The coronavirus has upended CFOs' financial planning and analysis “like a major earthquake,” the Institute of Management Accountants (IMA) says, making swathes of data irrelevant and exposing weaknesses in scenario planning.
CFOs are finding it especially hard to predict future revenue and cash flow, IMA found in a survey of 245 financial executives. Airline, hotel, restaurant and other companies in close contact with customers can’t rely on past data.
Even companies that have boomed during the pandemic by providing technology, delivery services, media streaming and home improvement face difficulty predicting and meeting demand, IMA said in a report. While cash forecasting, cost management and scenario modeling have become top priorities in financial planning and analysis (FP&A), monthly close and business partnering have moved down a peg.
“COVID-19 changed the future direction for most companies and so FP&A — and especially forecasting the future — became much more important,” IMA Research Director Kip Krumwiede said in an interview. “A lot of companies were either shutting down or just really slowing down so, all of a sudden, cash forecasting became critical — you couldn’t rely on the same cash cycle as you could before.”
CFOs reconstructing FP&A for post-pandemic business confront a paradox: The coronavirus underscored the value of preparing for crises while also destroying the reliability of some historical data deemed essential for planning.
“There’s a decrease in the importance of historical data that a company has been using and a higher demand for new types of data that often comes externally,” Krumwiede said.
CFOs can rebuild predictive analytics and FP&A better than before, he said, by following some best practices:
Predictive analytics uses data, statistical algorithms and machine learning techniques to measure the likelihood of future outcomes.
Yet CFOs don’t need to jump ahead to a high level of complexity, Krumwiede said. They can use statistical shortcuts such as Bayesian inference and the “Rule of Five” to reduce uncertainty and risks.
Such methods, while not using a huge amount of data, can yield insights that help a CFO ensure her company has enough capacity to meet demand, identify market opportunities and avoid over-investing in staff, equipment and other assets, IMA said.
Identify your company’s leading indicators
“You shouldn’t start with the data,” Krumwiede said. Instead, “you’ve got to think, ‘what are the success factors that we have to do well on, that we need to track and watch?’ — then find the data that best represents that.”
While sales and some other traditional benchmarks are still essential, CFOs should begin mining data that may seem foreign or irrelevant, Krumwiede said.
For example, some CFOs pore over trends in credit card transactions, the measurement of carbon footprints, Twitter and Facebook statistics, and Google Trends index data gauging the frequency of various words or search queries, IMA said.
Vaccination rates can signal the willingness of consumers to end lockdowns and likely demand for Uber and Lyft. In turn, rideshare volumes can help in predicting demand for restaurant dining, airline travel and entertainment, IMA said.
“Even though there’s infinite amounts of data, there’s usually only two or three really critical factors that determine whether you’re successful,” Krumwiede said. “Identify those, and make them the basis for your model.”
CFOs should first weave the handful of critical factors into Excel as a pilot model, he said, noting the challenge of updating large, complex spreadsheets.
“If you can’t set it up and make it work in Excel, it’s not going to work in more expensive software,” Krumwiede said. “Once you get a working model, then you can find the software you need” and automate the data.
“COVID-19 made it clear we have to be able to put all our various estimates and assumptions and models into something that’s easy to revise and doesn’t take a lot of manual updating,” he said.
Think scenario management
The pandemic underscored CFOs' need to better prepare for crises such as widespread social unrest, electric failures and cyber attacks.
CFOs should determine the probability of various catastrophes, rather than just the possibility, Krumwiede said.
“Traditional risk management identified risks, but it did not do anything about assigning the probability of those risks in most cases,” he said. For example, an FP&A team may determine that a company, within the next five years, faces a 30% chance of becoming the target of a cyberattack that would cost it $500 million.
“All of a sudden you’re thinking more positively about investing in software and controls that will prevent cyber threats,” Krumwiede said.
Know your company
Financial executives should ensure FP&A is well-grounded by knowing their company's front-line challenges and broad strategy.
“Unfortunately, FPA is more a budgeting cost that’s often separate from strategic planning and strategy and is treated as a necessary evil,” Krumwiede said. Company accountants often crunch numbers provided by various departments without fully understanding what the numbers represent and recognizing loud signals from changes in the data.
“If you're able to determine the business reason why something isn’t happening as planned, then you’re more likely to be able to predict what is going to happen next and improve your forecasting,” he said. “So we strongly urge all financial professionals to really understand their business and talk much more with colleagues in the other functional areas and even customers.”