The Essential CFO

A Corporate Finance Playbook

Bruce P. Nolop

• Publisher: Wiley
• Year: 2012
• Print ISBN: 9781118173046
• eBook ISBN: 9781118240038
• Edition: 1
• Topic: Business
• Subtopic: Managerial Accounting
• Index: Business

Discover the power of the CFO's role in delivering shareholder value

During the past decade, the CFO role has expanded dramatically in its breadth, complexity, and criticality. Filled with proven strategies, best practices, and keen insights, The Essential CFO describes how today's CFOs are responding to their expanded roles within both public and private companies. With straightforward and pragmatic guidance, author Bruce Nolop shows how CFOs are partnering with CEOs to deliver shareholder value by articulating a strategic plan, determining capital allocations, managing the capital structure, driving financial performance, and implementing strategic transactions.

• Covers how CFOs are establishing robust accounting and risk management processes and effectively communicating with both external and internal constituencies
• Looks at the role of the CFO in transforming financial organizations to drive effectiveness and efficiencies
• Examines how CFOs can develop talent with the experience, expertise, and leadership skills to meet the challenges of the future

Written from a balanced, top-down perspective of the modern CFO, The Essential CFO provides you with practical prescriptions for executing impactful corporate finance strategies.

PART ONE

Strategy

Chapter One

Articulating a Strategic Plan

EVERY COMPANY HAS A STRATEGIC PLAN. It may not be documented or well-defined, but it can be seen in the accumulated actions of employees, management, and the board of directors.

At the other extreme, a company may have extraordinarily detailed strategic plans that are scattered throughout the various business units and geographic locations, but no clear understanding that unites everyone around core objectives.

And then there's the “Goldilocks” company that gets it just right—a plan that achieves alignment around an overarching strategic framework, with detailed strategies that are developed and implemented throughout the company. This should be the CFO's goal.

Whatever the status of a company's planning efforts, CFOs can play an important role in helping to articulate a strategic plan and analyze its effectiveness. In particular, the CFO can help answer such big picture questions as:

• Will the plan deliver the company's shareholder return objectives?
• Can it be executed successfully by the company's management team?
• Is it consistent with the company's core values and tolerance for risk?
• Does the company have the financial wherewithal to execute the plan?
• Can it be effectively communicated to shareholders, customers, employees, and other key stakeholders?

Most important, CFOs can help to articulate the plan's business objectives; strategic themes; financial objectives; acquisition strategies; and target investors.

BUSINESS OBJECTIVES

The CFO's first task is to define and confirm the business objectives that form the building blocks for creating shareholder value. This typically encompasses a systematic review of the company's historical performance, its positioning against the competition, and the strategies being emphasized by each of the company's business units and product lines.

The goal is to sift through the information—which usually is voluminous —and condense it into a top-down overview, describing the company as it is today and predicting what it will look like at the end of the planning horizon.

The business objectives should summarize the company's strategic positioning, financial characteristics, and business and geographical mix—answering basic questions that broadly describe the current and future company. Some examples of questions are provided below, but CFOs will want to determine the questions that are most relevant for their company.

Typically, these questions will have been discussed in various strategic and operational reviews and the answers will be generally well understood by the management team and board of directors. Nevertheless, the discipline of defining and confirming the consensus in a summary format can be a useful exercise, helping to ensure clarity and consistency in the objectives being pursued.

• Strategic Positioning. What is the mission or vision statement? What is the competitive positioning? What are the areas of competitive advantage? What are the critical factors for success? What are the key criteria for entering or exiting a business or product line?
• Financial Characteristics. What is the cyclicality or volatility of results? What is the capital intensity? What is the underlying growth rate? Is the profit margin likely to increase, decrease, or stay the same in the next five years?
• Business and Geographical Mix. What is the current business mix? What are the sources of growth? Which businesses will grow faster than average and which will grow more slowly? What is the projected business mix at the end of the planning period? What is the current percentage breakdown by geographical region for revenue and operating profit? Which countries will be emphasized for growth? What is the projected geographical mix?

STRATEGIC THEMES

In addition, CFOs should distill the business objectives into their thematic essence, establishing a shorthand communication for the way that the company is going to create value. A company may have one overriding strategic theme, but more likely it will focus on three or four.

Some examples are provided below, but by no means do they exhaust the possibilities—which should be tailored for each company. The key point is that it's usually helpful if the CFO can boil down the company's business strategies into a few bullet points that can be communicated succinctly and remembered easily. It's a good way to ensure that everyone's on the same page.

• Develop Superior Products: Offer products or services that are considered superior to those of competitors.

Example: Toyota

• Establish Brand Leadership: Maintain a marketing and pricing advantage through a superior brand image that translates into new markets.

Example: Coca-Cola

• Achieve Operational Excellence: Offer quality products or services through management focus on flawless execution.

Example: FedEx

• Maintain Market Leadership: Achieve and sustain a significant market share in a large and growing business.

Example: Google

• Invent New Products: Invest in research and development to produce new products that establish market leadership or develop new markets.

Example: Apple

• Develop Line Extensions: Use market research to develop line extensions in an existing product category.

Example: Colgate-Palmolive

• Expand in Emerging Markets: Market a company's products in developing countries that have superior growth potential.

Example: Caterpillar

• Lower Cost Structure: Achieve a competitive edge and higher operating margins through cost reductions and efficiencies.

Example: Walmart

• Sell More Products to Customers: Expand the breadth of products or services that are offered to the existing customer base.

Example: IBM

• Exploit Economies of Scale: Invest in major projects that require significant capital expenditures and diversification of risk.

Example: ExxonMobil

• Introduce a Better Distribution Model: Use Internet or other distribution technologies to change the industry dynamics.

Example: Amazon

• Leverage a Disruptive Technology: Expand the customer and revenue base through a new technology that is transforming a business.

Example: Netflix

• Create More Consumer Demand: Invest in marketing and advertising to generate more customers for products or services.

Example: Capital One

• Anticipate a Cyclical Upside: Position a business to reap the benefits when economic conditions improve in the future.

Example: Alcoa

• Effect a Turn Around: Take decisive actions to improve a company's financial results, often with a new CEO and management team.

Example: Ford

• Make Accretive Acquisitions: Establish a track record for executing acquisitions that enhance growth and earn superior returns.

Example: Danaher

• Consolidate an Industry: Rationalize a fragmented industry to achieve economies of scale and greater pricing power.

Example: International Paper

• Maximize Free Cash Flow: Manage a mature company to maximize free cash flow for paying dividends and repurchasing stock.

Example: Altria

• Transform the Company: Transition to a new business with better growth prospects and greater long-term profitability.

Example: Kodak

• Break up the Company: Gain greater focus and higher stock market valuations by spinning off business units.

Example: Kraft

LONG-TERM FINANCIAL MODEL

The CFO's next challenge is to translate the business objectives into long-term financial projections, converting the strategic framework into a tangible financial plan. These projections can confirm whether the business strategies will produce shareholder value and can help to formulate the company's financial objectives—including a target for delivering total shareholder return and a tentative plan for allocating capital.

Modeling Methodologies

In contrast to an annual budget, a company's long-term financial projections usually involve more top-down assumptions and a longer time period (typically three to five years). The modeling also is more oriented toward “finance” rather than “accounting” perspectives, which means that it relies more on mathematical formulas—such as historical and expected revenue growth rates and projected changes in operating margins—and focuses more on cash flow assumptions and metrics.

For example, the model usually calculates the amount of capital expenditures and working capital requirements as a percentage of revenue growth for each of the company's product lines rather than through a full bottoms-up analysis of specific investment plans.

Modeling Formats

In developing their models, CFOs can either adapt sophisticated software packages that are available from technology vendors or else develop their own in-house version from scratch. Whether purchased or home-grown, the model should encompass the following attributes:

• Sufficiently detailed to capture the key drivers of the company's performance in each of its businesses and product lines.
• Easily updated through automated calculations that are based on correlations and interdependencies that are both logical and verifiable.
• Analytically oriented to show a wide range of accounting, cash flow, and rate of return measures, including estimated stock prices and total shareholder return.

CFOs also may want the financial model to be relatively consistent with the formats used by the sell side and buy side financial analysts in the company's industry. This conformity can be especially valuable to investor communications, helping to foster congruity with investor expectations concerning the drivers of future performance and the types of returns that can be generated.

Valuation Measures

The model's output should include agreed-upon valuation measures to determine the amount and the sources of shareholder value creation over the planning horizon. The stock prices usually are estimated by performing discounted cash flow analyses or by employing valuation multiples used by industry analysts.

For example, the market values may be estimated using a multiple of earnings per share, free cash flow per share, or book value per share. Another common technique is to assume a multiple of EBITDA (earnings before interest, taxes, depreciation, and amortization) to determine the company's enterprise value and then to subtract debt less cash (net debt) in deriving the market value for its equity.

In addition, the model shou...

Table of contents

• Cover
• Series
• Title Page
• Copyright
• Dedication
• Introduction
• PART ONE: Strategy
• PART TWO: Capital Allocations
• PART THREE: Mergers and Acquisitions
• PART FOUR: Funding
• PART FIVE: Performance
• PART SIX: Accounting and Controls
• PART SEVEN: Leadership
• About the Author
• Acknowledgments
• Index