Grey Matter

Thought-leading business strategy
from a financial perspective

Learn what Rodney Davis has to say

Grey Matter is our financial thought leadership for enterprises and business owners. In our interview series, practice lead, Rodney Davis provides valuable insights into issues facing companies and organizations today through his CONVERSATIONS.

A CONVERSATION
About Employee Compensation

Rodney Davis provides his expert insights to help business leaders. In this conversation, he talks about how finance can help assess employee compensation as well as measuring staff performance and bonuses.

TRANSCRIPT

In an interview series, Rodney Davis helps to provide organizations with a blueprint for success, addressing common business problems with a strategic approach that always begins with his signature CONVERSATION.

Q: How do you determine if an employee is worth what you’re paying them?

Rodney Davis: That can be a subjective conversation point, but it doesn’t have to be. The job of a good finance person is to isolate the cost components and understand how they affect the bottom line. Only after that can you layer on the more human, subjective side.

That can be a subjective conversation point, but it doesn’t have to be. The job of a good finance person is to isolate the cost components and understand how they affect the bottom line. Only after that can you layer on the more human, subjective side.

Q: How can you compare employees with the same job description? How do you financially measure performance?
Rodney Davis:

If I’m making jam, there’s a role for the oil, there’s a role for the fruit, there’s a role for the sugar. It’s the same principle. If I’m dealing with people, there’s a role for the salesperson, there’s a role for the marketing person and there’s a role for the finance person. The measurements for each of those people are associated with the inputs and outputs that we derive from each of those people. So in the case of a salesperson.

You assess the controllable and the uncontrollable outputs that come out of them doing their job and then form a set of metrics. Sales is a good one because you can measure how many leads they get, how many people they convert, how long it takes them to convert, what’s their average sale value, and so on. In the case of marketing, how much money did you give them to spend? How did that translate into dollars earned? In the case of manufacturing, how many units came down the line and how many of those units came out defective? So, you have different measurements for different job functions, and the job of finance in that conversation is to identify the inputs and outputs and the controllable vs uncontrollable and assess that individual against it.


Q: How can the finance guy help the senior management team have a conversation about staffing?

Rodney Davis:The baseline of every good budget has two components that are typically broken out from the rest. One is revenue and cost of goods sold associated with that revenue, and the other is staffing. In any good budget, staffing is a completely separate component, broken down to the individual number of positions in each of the different functions and all of the associated costs with each of those positions. So, when finance is having that conversation at the senior management level, they typically speak in terms of the staffing costs of the various functions and how those translate as a percentage of organization, in terms of cost or revenue. And of course they’ll provide metrics against those same functions in other organizations, so that you’re having a real conversation about the effectiveness of that team in carrying out their job. It’s often quite easy to get metrics that you can compare them to.


Q: What’s your point of view about sharing financial performance with employees of the company?

Rodney Davis:I believe that at a high level, sharing financial information with the organization can be a good thing, depending on your objective. Sharing it as a means of demonstrating to the team their effectiveness in achieving the company’s overall objectives, is usually not a bad thing. But I’m not sure it’s particularly useful to share it for sharing’s sake. If you don’t underpin it with KPIs, it’s not a useful conversation.. In all the reporting I do for companies, if you don’t bring ‘cause and effect’ to the conversation, your conversation ends up incomplete. So if you tell your employees how profitable the business is without telling them what drove that profitability and what could cause that profitability to disappear is not going to give them the right perspective.


Q: How much information about the financial health of the company should we be sharing with our employees?

Rodney Davis:I think it’s a situational call. There are varying degrees of information we should be sharing with varying levels of employees within the organization. I say that cautiously because if you’re unable to have a complete conversation and provide context, then sharing that information could be harmful. I have a rule in business that I followed for 25 years: Anybody in my organization that makes hiring decisions has a responsibility to see the results. Because if they’re making decisions that affect the results of the organization, they should see the results of the decisions that they make so that they can be held accountable. I’ve seen many organizations where the person making the decision isn’t even aware of the ultimate outcome of the decision they had made. That is a real error in an organization when dealing with senior managers. Senior managers must be accountable for the decisions that they make and the KPIs they choose to measure will enable them to see the associated costs or benefits of the decisions made.


Q: When an organization is doing well, how do you determine a bonus? What metrics should be put in place to help entrepreneurs determine bonuses?

Rodney Davis:I tell every one of my clients, if you can’t calculate the bonus or total compensation independent of your judgment, then there’s something wrong with your compensation plan. Interestingly enough, it’s fairly easy to ascertain what the right bonus levels are within your company or industry. They should be tied to the target compensation for that position.

Rodney Davis:Typically a company will say, “I want X percent of their compensation to be fixed and Y percent to be variable, and that variable compensation is achieved if they hit their target performance metrics.” For example, let’s say we’re talking about an executive. I think the target compensation and the competitive environment for an executive of that level is $100K and I want their compensation to be 80% fixed and 20% variable, because that’s consistent with the industry. I might say we’re going to give them a base salary of $80K, with a bonus objective of 25% as a target, and really drive home how important it is that they perform. We have an upside that’s tied to overperformance or we have a ratchet that’s tied to underperformance. Some companies will make that all-or-nothing, which I don’t think is the right move, because if you’re 80% into the year and you know you’re not going to get your bonus no matter what, you may take your foot off the gas. If you know that there’s something at stake, you’ll keep driving all the way to the finish line. So target earnings is one way you do it. The other way is this: you might say that the company has a return requirement of X, so we want a return on equity or return on revenue of X. If management does their job and they make that return, then the pre-bonus is higher, because they’ve either done cost savings or they’ve blown through on the revenue numbers. Then they might say, “We’re going to give management a share of everything above that target return on revenue.” In that case, you know that sky’s the limit. So, you might say, “If our return on revenue target is 13% and they’ve achieved 17% pre bonus, we might give them 50% of that, and 4% of that return,” which could in some cases be significant.

I’m very specific and very clear with senior management that there must be a predictability to compensation. And that has to be something that an executive can actually calculate. If your executives have that ability, invariably you’re going to find that they’re going to perform better, because they know the rules, they know where the goalposts are, and therefore they can shoot for the stars where they can determine how much effort they’re going to make to get there.

A CONVERSATION
On Staying Ahead of The Competition

Rodney Davis advises companies on staying ahead of the competition and understanding why pricing strategies aren’t the only solution. Check it out.

TRANSCRIPT

The CONVERSATION – On Staying Ahead of the Competition?

They’re definitely are ways that you can stay ahead of the competition, and again, data, data, data.
There are several ways we’ve approached this, and different scenarios require different approaches. The first entry point for that discussion is understanding what drives profitability for that organization, and in driving profitability for an organization, I always break them down into what drives revenue and what part of the cost structure is fixed versus variable when you get a dollar of revenue. And then understanding how much revenue do I have to drive to cover the fixed component. Understanding the variable component and so when I advise a company, that’s first and foremost is, do I understand their fixed versus variable? Do I understand how much revenue they need to drive to cover their fixed? Now we can have any conversation about cost, in the context of that paradigm and sometimes that labour component is variable, or a portion of that labour component is variable, and sometimes that labour component is entirely fixed, in which case there are other components that drive the variable nature of how their business costs move as a function of how their revenues go up and down.

Why You Shouldn’t Default Prices

A lot of times, operators get lucky. There’s just so very margin rich business, and so they start to convince themselves that they actually are great at pricing and great at margins, and they can just give up margin and get the sale, and the problem is, is depending on the barriers to entry in that marketplace, as competition comes in, first thing that they’re all going to do is chip away at that margin. So, if you don’t have a better strategy other than price, you better hope it’s a high barrier to entry, enter industry because eventually people will go where the easy money is, and price can’t be your only barometer as a system in a sustainable model. It’s just too difficult.


How Do You Keep Salaries Competitive?

The short answer to that is, and it’s one of the most interesting things I tell a lot of organizations, as it relates to their sales teams or other staff components is, there is a responsibility at a particular level or different levels in an organization for understanding the labour as a cost component of how your business makes money, and to me, that is at the manager level and above. So, what do I mean by that? I mean, you know, I have one client who, their business is sales, so they sell services and they have a sales team that operates out of a central sales room and those salespeople have to sell and so, the salespeople want to earn a particular salary, and we’ve been having this discussion for the better part of a year and a half, I think we’ve got it figured out now, but, in their case, it’s management’s job to bring the leads or to bring the opportunities for those salespeople.

The labour component of that, is not the person who’s doing the jobs, responsibility necessarily to make sure that they’re covering their salary. Depending on the level of that person, it’s the persons who are making that labour decision’s job to make sure that they’re paying the right amount to get the right resource into that role.
My experience has been when those superstars are there, who are worth more in the marketplace, sometimes you’re better off to pay them, to keep them because losing them can have a pretty significant knock on effect throughout your organization, but sometimes you’re better off to let them go, if you can’t figure out how to turn that into revenue and your profit for your organization, but you have to put that onus on the people who make the decision.


Why Price Isn’t Everything

One of the most interesting I can remember, was one of my clients was in the retail gas business in a highly competitive marketplace.
I remember going into that industry with a client where the entire marketplace was making decisions and just constantly undercutting each other on price, because they just assume that price was the differentiator.

And we went into that situation with a client who felt that price was the only barometer and we built what we eventually coined as a pricing database, whereby every week there were surveys done, independent surveys done, and we organize this program, implement this program, created this database, where every week there were surveys done of all of the major competitive gas stations representative sample of the market, and interestingly enough, in that case, what we learned fairly quickly was that there were four different pricing quadrants in that market, and what we meant by that was that each of those quadrants had a higher or lower elasticity, in terms of customer sensitivity to price. We also, then went and identified within those quadrants how you best price against the competition, and by putting the customer into that mindset, what we actually ended up with achieving over a two year period was an annual increase in their bottom line of $2 million by changing the pricing conversation from purely price, to understanding which markets had greater elasticity, and therefore you had an ability to price in one particular way and which markets had a greater customer service driver, which had not contemplated previously in that particular marketplace. Customer service did drive some of the customer decision making and it completely changed the way that they looked at their market competition and completely changed the way that they price their business, and then on the other side of that, helped with the cost implications.

A CONVERSATION
On Why Finance Doesn’t Have to
Compromise Company Culture

Rodney Davis shares his perspective on how companies and organizations can make key financial decisions without compromising company culture and how non-financial leaders can work with finance.


See the Financial Post for a printed version of Rodney’s interview.

TRANSCRIPT

In the first of our interview series, Rodney discusses the struggle between financial leaders and company departments like sales and marketing.  He addresses how companies and organizations can make key financial decisions without compromising company culture; how non-financial leaders can work with finance; and when CFOs should stay out of company discussions.  

Q:  Financially-based planning and  decision making often seem at odds with the purpose and culture of many organizations. How do you ensure the two are aligned?

Rodney Davis: This concern may come from a technical lead, marketing lead, sales lead, or even operations. We often hear: “We know what’s necessary to achieve the goals of the organization. The finance person just doesn’t understand what we do.” It’s an interesting dilemma I’ve seen play out many times. Good finance people understand what drives the organization. Rather than having to prove yourself, let the data speak for itself. The conversation should only happen once you’ve distilled the key performance indicators (KPIs), or in layman’s terms, the cause and effect. When you take a particular action,  you should always look at the outcome of that action. 

Q:  How do you set out goals that non-finance leaders can get behind?
Rodney Davis:

The most important thing that a senior financial leader can do for his organization is to truly understand the cause and effect of the various areas of your business: technical, marketing, sales, and even finance. Find the metrics for success that each department uses and amalgamate them with your financial data, and then have a conversation. For example, the sales team may look at how many leads were generated. And of those leads generated, how many confirmed bookings? Of those bookings, how many converted into sales, and what’s our average sales size? Five or six simple metrics that salespeople can get behind, that are not subject to emotional interpretations or manipulation or changes. They are verifiable and they’re objective.
On the technical side, it might be how many hours of labour go into producing something. What are the costs of the raw materials based on the amount billed by suppliers, and what is the allocation of overhead? Again, they’re objectively determined. You marry the metrics they already use with the financial results, and you’re able to have conversations with these different leaders, speaking objectively about the financial implication of their actions. You then take away any doubt, like “those aren’t my figures” or “I’m not sure those figures are correct.” There’s always going to be some sort of tension with sales, marketing, technical or creative departments because the finance person says they can’t do it or they have to do it  differently, which they think compromises their integrity. But it doesn’t have to, if you speak in these terms.


Q: Are there times when the finance guy should just butt out?

Rodney Davis: I used to be in the telco sector and my VP marketing, my chief marketing officer would send me their ads for approval. I’d say, “I don’t have useful input on colours, font size, or picture selections. Let’s talk about how many impressions it’s going to take to generate a dollar of sales or how long it’s going to be before the marketing dollars translate into revenue.” I would try and make sure that I wasn’t weighing in on items that were outside of my expertise. It’s a mistake that I think a lot of finance executives make, where you have a discussion about technical integrity of something, or get into creative conversations. You have to resist that temptation because it dilutes the effectiveness or the importance of your actual financial message. Which is what a CFO brings to the conversation.

Financial Health


Hello world!

Hello world!

Your content goes here. Edit or remove this text inline or in the module Content settings. You can also style every aspect of this content in the module Design settings and even apply custom CSS to this text in the module Advanced settings.

Business Strategy


Full ExampleTitle Here

Full ExampleTitle Here

Your content goes here. Edit or remove this text inline or in the module Content settings. You can also style every aspect of this content in the module Design settings and even apply custom CSS to this text in the module Advanced settings.