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Financial fitness: benchmark the total cost of your function
The final article in our series looks at how to save costs across your finance function and improve the value it provides. By Tim Cooper, editor, email newsletters, CIMA.
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| Peter Moller |
This was one finding from research into the cost of the finance function by APQC and IBM's Open Standards Benchmarking Collaborative. According to the study, financial managers intend to continue to outsource more transactional processes and use more shared services to achieve their aspirations.
APQC found that the total cost of the finance function as a percentage of revenue varies widely across organisations. Figure 1 shows that, on average, these percentages are significantly lower for large organisations than for small ones. Not surprisingly, this is mainly due to economies of scale.
Figure 1: total cost of the finance function as a percentage of revenue. Source: APQC
CIMA and APQC have partnered to provide you with a way to boost the performance of your finance function. Visit APQC to submit your finance and accounting data and receive a complimentary benchmarking report.
Cost structure of the finance function
APQC’s research shows that personnel costs make up 64% of the total cost of the finance function. Organisations in Europe spend less on personnel compared to their peers in the rest of world, but more on outsourcing, systems, and overhead costs in the finance function.
Figure 2: Percentage of the total finance function costs. Source: APQC
Outsourcing
Payroll and tax are the most heavily outsourced in large and small firms alike, with more than 55% and 45% of organisations outsourcing these processes respectively. Outsourcing is most widely used when the process is transactional or requires a deeper skill set and knowledge base than the organisation has internally (for example, in areas such as tax).
APQC asked respondents which processes they thought were being performed the best. It found that finance managers are less likely to think that an outsourced process is the best performer. This performance gap is most prominent in tax and payroll processes. 45% of all participants outsource their tax processes. The percentage of organisations outsourcing their tax processes is expected to rise from 45% to 70% in the next three years.
Only 28% thought that their tax process was the best performer. A similarly wide gap exists in payroll processes. Conversely, only 5% of all respondents outsource their general accounting and reporting cycle processes and 62% of them said that this is their best-performed process.
Companies tend to believe that the processes that they spend the most time on are performed the best. But most respondents attributed their perceived success in these processes to the integration and use of technology, skilled and experienced personnel, and implementation of best practices.
Shared services in finance function processes
More than 59% of the organisations participating in the study reported some use of shared services.
Most of them said that they will use more shared services over the next three years. Organisations that have employed shared services in some of their processes have consistently outperformed their peers in productivity, cost effectiveness, and efficiency measures.
The finance transformation tool kit
According to Peter Moller, partner in consulting at Deloitte, cost of finance as a percentage of sales is the most commonly used benchmarking metric. It allows you compare your organisation to others, allowing for the fact that larger organisations spend more on finance than smaller ones. He said that 10 years ago top quartile performers were spending around 2% of their total sales on finance. Today it is less than 1% and falling.
To improve this metric, Deloitte uses what it calls the Finance Transformation Toolkit – seven tools that enable finance transformation.
Eliminate
Moller said: 'Peter Drucker, the father of management gurus, once said "there’s nothing more inefficient than doing efficiently that which shouldn’t be done at all". If your finance function is sending out 50 reports every month – is that the right number? Are they all being used? Maybe 20 could be eliminated? If your expense processors are checking every single claim – do they need to? Could they use a sample and exception based approach and only check 10%? Elimination is often the simplest and most obvious cost reduction tool.’
Simplify
Processes and activities that cannot be eliminated should be simplified. Moller said: ‘Where are the bottlenecks, for example, in the closing of the books or the purchase-to-pay process? Are people doing things sequentially when they could maybe do them concurrently in half the time?’
Automate
More questions – ‘Are suppliers still calling in with queries? If so, could you have a supplier portal for online query management? If you still have paper invoices flying around why not move to e-invoicing?’ said Moller. Automation generally represents the most powerful of finance productivity tools, and new automation tools are continually being developed. Along with outsourcing and standardisation (see below) it is a theme that has run throughout this series of articles.
Standardise
According to Moller, many organisations still have multiple sites across countries or continents with different processes, charts of accounts, data formats and enterprise application platforms. This significantly impairs the quality and consistency of the information you can produce for decision making. It is also far more costly than having a single technology platform and a single way of doing things in all finance processes.
Consolidate
Consolidation, and the move to one or more shared service centres, allows you to reduce costs significantly through improved economies of scale and labour arbitrage - for example by using Eastern European and/or Indian locations.
Outsource
Moller said that some organisations do not have the scale or skills to apply best practice internally. In these cases an outsourcing relationship, which could be applied to a single process such as supplier payments or to the bulk of the entire finance function, may help to reduce costs.
Continuously improve
The preceding six tools will all help to reduce the cost of finance, often enabling significant improvements in the cost of finance metric. But every finance director should also implement a continuous improvement culture and process. This could use a framework such as six sigma, to ensure that costs are being reduced continuously as a part of ‘business as usual’.
Moller said that most organisations will have used some of these tools and will almost certainly have benefited with corresponding reductions in their overall cost of finance. He added: ‘However, in our experience, there are few who ensure that all of these tools are used as part of an overall finance transformation initiative. The ones who do have the vision and ambition to apply all the tools are the ones who lead the benchmark group and who are now pushing finance costs to just 0.5% as a percentage of overall sales.’
True cost
Brian Plowman, managing director, Develin and Partners, said functions with the lowest total cost must be doing:
- things in a different way (method)
- fewer things (internal and external demands), and
- core activities and less failure activities (doing the right things and right first time).
How might it analyse what it does in a way that brings this percentage down? What are the risks and benefits of making such changes?
Develin and Partners has run a project looking at how to improve the value for money of the finance function. This measured both the cost of processes and their output. According to Plowman, this helps to understand the nature of costs and thus helps to focus on how to reduce them in different ways.
The project identified four types of output:
- front-line - current cost, direct benefit. For example, producing invoices
- internal service - current cost, future benefit. For example, training, management and security
- sustaining - current cost, future benefit. For example, product development and research
- infrastructure - cost of being in business - no cost driver. For example, legal and auditors fees.
Plowman said: 'When looking at the costs of the finance function you have to determine the level of costs per output type first. The function is not entirely in control of its own destiny, and therefore size. The front line costs vary as a function of volumes (for example, number of invoices processed). The internal service is set by an internal demand. Sustaining is about investing in the function and infrastructure is generally an unavoidable cost.'
Core, support and diversionary
It is also important to identify the type of cost. Plowman said that core activities are essential for the business to work effectively and efficiently. These can be reduced by improving the method. Overall the business might want more core work done as there would be a clear benefit.
Support activities enable the core activities to take place (record keeping, for example). Again these can be reduced by better methods. Diversionary activities are the cost of failure - things going wrong - either in the finance function itself or dealing with mistakes in other departments. Diversionary activities and costs can be more than 30% of all costs in a function, according to Plowman. They represent a big opportunity to reduce overall costs in the function and elsewhere.
Develin and Partners’ project in a finance function of 18 people showed that the core, support and diversionary costs were 39%, 33%, 28% respectively. The diversionary cost represented 8,200 hours a year, equivalent to the work of five people. The diversionary activity cost of £140,000 a year was a useful amount to save and re-use for more core activity.
Looking at costs in this way can help people find different options to reduce and rebalance the cost of the function. The 'value' and 'service level' as measured by the internal customer can also shape the cost of the finance function.
By looking at all the above it may be possible for a company to start moving from the bottom quartile towards the top.
Contribute and you could win a £199 Red Letter Day
Insight is encouraging readers to participate in the financial fitness series by awarding a Red Letter Day worth £199 to the best contribution. To enter the competition, tell us how you would improve any of the metrics in the financial fitness series. The best entry, according to our panel of judges, will receive the prize. We have already run articles on improving your accounts closing time (November), accounts payable (October) and payroll (September). Please email your contribution – maximum 200 words - to tim.cooper@cimaglobal.com. Comments on any of the four metrics will be accepted as an entry to the competition. The best entries will be published in Insight.
Competition terms and conditions
1. Entries are limited to one per person and must be less than 200 words.
2. The prize will be one Red Letter Day voucher for £199. Click here to see what experiences this can buy. All experiences are based in the UK. If the winner is based outside the UK and cannot attend a Red Letter Day experience, they will receive an Amazon.com voucher for the same value instead.
3. The closing date for receipt of entries is 5pm GMT on 1 January 2007. Entries must be sent by email to tim.cooper@cimaglobal.com and must include your name and telephone number. Please write ‘Financial fitness contribution’ in the subject field.
4. Participants must be CIMA members.
5. Entries lost, delayed or damaged or otherwise not received by the editor will not be accepted. Proof of sending will not be proof of receipt.
6. Employees of CIMA, their agencies or anyone connected with the competition are not eligible to enter.
7. The winner will be selected by a panel of judges and will be notified by phone and email by 1 February 2007.
8. No correspondence will be entered into regarding the outcome of the competition. The decision of the judges is final.
9. The name of the winner will be published in the March 2007 edition of Insight.
10. The promoter is CIMA (UK), 26 Chapter Street, London, SW1P 4NP, United Kingdom.
December 2006
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