The CFO Balancing Act

Driving value while balancing the needs of customers, employees and capital providers.

In job interviews and in casual networking conversations, I am often asked to define the role of the CFO.

The role of the CFO: My perspective―s/he drives value creation while balancing the needs and wants of the key stakeholders in a business.

Value Creation: “Value Creation” is a catchphrase repeated regularly in personal investing and corporate finance circles. I am “guilty” of using this expression often―it is in my LinkedIn profile and on my resume. Recently, a former direct report of mine challenged me to fully define value creation.

Balancing Stakeholder Needs: My response was as follows: There are three major stakeholders in all organizations―customers, employees and capital providers. The primary mandate of a strategic and operational CFO/COO is maintaining the balance between these three stakeholders while increasing the total value of the organization.

Sustainable, long-term value creation is about deftly balancing the needs of all three groups, which are often at odds. Problems arise if any of these stakeholders does not receive their fair share of value (perceived or real) over a period of time (more about the time horizon toward the end of the post).

Often, problems arise when one stakeholder group benefits disproportionately at the expense of another group. This appears to be happening currently with capital providers subsidizing consumers who are using ride sharing and food delivery services. If the imbalance persists for a long period of time, one of the stakeholders may “walk away.” They may stop providing capital to the business or demand a much higher rate of return, they may no longer buy/use the product or service, or they may leave the company or demand higher compensation to stay or join. When this happens, the organization fails or goes through a painful “rebalancing process.” WeWork is going through that painful process right now, which includes large-scale layoffs, sales of business units and a material re-valuation of the business. The entire print media business has faced this challenge over the past 20 years. Customer expectations around price and value changed dramatically with the entry of new competitors capitalizing on new technology. They have struggled to adapt after decades of practically “printing” money as local monopolies, with many organizations going out of business or shrinking down to shells of their former selves.

The major challenge in balancing the needs of these stakeholders is that each of these three parties defines value differently.

Customers: In some situations there are two distinct customers―the buyer paying for the product (whether parent in a family unit, department head in a business or advertiser in a free-to-end-user product) and the actual end user of the product.

Value accrues to buyers and users of the product/service when they receive benefits that exceed the price they have paid by a reasonable amount. The value captured by the buyer is the difference between the benefits from the new product/service quantified in dollar value less the price paid. Marketing and sales, well executed, help buyers understand the benefits and place a concrete value on each benefit.

Benefits are realized when the consumers’ problems are solved better than they had been before (faster and/or with fewer errors), the quality of product/service is high (more needs are satisfied, needs satisfied at a higher level than before or satisfied with less “rework”), the product is easy to use and integrate into their lives/work (time savings compared with the prior solution), and the interactions with the seller are enjoyable. Price paid includes both hard costs (actual monetary payment) and soft costs (time to learn how to use the new service/product fully, changes to workflow, etc.).

Companies that regularly measure customer satisfaction or NPS (net promoter score) and work to improve them will be well positioned to deliver value to their customers over time.

Employees: Employees define value as the sum of: (a) their total compensation―base salary, bonuses/commissions and option grant value; (b) their benefits―healthcare, 401(k), commuter subsidy, gym benefit, food in the office,etc.; plus, (c) other soft benefits offered by the company. The first two elements of the employee value equation are fairly easy to measure in dollars. Thus, companies collect data from the market so they can compete on these two elements. The soft benefits are harder to measure and quantify. They are also experiential, meaning the employee receives this value over time.

What exactly are these additional soft benefits that employees value and seek? I define them as the combination of autonomy, mastery and purpose.

Autonomy is based on trust and empowerment granted from a manager who believes in the employees to get the job done well and offers them challenges that may exceed what they have demonstrated competence to date. Managers seeking to offer autonomy will allow employees to get the tasks assigned to them in the manner they see fit (process defined mostly by the employee) and in the hours that suit them best (from home, after regular business hours, etc.) while still meeting business needs.

Mastery is the growth gained from learning and development. The manager and company invest in the long-term success of the employees―helping them get better at their current role and for future roles (even those roles employees will hold after leaving the current company).

Purpose comes from employees finding alignment between their values and the organization’s mission, coupled with knowing how their work contributes to the satisfaction of customers, the success of their peers and the increased likelihood of attractive financial returns to all capital providers.

Successful organizations offer these soft benefits to their employees and are able to use the soft benefits to attract and retain talent in a competitive market.

Capital Providers: Capital provider encompass equity investors and debt providers in a for-profit business, and donors/lenders in a non-profit organization. Lenders in any business define value as getting their principal back with the agreed interest at the negotiated time. Donors to a non-profit see value when their contributions are put to work in an efficient manner to serve their cause of choice. For equity investors in for-profit businesses, value creation means cash distributions to them that exceed their investment plus their risk-adjusted return hurdle. Cash distributions can come from both distributing free cash flow (dividends) after investing in continued growth and from selling (some or all) of the equity in the business (in an IPO or M&A transaction).

Time Horizon: How to best to achieve this elusive balance? My experience suggests the following. Focus on satisfying customers and users in the short term (minutes or hours and at most days). When hiring and onboarding employees, be clear that reaching their goals will take time (many months at a minimum and likely a couple of years). Select capital providers to fund your organization who are comfortable with being your partners for many years. They should see value over a longer horizon than customers or employees — at least three years and likely five to seven years.

How To Get There: Balancing all this sounds like a tall order. And it is. It has been getting harder over recent decades as more disruptive companies are launched capitalizing on rapid technological change, offering challenges to incumbent businesses. As a result, the average life of organizations is shrinking. Public companies had lives of well over 50 years on average in the middle of the last century. That number had shrunk to about 15 years as of 2015.

In my experience, there is no silver bullet. If put on the spot, I would encourage business leaders to take a longer-term view, which ought to lead them to more “conservative” decisions―scaling a little less quickly, hiring a little more slowly and taking on a little less capital―to reduce the pressure a little on how best to balance the needs of customers, employees and capital providers. Just remember there are three stakeholder groups. Don’t let the needs or voice of any one group become much more important than the other two groups.