers.

    There are important factors to take into consideration when selecting a CPM solution as many current solutions being marketed for CPM are only partially complete ' different companies provide different pieces of the puzzle but may well lack the complete picture. In part two of the CPM series, Mike Sherratt discusses how to achieve effective CPM, how to use CPM to understand how the enterprise is performing and the importance of integration within CPM.

    About the author
    Mike Sherratt is Chief Executive Officer of ALG Software, a specialist in enterprise process optimisation solutions, which provide a technological link between a company's decision-making and business processes. For more information, visit ALG's website.

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