Recently, an operations executive expressed his frustration about the management’s inability to manage their company in these hard economic times. He complained about limited integration between Finance and Operations affecting their decision making. The CFO runs business models in Excel spreadsheets, but the models are not tied to the operations systems. The scenarios cannot be validated for being operationally realistic. Nevertheless, they set the expectations for the operations.
Without a “reality check” the decisions become surgical mandates. If the CFO demands a 10% drop in inventories, operations manager cannot evaluate its consequences on the customer service. They don’t know whether they could afford even more cuts. Or, what would be the right level of inventory for the current business environment. Such single dimensional approaches often result in unintended consequences elsewhere. More importantly, managers lose the real opportunities of making a number of smaller changes to achieve strategic business goals.
On the flip side, the value of an operational improvement is not known until the end of the quarter when financials accrue. The lack of integration hampers forward looking projections of financial KPI’s. Impact of the proposed initiative is unknown without implementation. Some initiatives succeed while others don’t. In reality the situation is even more troublesome. With many on-going initiatives it is difficult to isolate the successful ones.
On the surface it sounds like a typical silo mentality that exists in most companies. The CFO office does their model and throws a mandate over to the operations. Operational managers do not know the reason why they are being asked to do so. They have no opportunity to contribute in developing a solution to meet real objectives. It being a mandate they work busily to meet without understanding the full situation.
Fortunately, the situation is usually not this critical. The operations managers do talk to the financial managers to understand the situation. This is, however, a partial solution only. Both are talking with their respective expertise but without real facts and data. Without the integrated analytical capability neither can substantiate their proposals with any real analysis for the expected “future” environment. The product mix, volumes, and a whole lot of other variables change frequently over time. If the goal is to reduce overall cost then probably there are many options available that must be considered along with inventory reduction to make it work. Single variable approach is dangerous and often results in moving costs around the strategic business unit netting little to nothing on the bottom-line. This is a far too frequent occurrence in continuous improvement programs.
There are many who believe that such problems can never be solved with any mathematical analysis. They argue no matter the sophistication of mathematics it cannot capture the complexity of the real situation. In my humble opinion this is an uninformed position. Indeed there is no single formula or software that can solve this problem of integrating process and finance. But, it can be achieved by integrating problem solving and mathematical analysis tools in tandem. Rudimentary mathematical analysis such as OEE calculations or static capacity analyses are inadequate for the job.
Commonly used continuous improvement approaches, and even the mentality, are not sufficient for the required restructuring. It requires holistic thinking, which is different from “divide to conquer” approach of continuous improvement. It demands a systematic approach and expertise to identify the correct set of parameters to change simultaneously. You have to create many such scenarios before finding the most feasible solution with minimum risk. Detailed dynamic process, resource requirements and financials analyses with “appropriate” mathematical rigor provide the basis for comparison among scenarios. It’s an iterative process that results in a collaborative solution to meet the strategic business goals. That’s what the discipline of risk management is all about.
We have been studying this problem for over 20 years and have confronted this problem as senior managers and consultants in many different industries. Our consulting business is solely dedicated to this very single issue of connecting operations and financials to strategic business goals. We have developed a set of methods and tools called Profit Mapping focused for rapid restructuring. We invite you to learn more about them at www.menawat.com.