The future is unpredictable, the current business environment is harsh, competition is fierce. In these times of change, modern FP&A is both exciting and challenging. It is exciting because it utilises better and more sophisticated tools than previously, can embrace automation and the incredible power of online collaboration. However it is difficult because old finance management practices are still alive: they are inadequate for the modern world, but FP&A professionals continue to live from a deadline to a deadline and have no time to stop, change, re-write, and reconsider.
Analytical transformation reduces finance departments’ costs. e.g. robotics and automation, shared services, centers of excellence have already processes of many finance departments. But what about FP&A? In many cases, it still lives in the 20th century. It is a well-known fact that Excel continues to be the prevalent analytical tool used by finance professionals. The quality of data for FP&A analytics remains poor and the FP&A time wasted on the data reconciliations and cleansing. The financial analysis task thus takes on the form of “firefighting”, leaving no time to re-think and re-design the existing non-value adding processes.
Obviously, changes in the FP&A framework are driven by transformations of analytical procedures in general. For its 10th meeting, held in mid-March 2016, the London FP&A Board embarked on developing the FP&A Analytics Transformation Model.
The meeting was sponsored by Metapraxis, the consultancy, analytics for financial professionals and software provider and, by Michael Page, the specialist recruitment firm, which now provides its offices as the venue for Board meetings in central London and abroad.
20 senior finance practitioners from the UK, USA, Denmark, Switzerland, Ukraine, Germany, and Netherlands came together to brainstorm on the following questions:
- What is advanced analytics for FP&A?
- What are the stages of FP&A analytical transformation?
- How should the FP&A Analytics Maturity Model look?
What is advanced analytics for FP&A?
There are a lot of professional debates about the role and purpose of finance analytics; the marketplace is flooded with alternative definitions of different analytics types. Many advanced analytics definitions come from the IT profession, however these need to be adjusted in order to better address the finance world.
The Gartner model, shown below, presents an overview of different kinds of analytics.
It was agreed at the London FP&A Board meeting that FP&A advanced analytics start from the Insight stage and utilise predictive and prescriptive types of analytics. In other words, FP&A advanced analytics is Proactive and Forward-looking Analytics.
Traditional budgeting and planning analytical processes are still centered around Descriptive and Diagnostic Analytics: the most backward-looking and reactive processes. A good example is the traditional Variance Analysis.
FP&A advanced analytics is based on a driver-based planning and forecasting process. It is important to identify a number of key business drivers: not more than 10 or 20. If effective, the process can describe 80% of the outcomes by only focusing on 20% of the total drivers. The simplification helps to speed up the analytics based decision-making process and to increases its flexibility and agility.
How about the optimization stage of the analytics? Are FP&A departments ready for prescriptive analytics? The London FP&A Board agreed that the foresight stage of FP&A analytics is not generally present in the FP&A departments yet. Some of the board members think that it is not possible to automate complex and strategic analytical FP&A decisions: these complex analytical scenarios should be run by human beings, not machines.
However, there are some routine and repetitive tasks that could be automated in order to release valuable time for the advanced analytics.
FP&A Analytics Maturity Model
The FP&A Analytics Maturity Model, shown below, presents an overview of the three states and 5 stages of the organisational analytical transformation.
There are 3 states of FP&A Analytics Maturity: Basic, Intermediate and Leading. The stages of the maturity could be described as following:
Let us look at each stage in more details.
1. Basic Stage of Maturity
It is described by the following characteristics:
- No formal analytical processes
- No established analytical matrixes and business drivers. The financial model is in the basic or non-existent state
- No BI tool and dedicated planning system
- No business collaboration
An example of organization at this stage would be a business startup, where the processes, models, systems and measures are not yet defined.
It can also happen within a mature organization, when it decides to spin off one of its operations.
2. Developing Stage of Maturity
Characterized by the following
- Inconsistent planning and forecasting processes
- Basic analytical matrixes and drivers.
- Basic planning model and tools (most likely excel-based)
- Basic BI tool
- Minimal and inadequate planning collaboration
- Analytics is mostly descriptive and backward-looking
All organizations will pass this stage in the process of developing their FP&A framework. This is necessary step of development. The desired outcome is for an organisation to progress into the defined and advanced stages of the development process.
Sometimes, an organization can stack at this “developing” state. It happens for reasons of poor management, dysfunctional business culture and inadequate investment in analytics. Such a stall can prevent an organization from unlocking its full potential and competing in the modern world.
3. Defined Stage of Maturity
Currently, many global organisations reside at the beginning of this stage. It is characterized by the following :
- Defined Planning processes
- Defined analytical matrixes and drivers
- Defined planning model and system
- Defined, but disconnected from planning BI-type solution
- Some elements of collaborative planning is present
- There is heavy reliance on IT support
- The analytics types are descriptive (What?) and Diagnostic (Why?)
This Intermediate state of analytical transformation is characterized by relative stability: companies are able to stay in this stage for many years. The processes are stable, but not “best in class”, they are adequate for the traditional budgeting, planning and forecasting process. However, they are arguably highly inadequate for “new world” planning.
4. Advanced Stage of Maturity
Best in class modern planning processes reside at this space:
- Enterprise-Wide planning processes
- Multidimensional analytical matrixes, leading KPI’s and business drivers
- Driver based planning process and flexible planning system
- Advanced BI solution: it is partly connected with the planning process
- Collaborative planning process
- Self-service planning system and process, low reliance on IT
- Predictive analytics (What will happen?)
5. Leading Stage of Maturity
This is the ultimate goal for which organisations should aim.
- Integrated Planning Process (IPP)
- Leading Analytical matrixes and drivers.
- Integrated driver based planning process (both horizontal and vertical)
- Planning system is fully integrated with BI
- Real-time collaborative planning process
- Advanced (Proactive) analytics
Analytical transformation is an ongoing process. We will see more transformation in the future: system implementations, restructuring of processes, re-defining and simplifications of the models, automation of the routine tasks and applying proactive advanced analytics.
Currently, the majority of organizations are stuck at the defined stage with some turning to the advanced for the best in class companies. At the leading stage, all planning processes will be fully integrated, allowing for multidimensional advanced analytical process. This is where FP&A will be able to use big data analytics and fully transform organizational corporate performance management and decision making process.
The world of financial planning and analysis has observed changes of such magnitude that they cannot be described by our traditional statistical and analytical models. In this age of frequent Black Swan events, the traditional business approach to operating on an annual budget and forecast is no longer effective. In order to deliver a competitive advantage to a company, modern FP&A function needs to be flexible and dynamic, be based on sophisticated analytics, examine life-time values of the products and services and encourage business partnering. This significant change in the role of FP&A function requires big cultural shift and modern change management techniques.
Flexible and dynamic planning process
A flexible and dynamic planning process is easily adjustable for different risk and strategy scenarios. It is multidimensional, driver-based, events-driven and activity-based. It uses advanced analytics and is not limited to the accounting period. It encourages collaboration between business functions and allows both top-down and bottom-up approaches to be used in the process.
Following are popular techniques for the flexible and dynamic planning process:
- Risk-adjusted planning
- Scenario planning
- Rolling forecast
- Activity-based budgeting and planning.
The risks enterprises face can destroy or create value. Therefore, successful mitigation of risk is important for the survival of the company. In order to survive in times of extreme changes, organizations need to be very quick and flexible in analysis and planning.
Historically, risk management has been a separate process within the organization, not connected to FP&A function. Increasingly more companies are beginning to incorporate risk information into the planning, in order to evaluate and manage external and internal risk. A risk-adjusted plan is one that responds to changing circumstances, providing the financial capability to react to events in a planned and proactive manner. The time of one static scenario planning has gone forever. The identification of risk scenarios enables the organization to develop risk response plans applicable to many possible events, not just one specific scenario.
Scenario planning is an important technique for flexible and dynamic FP&A process. At the time of rapid change, the technique is used during the planning process to evaluate risks and viability of different strategic alternatives. It is also used for sensitivity analysis. The standard approach of “three scenarios” (best, average and worst) is replaced with multiple on-demand scenarios. To arrive at one summarized view, probabilistic and expected values approach could be used.
Rolling forecasts are a planning method that refers to a process of forecasting trends that may impact your business 4-8 quarters in the future. With rolling forecasts the number of periods in the forecast remains constant and visibility of the business does not stop at year-end.
For example, the idea is to do a new forecast every three months and add another three months to the end of your forecasting cycle on the rolling basis.
A rolling forecast is a better management approach since it gives management a view into the future. According to APQC, use of rolling forecasting can save a median of 25 days on an organization’s annual budgeting cycle. A rolling forecast expands planning horizons and challenges the traditional static budget. More and more companies are introducing RF into their processes, many of them use the process parallel to the traditional budgeting process. However, quite a few organizations have abandoned the old budgeting and planning process in favor of the more flexible rolling forecast.
Activity-based (flexible) budgeting
Activity-based budgeting is a very effective technique for cost management and in the time of global expense cutting this method has become very popular. However, this concept challenges the traditional view of a budget fixed for the year. In an activity-based budget, variable cost is adjusted for the activity level throughout a year and cost managers learn to adjust to the idea that their annual budget is not fixed or based on previous years’ spending. It varies with the level of activity and could be lower or higher depending on the activity level. Therefore, the budget is dynamic, not static. The concept needs to be communicated to departmental managers, and it needs to be controlled and analyzed by finance business partners before it becomes part of the business culture in the traditional budget organization.
Advanced Analytics and Driver-Based models
Oracle recently commissioned a global study investigating the level of management coherence and profit visibility in large companies. The research, undertaken by Dynamic Markets, surveyed 1,500 organizations and found that 82 percent lack a complete visibility of profits, with 40percent suffering impaired financial performance as a result. Oracle explained these figures by the fact that more than half of the study participants used spreadsheets for profitability models.
Many companies have recognized that spreadsheet-based planning methods are inefficient and have moved to specialized planning and forecasting systems. Modern FP&A should be based on a model with formulae tied to fundamental business drivers. Advanced predictive analytics in FP&A model is a source of strong competitive advantage. This is a driver-based model which invokes consistency and participative cooperation across functions in organizations.
Some basic principles of driver-based modeling:
- Concentrate on top 10-15 business drivers
- Analyze and manage the drivers
- Look at their interdependence
- Explain the variances through the drivers
- Update driver-based models on a regular basis
Harmonization of the planning processes
In addition, strategic, operating and financial plans should be harmonized through drivers and ideally reside in one system. They should allow cross-functional collaboration and use automated reports that can quickly generate scenarios and easy multidimensional capabilities. The system should also allow top-down and bottom-up approaches to be used during the planning and forecasting process.
It is extremely important to leverage both approaches in order to harmonize strategic and operational plans.
Expanding time horizons, lifetime value view
The accounting period is an artificial concept which does not show us the whole picture or lifetime value of the product/customer. Accounting treatments such as capitalizations and provisions deplete the real profitability view.
That is why the life-time value analysis technique and rolling forecasts are important methods as they expand the time horizons of the financial analysis. The rolling forecast is an important concept in breaking artificial accounting period views. Survival analysis techniques are becoming very popular in forecasting true future profitability of the business.
Participative planning is growing more important in the organizations in order to implement strategy and improve the level of analysis. An effective planning and forecasting process should involve all key staff to help everyone better understand the drivers and reduce office politics.
Participative planning process helps with the following:
- Risk identification
- Connecting strategy with the operational plan
- Improving communication and understanding business drivers
- Flexibility of the FP&A process: with top down and bottom up approaches.
Such collaborative planning can be accomplished through an iterative process that allows managers to forecast and share alternative scenarios, which are essential given today’s economic uncertainties. Finance also plays the key role in facilitating the coordination of plans across the company, which helps ensure that operational tactics are aligned with financial targets throughout the organization.
Let's take a look at some of the most messed-up, incomprehensible recent examples of quantation. Not surprisingly, all are graphs. But some come from sources that definitely should know better. With some, try to figure out what went wrong; with others, if you can figure out what the heck they’re trying to say, please let me know. Enjoy!
How much do you spend? We’ll start with a simple one, from the imgur.com website (beats me where they got it, but click here to see the original):
Do those percentages look like they match the length of the bars? And how about that strange scaling? And is that per day? Per year? What went wrong here?
I really hate to pick on a national institution like the Girl Scouts, but take a look at this graph that appeared in an article on CNN.com , about how the Girl Scouts are going online to sell cookies. We’re talking digital cookie sales here, not digital cookies:
Again, do the percentages match up to the size of the bars? What went wrong here? And how will this affect Girl Scout cookie sales?
The Hebrews do it backwards, which is absolutely frightening! (Google that whole line, if you’re under 50.) An Israeli friend, No’am Newman, sent me this, from a newpaper article about how people use the Internet:
In case you’re wondering, here’s the translation:
- Met partners on the internet – 32%
- Members of family groups in WhatsApp – 70%
- Visit a doctor after reading about their medical problem on internet – 56%
- Watch TV series and films via the internet – 63%
- Listen to music on the net – 80%
Again, do the bar sizes match the percentages? What happened here?
Yes, there’s always good old’ Fox News! No discussion of incompetently presented information would be complete without at least one pie chart. We have Fox News – OK, OK, the local Fox affiliate in Chicago – to thank for this one:
It doesn’t get much more incoherent and meaningless than this. If you want to see the reporter – uh, I mean the teleprompter reader – blithely whip through this one, click here. Again I ask: What went wrong here?
HUH??? Please, please tell me what the heck this graph trying to say, about the critically important subject of what blue-chip basketball players major in in college:
… and this is from Bloomberg BusinessWeek, for goodness sake. Warning: there will be a two-hour exam on this in tomorrow’s class, with both multiple choice and essay questions.
A breath of fresh air from a sitcom! At last – a coherent juxtaposition between bar graphs and pie charts, and surprisingly, we have Jason Segel of “How I Met Your Mother” to thank for it:
I might quibble about the repetitive use of colors, and I am not personally a fan of 3-D graph elements, but all in all I give kudos to the deep thought behind this elegant presentation. (Click here for the YouTube clip of this scene.)
Along these lines, I once again call your attention to the world’s most accurate pie chart. Click here to view it. In at least one sense, it might not be so accurate. Can you spot the problem?
On one point, there is no argument: You will be considered a great FP&A professional only if you can communicate clearly, effectively, and eloquently.
Regardless of what you’re communicating, your audience will form opinions about the content of your information – and about you personally – from what you present, how you present it, and how you behave while you’re presenting. They’ll form opinions about your intelligence, your professionalism, your grasp of the subject matter, your respect for your audience, your work ethic, your integrity, and your honesty. And those opinions are intertwined: the credibility of your content affects your credibility as a professional, and vice versa.
The fact that you’re communicating numbers doesn’t change anything – in fact, you face even more presentation choices than you do when presenting words. The most basic of those choices is whether a use a table or a graph. To make that choice intelligently, it’s critical that you answer each of these four questions, and in the following order:
- Which is the most effective way to impart your key information – a table or a graph?
- What is the best way to present the information graphically?
- What changes and additions to the graph will help your audience understand its central messages quickly and accurately? Will visual effects that “beautify” the graph help or hurt that objective?
- Is there anything about your graph that might cause your audience to question your agenda or even your honesty?
- Graphs can only make one or two points at a time. Graphs take up much more space than a well-laid-out table does to present the same number of data points, and in a less visually coherent way than a table. Don’t try to cram too much information into a single graph. Yes, a picture is worth a thousand words, but two pictures superimposed on each other won’t create something worth two thousand words – it’ll just be a jumbled mess. And dozens of little graphs, in an array that looks like the cockpit of a 747, are just as intimidating and hard to follow as a large table.
- Don’t let audience preferences drive your choice. We’ve all heard statements like, “I’m a visual person – just give me some graphs,” or “I love waterfall charts.” Yes, there are differences in cognitive abilities from one person to another, but those differences aren’t nearly as dramatic as you might think. Make presentation choices based on the most effective way to get your point across, not on what people in your audience think they want.
- There are alternatives to graphs. Graphs aren’t the only impactful way to get your point across. Key indicators – ratios that identify critical drivers, and that add meaning and context to the raw numbers – presented in a table can be just as effective. And “data visualization” can apply to tables as well: use text effects (e.g., boldface, italics, font size) and artwork (e.g., cell borders, changes to row height and column width, and Inserted Shapes) to emphasize the most important data. Or use Conditional Formatting to emphasize particularly large, small, or otherwise noteworthy numbers. And lastly, how about leaving space on your tables for some clarifying words?
The bottom line: If you’re an FP&A professional responsible for producing a regular periodic reporting package – such as monthly, quarterly, or yearly – consider using tables for the basic information that everyone is expecting. Use graphs sparingly, to make your most important points, and only when those points lend themselves to a visual presentation.
Obviously, the most important goal of almost all numbers presentations is to inform your audience. But every good FP&A professional should have another, more selfish goal: to showcase your critical thinking skills. If you keep both goals in mind, achieving each will make the other more likely.
The article was first published in prevero Blog
Framing is how situations are presented to people. How situations are presented affect the decisions that people make. Framing has a role in the work of FP&A practitioners.
FP&A practitioners can work through narrow frames. Narrow frames can appear on income statements through revenues from specific products, executive salaries, and equipment depreciation. Narrow frames can appear on balance sheets through work in process inventory, interest payable, and common stock. Narrow frames provide an opportunity for FP&A practitioners to employ a bottom-up approach to their work. Employing this approach improves the ability to be precise in areas like financial plans.
FP&A practitioners can work through broad frames. Broad frames can appear on income statements through net income. Broad frames can appear on balance sheets through total assets, total liabilities, and total equity. Broad frames provide an opportunity for FP&A practitioners to employ a top-down approach to their work. Employing this approach improves the ability to think and learn about the value proposition that businesses have.
Finance is about wealth. Wealth can be measured in a number of ways. Measuring wealth is based on framing. Narrow frames like revenues from new customers or products, the average collection period, or the average age of inventory can provide insight into the ability of businesses to create wealth. Broad frames like net income, return on assets, and return on equity also can provide insight into the ability of businesses to create wealth. The key for FP&A practitioners is to manage biases, i.e. errors in judgment, when assessing wealth. One way for FP&A practitioners to manage biases when assessing wealth is to know which method of framing, narrow or broad, is more appropriate to use under certain situations.
FP&A is called upon to stimulate thinking and learning about how organizations earn revenues, incur expenses, and generate cash flows. Thinking and learning are processes that are subject to errors. Understanding the concept of framing can help FP&A practitioners minimize the effects of errors in their work.