Step
A study by IMA ® and HFMA examines the role of management accounting in the U.S. healthcare industry.
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COVER STORY Healthcare companies in the U.S. face several obstacles in their efforts to adopt better costing practices and deliver greater value.
BY LOREAL JILES; QI “SUSIE” DUONG, PH.D., CMA, CPA, CIA, EA; AND RICHARD GUNDLING, CMA, FHFMAThe turbulent events of the last several years have led companies to reassess the assumptions they use when planning for the future, but the importance of key best practices hasn’t changed. These five tips can help organizations prepare for tough times.
BY RENE HORising inflation levels have an impact on more than just individuals or the economy as a whole. The value of financial statement information may also be diminished.
BY KEN ABRAMOWICZ, PH.D., AND D.J. KILPATRICK, PH.D., CMARisk management shouldn’t be a stand-alone, compliance-driven practice focused on limiting what can go wrong. A better alternative is focusing on making effective decisions, balancing pros and cons, and reconciling dilemmas.
BY MARINUS DE POOTER, CMA, CFM, RA, CIAIMA CPEdge Express™ offers courses based on articles from IMA’s award-winning Strategic Finance magazine, in an online, interactive self-study format. IMA members can earn CPE credits by answering a few online review questions and passing a final assessment.
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June
PRIL 2023 MARKS the end of Jeff Thomson’s tenure as staff leader of IMA® as Mike DePrisco becomes IMA’s next president and CEO. Transitions like this are exciting, but they also can be tough—especially when we must say farewell to someone who has made such an impact on us.
I’ve known Jeff since my earliest days on the IMA Global Board of Directors. He welcomed me warmly and was always generous with his time. Jeff also impressed me with his knowledge of the profession, his passion for continuous learning—especially the CMA® (Certified Management Accountant) certification—and his capacity for listening to the viewpoints of others.
Committee of Sponsoring Organizations of the Treadway Commission (COSO), and, with the International Federation of Accountants (IFAC) and the International Integrated Reporting Council (IIRC), he made sure IMA’s voice was heard and that the profession would be prepared for the future. This is evident in IMA’s leadership role in the areas of technology; sustainable business; and diversity, equity, and inclusion. Thanks to the foundation Jeff helped to lay, I’m excited and confident about the future of IMA, our global footprint, and the many careers that IMA will enhance moving forward.
Gwen van Berne, CMA, is director of finance and risk at Oikocredit and Chair of the IMA Global Board of Directors. She’s also a member of IMA’s Amsterdam Chapter. You can reach Gwen at gwen.vanberne @imanet.org or follow her on LinkedIn at bit.ly/3LVeRGM
IMA has transformed under Jeff’s leadership. Back in 2008, when Jeff first took the helm of the organization after serving for three years as vice president of research, IMA was an organization that needed a change in direction. We had slightly more than 59,000 members, mainly in the United States, and fewer than 17,000 CMAs.
Today, we have approximately 140,000 members in more than 150 countries, plus about 300 chapters. And since 1972, we’ve certified nearly 118,000 CMAs. IMA operates out of 13 offices around the world and has elevated its presence, respect, and influence in the profession.
That happened in large part because Jeff has always been passionate about the role of management accountants as well as the role of IMA as a partner in the profession. Jeff made it his mission to help grow this influence: He personally served as lead director on the board of the
If you ask Jeff about IMA’s successes, he focuses on the “we” who worked to turn around the organization in the face of numerous disruptions, many of which continue today. He recognizes the valuable contributions of staff and volunteers, the heart and soul of IMA.
On the personal side, I have utmost respect for Jeff, who is husband to Harriett, father of four adopted children, and caregiver to his older brother, Doug. As Jeff has said, friends, relatives, and caregivers need to take care of themselves so they can take care of others. That pertains to both business and life.
Although Jeff is moving on to retirement, I know he plans to continue to be involved in the profession as a thought leader. The profession will be better for it, although he deserves every moment that he’ll now be able to spend with his family, including numerous grandchildren and great-grandchildren.
On behalf of the IMA Global Board of Directors, and myself personally: Jeff, thank you for everything you’ve done for IMA, and all the best for a long, healthy, and heartily deserved retirement. SF
«Jeff, thank you for everything you’ve done FOR IMA.»
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For example, you can start by earning the pewter-level leader badge if you completed at least one of the following requirements: completed six IMALA courses, served as an IMALA faculty member for one term, served as a chapter officer for one year, or served as a council officer for one year.
In 2022, 1,118 IMA members earned a pewter badge, 705 earned bronze, 775 silver, 347 gold, and 328 platinum. Here are the platinum “superstars” from the last six months of 2022:
■ Lisandro Aviles
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The program is open to all active IMA members. Visit the Leadership Recognition website to learn more, including the specific requirements for each level, at bit.ly/3ZvZv2T Lisa Book, CMA, CSCA, CFM
Nancy Giordano, a strategic futurist, corporate strategist, and author, helps organizations and leaders transform to meet current and future business challenges and organizational structures, and formulate mindsets for new technologies on the horizon. Giordano currently focuses her work on the intersection of technology, business, and society.
Giordano began her career at advertising agencies in New York, Los Angeles, and Chicago and, more than a decade ago, founded Play Big, Inc., a strategic inspiration company, where she also serves as CEO.
Nancy Giordano will be a keynote speaker at IMA’s Accounting & Finance Conference, taking place in Minneapolis, June 11-14, 2023, where she’ll present “The Forces Shaping the Enterprise of the Future.” For more on IMA23, visit www.imaconference.org.
we’ll be working in the future, and we have certainly seen big shifts in where that will take place. I believe hybrid and remote work is here to stay—there are so many advantages from a well-being, diversity, and likely even environmental perspective. To do so more confidently, we’ll be seeking better tools, like virtual reality project rooms, more dynamic workflows that balance asynchronous and synchronous work, and environments intentionally designed to support collaborative work and upskilling. We’ll also see more momentum for a shorter workweek—again, early research shows significant lifts in productivity, engagement, and well-being when we rethink the “industrial era clock.” And we’ll also broaden our definition and appreciation of all forms of work, both paid and unpaid, as vital to a successful society as we consider how to better and more equitably distribute the productivity and profit gains made by increasing automation.
SF: In your opinion, what do professionals need to do to prepare themselves for success in the future? What do businesses need to do for their talent to be successful?
Giordano is the author of the book Leadering, which outlines how to shift an individual’s approach from dated 20th Century structures to dynamic leadership in the 21st Century and create a brighter future for everyone involved.
Strategic Finance: Can you discuss the five forces shaping the future for business enterprises?
Nancy Giordano: We’re increasingly focused on the demands of rapid digital transformation. As technology and data shifts reshape our businesses and lives, we need to examine our environmental and carbon footprints and actively support more sustainable and regenerative solutions. We also need to ensure equitable and just access to the solutions and opportunities we create and that none are intentionally created at the expense of others while also taking a much broader look at the well-being of all our stakeholders, now and into the future. Finally, we need to better consider, support, and include the voices of the youth population, a constituency that’s often left out despite the fact that they currently make up nearly half the planet.
SF: How do you think the workplace will transform in the next five to 10 years? Have the events of the past three years accelerated any of those changes?
NG: I make the distinction between the “future of work” and the “future of working.” The latter focuses on how
NG: We need to acknowledge that we aren’t in a predictable, linear growth, industrial era any longer and begin letting go of the many practices that no longer serve us well. I describe this as the shift from 20th Century leadership that relied on things like hierarchies, silos, and incremental innovation. These are often separating our own values and experiences from the work we’re doing to keep things humming along consistently in the pursuit of relentless growth. Instead, we now need to adopt a different approach—a new mindset—that shifts from narrowly focusing on the financial bottom line of an individual organization in quarterly increments to “leadering,” which systemically focuses on what the future needs and expects, embraces externalities, and works collaboratively inside and outside our organizations and industries to address them. We need to build the capacities that allow us to more confidently sense and respond to our dynamic environments—like incentivizing curiosity, investing in ecosystems of support and learning, doing our own shadow work so we can better listen to and empathesize with others—and jump in faster.
SF: What do you see as the three biggest issues that will shape the future of management accounting?
NG: It seems to me the dashboards of what we need to pay attention to will continue to broaden as we see the value of paying closer attention to the key drivers of longterm productivity, such as well-being, inclusivity, preparedness, strength of relationships, environmental impact, skilled talent, and more. Advancing technology will also allow us, and perhaps pressure us, to move faster as machine learning insights give us not only a wider lay of the land but begin to also actively offer prescriptive advice. New questions about ethics, bias, privacy, transparency, and our ability to respond will require that we also develop a practice of ongoing dialogue and inclusive input.
Giuseppe BaroneSunil Deshmukh, a leadership and executive coach and strategy consultant, has been named Chair-Elect of the IMA® (Institute of Management Accountants) Global Board of Directors for the fiscal 2023-2024 period, which means he will be IMA Chair for 2024-2025.
“It is an incredible feeling to be chosen for such a prestigious role, and I cannot express the joy and satisfaction I feel in words,” Deshmukh said. “The recognition of my abilities and leadership potential is a humbling experience that will undoubtedly be a highlight of my career.”
In his current role, Deshmukh consults and advises for-profit and nonprofit organizations primarily on leadership development, business strategy, and leadership/ executive coaching. He’s currently based in India, but, in his more than 30-year career, he has lived and worked in consumer markets in Africa, Asia, the Middle East, and Southeast Asia, developing business strategies, managing operations, and providing board-level oversight and governance.
“As Chair-Elect, I will have the opportunity to shape the future of IMA and contribute to the growth and success of the organization,” he said. “It is a tremendous responsibility that I take very seriously, and I am excited to work with my fellow board members and the broader IMA community to achieve our shared goals. I hope to inspire and motivate others to pursue excellence in the accounting and finance profession, just as I have been inspired by the many talented individuals I have met through IMA. I am deeply grateful for this opportunity, and I look forward to the challenges and opportunities that lie ahead as we work together to advance the field of management accounting.”
Previously, Deshmukh worked in various leadership positions as managing director, CFO, and CEO with multinational companies, as well as large family-managed organizations, across geographic regions, and across industry segments including manufacturing, retail and distribution, supply chain, and logistics.
Deshmukh holds a bachelor’s degree in commerce from Marathwada University, a bachelor’s degree in law from Symbiosis Law College at Pune University, and a master’s degree in commerce from Pune Uni-
versity. He is a fellow member (FCMA) of the Institute of Cost Accountants of India (ICAI), a fellow member (FCS) of the Institute of Company Secretaries of India (ICSI), and a fellow member of the Institute of Directors (IOD) of India. He is also an International Coach Federation (U.S.) Associate Certified Coach (ACC) and a Marshall Goldsmith Stakeholder Centered Coaching (U.S.) Certified Executive Coach. He has participated in many leadership programs in the United States, United Kingdom, and India. He has also completed the Oxford Advanced Management & Leadership Programme at Saïd Business School, University of Oxford. He earned his CMA® (Certified Management Accountant) in 2010.
An IMA member since 2010, Deshmukh is currently a member of IMA’s Strategic Planning Committee, an associate dean of IMA’s webinar coaching team, and a past dean of the IMA Mentoring Subcommittee. He has been a member of IMA’s Global Board of Directors since 2021, where he has also been part of the Nominating Committee. Deshmukh has also served as president of IMA’s Mumbai and Pune chapters; is a member of the IMA Leadership Academy, specifically as a webinar contributor, moderator, and presenter; and was previously the board liaison for the IMA Research Foundation. He was also a member of IMA’s President and CEO Search Committee.
Deshmukh also serves as a speaker, coach, and accredited mentor for tech and social start-ups in India and as an advisory board member of Talent at Work (United Arab Emirates ). Deshmukh has written articles in various publications and contributed to books on the topic of leadership. He also sits on corporate boards as an independent director.
“I would like to get IMA back on a growth trajectory following the COVID-19 pandemic’s impact,” Deshmukh said. “This could involve developing and implementing strategies to attract new members, expand the organization’s reach, and promote the value of IMA to the broader accounting and finance community. In addition, I would like to continue IMA’s thought leadership on initiatives such as environmental, social, and governance; risk management; diversity, equity, and inclusion; and the future of the finance profession. These initiatives are critical to addressing the challenges and opportunities facing the accounting and finance profession in today’s rapidly changing world. By advancing these initiatives, I could help position IMA as a leader in the profession and contribute to its growth and success.”
Nancy Fass
Fool Me Once: Scams, Stories, and Secrets from the Trillion-Dollar Fraud Industry by Kelly Richmond Pope is an exploration of fraud in action. Whether you’re a student, finance professional, or business owner, Fool Me Once will increase your knowledge of this topic.
When we hear about a financial crime, the focus is typically on what the perpetrators have done, but this book also focuses on the impact on the other individuals involved in fraud—victims and whistleblowers. Fool Me Once is a cautionary tale for students and finance professionals to prepare them for ethical dilemmas they might face and shows them how others behaved when dealing with unethical pressure or an ethical dilemma and the outcomes—all of which may help readers make wiser decisions. This book also portrays whistleblowers as unheralded heroes who are seeking justice and often harshly treated and harassed.
As an accountant, I appreciate that the author highlights my ethical responsibility toward my profession. This book covers all types of breaches of ethical principles in many industries such as retail, financial services, healthcare, consumer packaged goods, government, and even religious and charitable organizations. Examples of bad actors range from entry-level personnel to senior management. The book recounts details of the crimes but also illustrates the thought process of perpetrators and whistleblowers, as well as the impact on victims. It provides a summary at the end of every chapter, mentioning the most important ideas presented in each, which is handy for future reference.
Fool Me Once covers a serious topic, yet Pope has made it digestible, relatable, and easy to read without oversimplifying, using a warm tone and a humorous writing style. While reading it, I personally felt like I was listening to her give me factual answers to the questions in my head about fraud. It’s a germane guide to help organizations build a safe environment for ethical people to speak up about misconduct and empowers management accountants to face up to—rather than give in to—unethical pressure. This book will be a valuable asset to your library. Tala Khalifeh, CMA
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Management accountants can help to clean up corruption via education, partnerships, standards, and global policy frameworks.
BY DANIEL BUTCHER
THE GLOBAL COST OF CORRUPTION, INCLUDING BRIBERY AND THEFT, is approximately $3.6 trillion annually, which is around 5% of global gross domestic product, according to the World Economic Forum (bit.ly/3Fsekfo). In September 2022, the International Federation of Accountants (IFAC) issued the fivestep Action Plan for Fighting Corruption and Economic Crime (Anti-Corruption Action Plan) for accounting and finance professionals to help clean up such corruption through education, partnerships, standards setting, and global policy frameworks. Finance professionals play a pivotal role in fighting corruption, according to Scott Hanson, director of policy and global engagement at IFAC.
What is corruption?
First, people steal public funds. Second, there’s informal taxation through demanding bribes. This can cause costs to go up with no commensurate increase in the quality or quantity of products or services. Third, competition is distorted when lower-quality goods and services are purchased at worse prices.
“In all three scenarios, the taxpaying public isn’t getting the full potential benefit from their tax contribution,” Hanson says. “You also have indirect impacts like stymieing investment and entrepreneurship.”
The money that’s lost to corruption could’ve funded initiatives geared toward achieving critical objectives. The United Nations (U.N.) notes that trillions of dollars of annual global investment are needed to achieve the U.N. Sustainable Development Goals (SDGs).
“Essentially, we’re losing half of the money needed to achieve the U.N. SDGs to corruption, which we simply can’t afford,” Hanson says. “The public and private sectors need to work together to counter corruption and economic crime at the global and domestic levels.”
The seventh SDG— Affordable and Clean Energy—states that financing a transition to cleaner energy requires significant public investment, married with effective markets and level private-sector competition, which corruption significantly constrains.
“These issues are complex and involve a number of actors—that’s why IFAC’s Anti-Corruption Action Plan focuses on how the
accountancy profession can best support an ecosystem of business, government, global policy makers, and others to enhance organizations’ transparency and accountability,” Hanson says.
IFAC’s Anti-Corruption Action Plan provides a framework for enhancing the management accounting profession’s contributions in combating corruption and economic crimes, thereby advancing the U.N. SDGs. The framework includes more than 30 recommended actions.
“Accountants are essential in the fight against corruption because we bring transparency, relevance, and integrity to the systems that underpin vibrant economies, making corruption and economic crime less profitable and easier to prevent,” Hanson says.
The establishment and adaptation of global standards based on quantitative evidence aid organizations and governments in identifying and responding to financial crimes. Additionally, accountants support strong and sustainable government institutions and financial markets through regular audits.
To reduce corruption, there must be a partnership between the public and private sectors. The Basel Institute on Governance promotes collective action, and the IFAC plan aims to bring awareness of collective action, antifraud and anti-corruption strategies, and risk management to the accounting profession.
“While it’s true that public-sector financial
professionals are on the front lines overseeing the use of public funds, the private sector also plays a significant role in combating corruption and fraud and ensuring trust in business and the capital markets,” Hanson says.
Private-sector finance professionals have a critical role in identifying and managing fraud and corruption risk and implementing anti-fraud and anti-corruption measures and controls. They’re also tasked with driving an ethical organizational culture.
“Finance leaders ensure that conflicts of interest are avoided, that bribes aren’t paid, that companies compete in the marketplace with integrity, and that compliance functions are robust and adequately funded,” Hanson says.
Accountants represent one point in a dynamic and interconnected network. IFAC’s Anti-Corruption Action Plan enhances what finance professionals can do to fight corruption by exploring the role of anti-corruption training and education. Further, it addresses how accountants can help other actors in the ecosystem to do their parts more effectively. IFAC is developing a strong evidence base around anti-corruption corporate reporting, with the goal of helping global and domestic policy makers make better-informed decisions.
“The accounting profession has an extensive reach, as it touches nearly every business and public-sector entity worldwide,” Hanson says. “Every organization looks to accountants as a
For clarification of how the IMA Statement of Ethical Professional Practice applies to your ethical dilemma, contact the IMA Ethics Helpline.
In the U.S. or Canada, dial (800) 245-1383. In other countries, dial the AT&T USA Direct Access Number from www.business.att.com /collateral/access.html, then the above number.
The IMA Helpline is designed to provide clarification of provisions in the IMA Statement of Ethical Professional Practice, which contains suggestions on how to resolve ethical conflicts. The helpline cannot be considered a hotline to report specific suspected ethical violations.
trusted group with moral and ethical responsibilities to do their part.”
The reputation of the profession hinges on its adherence to ethics. The International Code of Ethics for Professional Accountants (including International Independence Standards), or the Code, issued by the International Ethics Standards Board for Accountants (IESBA), outlines fundamental principles that establish a strong baseline of expectations for ethical behavior and a responsibility for accountants to act in the public interest. That plays a crucial role in the Code’s Responding to Non-Compliance with Laws and Regulations (NOCLAR) standard, which obligates accountants to root out corruption and fraud, including embezzlement, bribery, money laundering, and tax evasion.
“Accountants simply cannot turn a blind eye,” Hanson says. “The standard lays out a framework to guide accountants in responding to NOCLAR.”
NOCLAR has been implemented worldwide. Consistent with accountants’ public-interest responsibility, a potential response to corruption or fraud is becoming a whistleblower by disclosing the matter to an appropriate authority.
“To be most effective, NOCLAR needs to be supplemented by robust whistleblower-protection legislation,” Hanson says. SF
Daniel Butcher is the finance editor at IMA and staff liaison to IMA’s Committee on Ethics. You can reach him at daniel .butcher@imanet.org
With a shrinking candidate pool, organizations need to think differently to attract and keep accounting talent.
BY PAUL MCDONALDBETWEEN THE INCREASE IN EMPLOYEE RETIREMENTS, the long-term impact of the COVID-19 pandemic, and a number of other factors, the accounting workforce seems to be shrinking. Meanwhile, accountants are quitting jobs in record numbers, and some are leaving the profession entirely. This reduced talent pool leaves companies in fierce competition for skilled professionals as well as graduates who choose to pursue accounting as a career.
This contraction in supply might be more manageable if accompanied by a contraction in demand. Instead, factors like lingering supply chain disruptions and inflation have generated a surge of complex work for accounting and finance functions. An understaffed company may lack the necessary expertise to handle these responsibilities, which could lead to lost opportunities and stalled growth. Furthermore, a heavy workload distributed among a pared-down team will cause performance and morale to drop—and prompt the number of experienced accountants eyeing the exit door to rise even further.
While there’s little a company can do on its own to bring the levels of accounting graduates back to where they were in the past, here are some ways to think differently about attracting and keeping talent.
1. Focus on employeecentric programs. Employees and job seekers are attracted to a company culture that aligns with their personal values. In response, organizations need to do their best to accommodate the full scope of workers’ needs, including health and wellness. Efforts to promote health and well-being have been shown to increase productivity and help minimize healthcare costs. They can also do something else: Give your company an edge when it comes to hiring the best employees before the competition does.
Consider creating— and showcasing to job candidates—programs focusing on employee mental health, stress management, access to telemedicine, and keeping personal finances healthy. Offering the ability to work when and where applicants prefer can also contribute to overall wellness. Employers who can offer flexible work options, whether it’s fully remote, hybrid, or alternative hours, will have an advantage recruiting and retaining talent.
2. Recruiting and retention go hand in hand. Talent acquisition and talent retention are two sides of the same coin.
If you hire six brilliant accounting graduates tomorrow and none of them stay for more than six months, you’ll be no closer to overcoming the talent crisis than when you started.
Set new hires up for success from the onset with a thoughtful and comprehensive onboarding process. Build as much flexibility as you can into employee work schedules to promote a healthy work-life balance. Use resources like the Robert Half Salary Guide (bit .ly/3QDE241) to benchmark your compensation against competitors. Foster a culture of collaboration and communication where employees are encouraged to share their ideas and participate in decision-making processes. Lastly, remember that small gestures can have a big impact. A timely thank-you note for a job well done can raise an employee’s morale.
3. Unlock the benefits of apprenticeship programs.
If it’s taking you longer than you’d like to hire, consider apprenticeships while you continue your search. It’s another example of thinking differently about building your team. You can bring in someone relatively inexperienced on a contract basis and team them up with a more tenured employee who can train and mentor the individual.
Apprenticeships are one way to explore talent pools that recruiters and managers sometimes overlook when being overly cautious in regard to a candidate’s qualifications. For example, if test scores are your primary talent metric, you may be passing over members of underrepresented groups who lack the educational opportunities of other applicants. Similarly, placing too much value on recent experience may cause you to overlook people returning to the workforce, such as parents who took a career break, military veterans transitioning to civilian life, and individuals who took time off to care for family members during the pandemic. Apprenticeships can give you more confidence to explore other sources of talent since you’ll know that candidates who are missing critical skills can be trained on the job.
Partnering with an experienced, registered apprenticeship provider can make the experience much more seamless. Once you’ve selected apprentices from a pool of qualified candidates, your partner
will coach and guide these workers and support you through their on-the-job learning and professional development. If, at the end of the apprenticeship, the candidate has performed well and is a good fit with the rest of your team, you can choose to convert them to permanent status. Along the way, apprentices can be trained to specialize in specific accounting disciplines, such as auditing or financial planning, thus giving them the skills they need to pursue advanced roles.
Apprenticeship programs can also be used to enhance the social aspect of your environmental, social, and governance strategy. If you bring in two apprentices and split the responsibilities of an open position, they’d progress more quickly since they’d be doing just half the job that one person would normally do. They will know they aren’t permanent hires, but they’ll leave your organization with new skills courtesy of you and the company. This kind of program can also boost your employer brand in the eyes of job candidates who are drawn to a company culture that aligns with their social responsibility values.
4. Invest in upskilling and reskilling. Even if your recruitment efforts are reasonably successful, building your future workforce will require upskilling (enhancing skills) and reskilling (teaching entirely new skills) your current team (see bit .ly/3JfNaKY). By investing in initiatives like in-house
training, mentoring, and job shadowing, you can equip your employees to handle the changing demands of the accounting industry.
Highlighting your organization’s opportunities for growth and development can help you attract strong candidates who are experienced but know they need to keep learning new skills if they are to remain valuable to employers. Demonstrating your ability to train professionals on your cutting-edge technology and tools is a draw for potential hires looking for a company at the forefront of industry trends. Many accounting graduates are drawn to sectors like technology, finance, and consulting, which offer attractive salaries and career paths and may be seen as more innovative and dynamic than other industries. Showcasing a forward-thinking and progressive culture helps counter an impression some candidates may hold that your company is behind the curve.
The talent crisis in the accounting profession is real but not insurmountable. By taking a creative approach to recruiting and retention, you can build an environment where employees feel valued, supported, and engaged— and one that talented accountants are eager to join and stay with for the long haul. SF
Paul McDonald is a senior executive director at talent solutions and recruiting firm Robert Half and a member of IMA. You can follow him on LinkedIn, bit.ly/3oj8PGf
The cannabis industry is a case study in the challenging, sometimes contradictory influences of government regulations and compliance measures.
BY RENATA SERBAN, CMA, CPA
THE WELL-BEING AND SAFETY CONCERNS OF PEOPLE are the main reasons why certain industries are more regulated than others. When it comes to the term “highly regulated,” heavy government involvement and extra compliance measures are often focused on challenging the concentrated economic and political powers as well as regulating high-risk and high-trust industries. Industries such as oil and gas, pharmaceutical, and banking have dealt with regulations for a long time. Others, like credit rating agencies, have seen increased regulations following the financial crisis in the early 2000s and the passage in the United States of the Sarbanes-Oxley Act in 2002.
Two emerging industries becoming highly regulated are cannabis and self-driving cars. While self-driving cars are something that big companies such as Tesla and Google are pursuing, the cannabis industry in the U.S. is one in which small businesses are attempting to participate. Yet many of these struggle with the regulatory challenges in the cannabis space.
The biggest challenge for cannabis companies is that cannabis business activities remain federally illegal. This results in complex tax rules and a scarcity of the traditional capital resources available to other industries.
Cannabis businesses face regulatory scrutiny related to product packaging, lab testing, advertising, and insurance. All of these challenges lead to compliance difficulties and add to the cost of doing business, making it more difficult for small businesses to withstand competition from illicit markets and bigger businesses.
Drugs and other substances that are considered controlled substances are regulated by the U.S. government through a federal statute called the Controlled Substances Act (CSA). CSA places various substances in one of five schedules based on their medical use, potential for abuse, safety, and risk for dependence.
As a Schedule I drug, cannabis is subject to Internal Revenue Code §280E, which states that businesses selling it can’t deduct any expenses
incurred in the production, distribution, or sale of that product. This means that cannabis companies pay taxes based on gross profits and can’t deduct typical general and administrative expenses.
Fortunately, regional banks and credit unions are now filling the void left by large, federally insured banks that are unwilling to provide banking services to cannabis operators. And more FDIC-insured banks are getting involved, albeit very carefully, with legal cannabis and cannabisrelated businesses.
There is hope for banking relief down the road with the proposed Secure and Fair Enforcement (SAFE) Banking Act, which would allow U.S. depository banks and certain other financial institutions, such as federal and state credit unions, to service cannabis businesses in states that have legalized cannabis. Passed in the House of Representatives, the bill will also help alleviate lending obstacles to cannabis companies.
Because of its status as a Schedule I drug, cannabis is highly regulated even in states in which it’s legal. But state-by-state regulations vary and can be confusing.
Packaging. Whether for recreational or medicinal
use, each state has different packaging and labeling requirements. The basic requirement for cannabis products is to have childresistant packaging, including having an unattractive appearance for children, a resealable feature, and an informational label.
Each variation of cannabis products has its own unique packaging considerations. In many states, cannabis labels include specific strains of cannabis and cannabis symbols to let consumers know if the product contains THC, the psychoactive substance found in the plant, and whether it’s a medical or recreational product.
Lab testing. Before any cannabis product can be packaged, it needs to be tested in a lab to make sure it’s safe for consumption and to inform consumers of its potency. Cannabis is a challenging product to analyze, with no standardized testing methods and varying rules. For instance, California requires all cannabis products to be tested for cannabinoids, terpene contents, pesticides, and microbial impurities. On the other hand, pesticides are the only category of contaminant specified for testing in Delaware’s rules. Furthermore, compounds vary in cannabis products. For instance, potency levels are different in flowers, edibles, and oils. Advertising. State laws on cannabis adver-
tising vary from ones that severely regulate cannabis marketing to ones that have no cannabis advertising restrictions. Common restrictions include bans on misleading information, specific parameters concerning building signage, marketing cannabis strains individually, and not appealing to minors. Several states also require approval of all advertising by state officials before launch.
Insurance. Like any other business, cannabis companies need insurance. But unlike other businesses, the federal illegality and emerging nature of the industry creates unique challenges for obtaining coverage. Deciding the insurance needed for a cannabis business is further complicated by the differences in the types of insurance mandated by states and local cannabis regulations.
For example, according to the National Cannabis Industry Association (NCIA), licensed commercial cannabis operators in Colorado aren’t required to obtain any cannabis specific insurance coverage other than what is required for all types of businesses. This is in contrast to Massachusetts, where licensed commercial cannabis operators must maintain general liability insurance coverage as well as product liability coverage, according to the NCIA.
The research article by John Kitching, Mark Hart, and Nick Wilson, “Burden or benefit? Regulation as a dynamic influence on small business performance,” examines the impact of
regulation on small business performance. The authors suggested that regulation is a force both “enabling as well as constraining performance, generating contradictory performance effects”
(International Small Business Journal: Researching Entrepreneurship, March 2015). The response to regulation is process and product innovation.
In addition, the study stated that regulatory authorities create market opportunities by applying licensing practices to small businesses. For example, licensing practices regulate market entry and the supply of goods and services in professions such as medicine and law, and in sectors such as transport, food production and distribution, entertainment and leisure, and health and care services. Within the cannabis industry, states regulate the issuance of cannabis licenses by establishing strict criteria to qualify for the license and placing importance on social and community plans.
From the standpoint of an individual business, such regulatory influences function directly by authorizing them to operate and indirectly by permitting or prohibiting others to do the same. The resilience, entrepreneurial approach, and responsiveness to challenges are what drives the small business community. SF
Renata Serban, CMA, CPA, is a manager of a business and cannabis advisory services practice and a member of IMA’s Small Business Committee and New York Chapter. She can be reached at renataserban @gmail.com
THE RESPONSE TO REGULATION IS PROCESS AND PRODUCT INNOVATION.
A study explores how compensation contracts for employees’ standard tasks can affect their desire to engage in employee-initiated innovation.
BY WEI CAI, DBA; SUSANNA GALLANI, PH.D.; AND JEE-EUN SHIN, DBAMANY ORGANIZATIONS ENCOURAGE EMPLOYEES TO propose innovative ideas that may improve company performance. Innovation is generally expected from employees operating in functions such as research and development, engineering, marketing, and advertising, yet companies often foster an organizational culture where innovative ideas come from nonprofessional innovators. Some companies, such as 3M, Google, and Red Gate, allow workers to use a certain amount of their paid time to pursue their innovation projects. Others, like Toyota and Whirlpool, implement dedicated information systems to track and evaluate proposed innovations.
Nonetheless, there’s widespread consensus among practitioners that, despite formal and informal supporting mechanisms, workers engage in employee-initiated innovation or EII (i.e., innovation proposals from nonprofessional innovators) less than the company wants.
Rewarding innovation is always difficult because it’s challenging to set standards ahead of time to evaluate the organizational benefits brought about by a new idea over an undetermined amount of time; establish expectations for the number, type, and magnitude of the innovation; and compare ideas to determine which may be the better one. Things become even more complicated when managers try to elicit innovation from workers whose organizational roles and responsibilities (i.e., standard tasks) don’t formally include innovation (that is, for these workers, innovation is an “extra-role” behavior), because there can be no explicit expectations for innovation output.
Thus, scholars have proposed to incentivize innovation activities indirectly by creating conditions that may allow innovations to arise spontaneously, for example, by reducing the time pressure on standard task deliverables, thus creating space for workers’ creativity to develop. Yet, while creating space to think outside the box is likely a necessary condition for EII, it may not be a sufficient one. This motivated us to explore additional factors that may influence employees’ propensity to engage in EII.
We conducted a study to better understand the role that compensation contracts for employees’ standard tasks may play in their participation in EII activities. We examined whether and how performance pressures embedded in the standard task compensation shape employees’ perception of their role within the company and determine the cost of diverting attention from their “in-role” responsibilities to “extra-role” behaviors such as EII.
Understanding this relationship is important, as it provides information about the trade-off managers face between incentivizing standard task performance and encouraging employees to contribute to organizational success by engaging in extra-role activities that are beneficial for the company but aren’t explicitly spelled out as formal employee responsibilities. (Details of the study will appear in “Incentive Contract Design and Employee-Initiated Innovation: Evidence from the Field,” forthcoming in Contemporary Accounting Research.)
We analyzed three years of data obtained from a Chinese manufacturing company that uses a dedicated information system to track workers’ EII idea submissions. Submitted ideas are categorized into types, which we aggregated into task-specific EII (i.e., ideas that benefit the standard task of the proponent—for example, to improve their productivity, make the job less effort-intensive, or reduce the incidence of
errors and quality issues) and organization-wide EII (i.e., ideas that benefit other constituents in the company, for example, by making someone else’s job easier—or the organization as a whole—for example, by finding ways to reduce overhead costs).
In this company, employees’ compensation arrangements are structured either as fixedpay contracts, whereby employees receive the same amount of money every month independently from production volumes; variable pay or pay-for-performance contracts, whereby employees’ pay depends entirely on volume-based metrics (akin to a piecerate scheme); or a mixture of the two (i.e., mixed-pay contracts), whereby workers receive a fixed amount every month plus additional volume-based compensation.
Contract types are assigned at the time of hiring and don’t change throughout the worker’s employment period. Management tries to keep a healthy mix of contract types even among employees who play the same organizational role or work within the same team. Workers aren’t selected based on their creativity or innovation propensity, and no mention of innovation is made during the interview process or in their employment contract and job description.
We found that employees compensated with variable pay exhibit a lower tendency to engage in EII than their fixed-pay colleagues. Yet we observe this result only with respect to organization-wide EII. We didn’t find any significant difference in EII engage-
ment across compensation contract types when ideas aim to improve the proponent’s standard task. These results are consistent with standard task compensation contracts shaping employees’ interpretation of their organizational responsibilities and their productive focus.
Rewarding workers for standard task performance certainly incentivizes them to work hard on their primary job responsibilities. But compared to fixed-pay arrangements, pay-for-performance contracts make it very costly to divert effort from the standard task to engage in EII. This can lead workers to become hyper-focused on performance metrics explicitly rewarded and ignore activities that are beneficial for the company but not set as formal responsibilities for them (i.e., extra-role behaviors).
While we found that pay-for-performance still drives employees to come up with ideas to increase their own efficiency, it discourages engagement in EII that could contribute to the well-being of the organization as a whole. In contrast, fixed-pay employees have more autonomy to exercise creativity in areas unrelated to the immediate task at hand. Thus, our findings suggest that companies hoping to solicit organization-wide innovation from their employees must consider the spillover effects introduced by how they reward standard task performance.
Because creativity is an inherently personal trait, companies have long strug-
gled to motivate and incentivize EII. Our finding that fixed-pay compensation significantly increases EII compared to variable pay provides a concrete mechanism that can be used to indirectly foster EII, especially in areas outside an employee’s standard tasks. Our results should remind managers that control mechanisms don’t operate in a vacuum and that compensation contracts designed to regulate employees’ efforts on their standard tasks can have far-reaching spillover effects on multiple dimensions of the workplace.
Our findings also call into question the idea that pay-for-performance is always beneficial to company success. While it may reward employees for delivering on their standard tasks, our study shows that it can discourage employees from proposing ideas that may improve efficiency in other areas. Managers, therefore, must consider the trade-offs between narrowly defined standard task productivity and other desired activities they may wish to elicit from their employees. SF
Wei Cai, DBA, is an assistant professor of business at Columbia University. Wei can be reached at wc2419 @columbia.edu
Susanna Gallani, Ph.D., is an assistant professor of business administration at Harvard University. She can be reached at sgallani@hbs.edu.
Jee-Eun Shin, DBA, is an assistant professor of accounting at the Rotman School of Management at the University of Toronto. He can be reached at jee-eun.shin@rotman .utoronto.ca
A study by IMA® and HFMA examines the role of management accounting in the U.S. healthcare industry.
BY LOREAL JILES; QI “SUSIE” DUONG, PH.D., CMA, CPA, CIA, EA; AND RICHARD GUNDLING, CMA, FHFMAThe healthcare industry, one of the largest, most complex, and truly essential industries in the world, finds itself constantly challenged to improve quality and lower costs while delivering value. Consequently, the role of cost management, led by management accountants (i.e., accountants and financial professionals in business), and the need for innovative costing practices have become critical to the healthcare industry’s sustainability and positive contribution to people, society, and the economy.
Heightened demand for greater value delivery by finance and accounting teams in healthcare prompts finance functions in healthcare to walk a tightrope between their evolving role and challenges faced with cost management innovation. Understanding the current healthcare cost management landscape, acknowledging challenges faced, and preparing for the finance function’s expanded role are integral to the healthcare industry’s future.
Of all the transformations shaping healthcare in the United States, none is more profound than the shift toward value. Quality and patient satisfaction are being factored into Medicare payment models, while private payers are incorporating performance and risk-based payment structures into their contracts. At the same time, rising healthcare costs are creating more price sensitivity among healthcare purchasers, including government agencies, employers, and, of course, patients themselves, who are being asked to pay higher premiums, copayments, and deductibles for their care. Hospitals have always focused on quality because they’re fundamentally dedicated to patient well-being. But recent pressures make it financially imperative to develop collaborative approaches that combine strong clinical outcomes with effective cost management. For providers to deliver value in healthcare, they must have accurate, actionable data on the two elements driving the value equation: the quality of the care delivered and the cost of providing the care (the basis for the price that purchasers should be asked to pay for care). They must also be able to link quality and cost metrics to quantify the value
This article is excerpted from the forthcoming IMA® white paper Cost Management in Healthcare: Status Quo and Opportunities. It has been edited and abridged for Strategic Finance. The full report will be available at bit.ly/3DDiShU.
of care provided. To build this business case, healthcare organizations must have capabilities to perform several functions:
■ Accurately and consistently report cost and other financial data on appropriate metrics developed in collaboration with clinicians
■ Drive information sharing throughout the organization by linking dashboards and individual measures to strategic goals
■ Report quality results to both internal and external stakeholders
The need for better costing and other business analytics in healthcare is both recognized and real. Many providers readily acknowledge the inadequacies of their current systems. They’re working to enhance their organizational competencies enabling optimal data utilization and to develop the systems that will lay the foundation to succeed under value-based care models and other risk arrangements. In comparison to the investments in information and analytics for clinical quality, however, investments in business intelligence on the finance side have lagged. As a result, tying cost implications to performance on quality metrics often requires a considerable amount of time-consuming, manual work. Providers also struggle to precisely quantify the financial impact of quality initiatives, although the effects of quality initiatives on metrics such as length of stay and other indirect macro indicators demonstrate when initiatives are working to reduce costs.
Costing information is clearly recognized as important as providers facilitate linking clinicians and staff throughout the organization, produce data that can verify the outcomes and financial implications of performance improvement efforts, and enable the creation of patient information repositories that will become increasingly important as providers assume risk contracts.
Providers recognize the significance of the link between quality improvement and cost management efforts. They’re measuring the impact of quality and waste on their organizations and contemplating moving beyond traditional methods of cost accounting.
IMA® (Institute of Management Accountants) and the Healthcare Financial Management Association (HFMA) hosted roundtable discussions during which participants shared their perspectives on (1) how healthcare costing information is utilized to set healthcare pricing (from a patient’s perspective) and improve transparency and (2) how costing practices impact overall healthcare costs in the U.S. (see “About Our Study”). Key takeaways from this discussion include:
■ Recognition that the U.S. healthcare industry’s pricing strategy is driven by the market rather than costs, and
■ A lack of consensus with respect to the impact of costing methodologies and practices on overall healthcare costs because of the great variation in costing approaches across organizations and sometimes among different divisions within a single organization.
Despite these circumstances, there was consensus among participants that more innovative costing approaches would be incrementally beneficial to the finance function’s delivery of value to the healthcare organizations that they support. Thus, a deeper discussion emerged around activity-based costing (ABC).
Yet, as found in a 2017 study on the adoption of ABC in the healthcare industry conducted by IMA and the HFMA ( bit.ly/3ZR8GLu ), healthcare organizations generally recognize the problems associated with their current accounting systems, but most choose not to implement ABC systems despite the potential benefits (see “Costing Methodologies: Activity-Based Costing” for a detailed definition ). Figure 1 summarizes the top five reasons for not adopting ABC as documented in the 2017 study.
Most roundtable participants confirmed that the adoption of ABC or other advanced costing systems such as time-driven activity-based costing (TDABC) was out of the realm of possibilities within their organizations for the foreseeable future. When asked to identify the drivers for nonadoption, participants pointed to the complexity of deploying these systems, constraints of internal resources, and others. For example, a common issue for a healthcare system with various services in multiple locations but sharing the same integrated information system data hosting is that, given that each service might use the system differently than others within the same organization, analyzing the level of details to achieve like-kind comparison across service lines using ABC or TDABC becomes increasingly challenging.
While the benefits of adopting a sound and reliable costing system are obvious, barriers to achieving it can’t be overlooked. Key examples of such challenges are staggered
Different from traditional costing methods, ABC systems focus on what activities of people and equipment are required to produce a product or provide a service, as well as how activities are consumed. To allocate indirect costs (e.g., overhead) to products or services, ABC systems identify (1) resources and their costs, (2) consumption of resources by activities, and (3) performance of activities to products or services. Under ABC, resources are allocated to activities using cost drivers, which are used to calculate the cost per activity. Activity costs are then traced to each product or service by determining how many units of activity each product or service consumes, multiplied by the cost per activity.
Source: IMA, Implementing Activity-Based Costing, 2014, bit.ly/3RyWqfL
In 2022, IMA and the HFMA sponsored a research study aimed at examining the role of management accounting in the U.S. healthcare industry. Through roundtable discussions with 20 leaders in U.S. healthcare financial management, accounting, and analytics roles, we explored the role of management accountants in organizational value delivery around costing practices and the evolution of the finance function’s role in healthcare institutions.
development in healthcare and the inadequacy of internal resources needed for execution (see Figure 2).
Staggered development in healthcare. One study participant, who previously worked in the manufacturing industry, said that when he started in healthcare, he was surprised that the industry seemed to be lagging in many aspects, including costing, from a quality reporting and technology perspective. Although tremendous strides have been made in catching up in the past two decades, there’s still room for considerable improvement in healthcare, especially in facilitating real-time, data-driven decision making supported by advanced data science and technologies.
Yet, based on the observations of our study participants, the industry often feels slow-moving, risk averse, and reluctant to change as it pertains to innovation and the adoption of new approaches—even as improvements in technology have made more data available. Furthermore, some participants note that the existence of information analytical data silos within organizations prohibits leaders from making informed decisions in an efficient manner because they’ll have to approach different teams to obtain a small portion of a holistic solution.
ack of senior management commitment to tools such as ABC
Complexity of ABC systems
Design and implementation costs are prohibitive
Dated digital tools. Some participants emphasized the constraints they face internally in achieving better costing measurements. For instance, due to the limitations of software currently in place in some participants’ organizations, their finance teams were unable to account for costs by providers. Even though they were fully aware that Medicare patients typically incur higher costs due to higher utilization of many resources and functions than younger commercial patients do, the current software doesn’t provide the necessary functionality for them to capture the information that presents the differences.
For example, two patients placed in hospital rooms with the same room rate (i.e., price charges per day) can have completely different severity of illness or medical conditions (known as patient acuities), a parameter generally used in determining staff allocation and justification of budgeting projections. Because the software doesn’t differentiate between the resources these two patients consume, there’s no difference in room rate charges and average cost per patient, which is usually used for major decision making. This causes imprecision in costing measurement. The lack of such functionality also prohibits the
organization from deploying advanced costing systems such as ABC.
Other participants also shared concerns about the hurdles their software systems create in processing and generating real-time data. For instance, one participant mentioned that, on certain costing calculation and allocation procedures, their system tends to be fast early in the year and slow and sluggish toward the end of the year when more data is loaded into the system, making it more difficult to perform enhancements at the same time as processing data.
In addition to the well-established focus on cost management, it’s important to acknowledge that the management accountant’s role in value delivery extends beyond costing to revenue and profitability analysis. To understand the role the finance function plays in revenue and profitability initiatives within the organization, we invited study participants to share their experiences as well as those of their teams. Key findings emerged in the areas of revenue
management, performance analysis and measurement, and capital investment decisions.
Revenue management. Price charge modeling has been adopted as an effective tool to manage revenue in the healthcare industry. The finance function engages in the modeling of price increases by, for example, examining the acquisition costs of supplies and monitoring price fluctuations of these supplies in accordance with changes in charge codes and other pricing factors.
Performance analysis and measurement. Finance and accounting teams are regularly engaged in the measurement and analysis of profitability. As one participant shared, whether and how to use the word “margin” in accounting reports is heavily influenced by the finance function given the differences in definition and calculation of various margins that capture different aspects of performance. For instance, the margin calculated as revenue minus direct costs presents distinctive information not fully captured by contribution margin, which is the difference between revenue and variable costs. The finance function is in a unique position to advise on the utilization of appropriate performance measures in accounting reports. Other participants also highlighted that their teams were consistently involved in profitability analysis at the division level (e.g., hospitals at various locations) within their healthcare systems.
Capital investment decisions. According to several study participants, their finance functions are involved in the decisions of all capital investment projects, including building a new hospital site, starting a new clinic, purchasing new equipment or machinery, and so on. The finance and accounting teams are invited to discuss, for
example, whether there’s demand in the market for the new site to be built, if the reimbursement is appropriate to cover the costs, what the true costs will be, or what changes are needed to existing operations to enable the success of the new business or initiative. Insights from the finance function have proven invaluable in these strategic decisions.
All roundtable participants concurred with the notion that the demand of the finance and accounting function in healthcare organizations extends beyond the traditional financial reporting and planning role that finance and accounting teams have historically played. In addition to reporting and planning, the finance function plays a significant role in financial analysis and operations management (e.g., supply chain management), driven by an increased demand for informed strategic decisions enabled by advanced data analytics.
According to one of the roundtable participants, in the past few years, their organization’s finance function has been engaged in supporting groups across the organization on the interpretation of financial data and the utilization of such data for various operational decisions. In the healthcare industry, there’s also a tendency to split the finance function into two parts. While one part still focuses on traditional accounting and reporting, the other part is more strategy-oriented and emphasizes the prediction and forecast of future scenarios.
Sometimes reluctance to change hinders innovation and adoption of new approaches.
Staggered Development
Software limitations pose challenges to data granularity, cost differentiation, and real-time access.
A lot of the requests come from outside [the finance function]. There is more emphasis on looking at the information right now.… We use Power BI to create that information based on demands and grant service line leaders access to the platform so that they can retrieve the information on their own without us generating [a] spreadsheet and sending [it] to them. This process has been proved to be very successful to this point.
Director of strategic finance at a charitable nonprofit healthcare organization
As it comes to profitability utilizing the cost accounting system, such as the profitability of service lines, the profitability of certain physicians or physician groups, and so on, all aspects of strategic planning were called upon in our data and cost accounting is heavily relied upon to make those strategic decisions.
Vice president of general accounting and finance at a medical center located in the Midwest
To the extent that we don’t spend enough dollars on preventive care [for groups that are excluded or marginalized] that don’t generate direct return, we are actually hurting ourselves economically and socially because we are not thinking through the full cost and benefit of the programs we might offer.… There’s a big place [for the finance function] to support such decisions with information and analysis, as this is not only the right thing to do for our communities but also for the financials of our organization.
Other participants shared that the finance function has been deeply involved in the intelligence side by, for instance, developing tools to capture and manage real-time labor cost data during the COVID-19 pandemic when there was a shortage of care providers in their hospital system. Often, the finance and accounting team is required to generate and provide insights efficiently, sometimes in real time, rather than on a monthly or quarterly basis through standard reports. This value delivery is achieved by being agile, ensuring the accessibility of data, and translating data into true insights that senior leadership and other teams can leverage.
When asked whether the role of the finance function has evolved, most participants did confirm that the finance function now “has a seat at the table” and is viewed as a strategic business partner. For instance, as stated by one of
the roundtable participants, their finance function has been involved in strategically directing care services to the right population informed by data and advanced analytics.
As we sought to identify specific ways in which healthcare finance and accounting teams could step more into their role as strategic business partner, we identified three key opportunities: increasing focus on revenue and profitability initiatives in the ways our roundtable participants are currently doing (as described earlier), contributing to lowering healthcare costs, and contributing to improved health equity outcomes.
Lowering healthcare costs. Roundtable participants discussed opportunities to contribute to healthcare costs (to the patient) in two contexts: (1) lowering drug prices through the 340B Drug Pricing Program and (2) bringing attention to cost-effectiveness.
The U.S. federal government’s 340B Drug Pricing Program aims to provide more affordable care by requiring manufacturers to supply eligible healthcare organizations and covered entities with drugs at significantly lower prices (bit.ly/3yuiG1I). Several study participants acknowledged that their organizations are participants of this program. They highlighted the importance and effectiveness of utilizing the 340B program to lower healthcare costs to patients in general and suggested that the finance function bring visibility of such opportunities to doctors, physicians, and other care providers in their systems to continue to drive patient savings. Through this opportunity, management accountants would play an influential role in adoption and implementation of strategy that benefits the end user of the organization’s products and services—the patient.
When it comes to bringing attention to cost-effectiveness, finance and accounting teams have access to an abundance of financial and nonfinancial data and are increasingly serving in decision-support roles. Some participants recommended that the finance function bring to the attention of senior leadership teams cost-effectiveness as it pertains to, for instance, in which location to conduct certain procedures (e.g., performing a minor procedure in a major academic medical center that’s heavily staffed will incur higher costs, which is not considered cost-effective). Others suggested a more patient-focused approach to classify indirect costs, as opposed to allocating them to overhead, to improve information transparency and subsequently achieve cost-effectiveness.
Improving health equity outcomes. According to the Centers for Disease Control and Prevention (CDC), health equity is defined as “the state in which everyone has a fair and just opportunity to attain their highest level of health” (bit.ly/422oUn2). Health equity can be achieved by eliminating health disparities attributable to social and economic determinants, such as race or ethnicity, sexual identity, age, disabilities, socioeconomic status, or geographic location (bit.ly/3Jd30F4). How can management accountants contribute to improving health equity outcomes?
Although this is a relatively new and under-explored area among finance functions, some organizations have started initiatives and provided training to leadership teams on health equity issues, and there is a role management accountants can play in addressing health disparities. One participant working for a large healthcare organization said their finance function helps support initiatives to establish freestanding clinics in a major metropolitan city. As in other major cities in the U.S., a large Medicaid and self-paid population exists in the inner city where there are food deserts and a lack of accessible care. Their organization partnered with places that are willing to establish clinics in their sites to help manage front-level care, including dental services, flu shots, wellness checks, and other basic screenings.
The finance and accounting team has played an important role in these endeavors by supporting the decision from a datadriven finance perspective, such as quantifying the investment and donation needs for these initiatives, illustrating their financial benefits, and optimizing the choice of sites based on the data of population health, demands for quality care, and so on.
Other initiatives toward health equity shared by participants include a street nurse program, in which nurses
are paid to provide care to the homeless, and a small pilot program that allows patients to receive care in their homes. Both programs are rewarding because they’re implementing a path to maintaining the health of the population in the community—at relatively lower costs—while preventing critical illnesses that could be extremely expensive to treat. In these instances, management accountants played integral roles in evaluating the feasibility of establishing the programs; developing and maintaining fiscal plans; and quantifying the financial, economic, and societal value of these programs relative to alternatives.
Our research reveals growing business demand for finance functions to deliver greater value through efficient data analysis and strategic insight generation. Some finance teams meet this demand by playing leading roles in cost and revenue management, performance analysis and measurement, and investment decisions. Yet many healthcare finance and accounting teams face limited resources within, underpinning, and surrounding their functions to deliver this value well beyond the traditional accounting, costing, control, and reporting scope. Outdated systems, data integrity and access, scarce human resources, and limited leadership bandwidth pose challenging barriers to modernization initiatives. Further, even in instances during which finance functions are meeting demands, broader contributions to macro-level initiatives such as lowering healthcare costs to patients and health equity remain largely untapped by finance functions.
While there remain prevailing challenges with respect to costing practice improvements, the finance function’s seat at the table alongside the opportunity and demand to deliver value persists. Healthcare financial management professionals are encouraged to consider adopting approaches employed by some of their peers as described herein, commence digital modernization journeys, upskill teams to ensure they’re equipped with necessary data analytics competencies, and embrace their role as strategic leaders— stepping beyond the bounds of financial data toward societal impact. In such a critical industry, management accountants are playing an important role in the tightrope walk between costing and value delivery to society. SF
Loreal Jiles is vice president of research and thought leadership and global head of DE&I at IMA, a member of IMA’s Technology Solutions and Practices Committee, and a member of IMA’s San Gabriel Valley Chapter. She can be reached at loreal.jiles@imanet.org
Qi “Susie” Duong, Ph.D., CMA, CPA, CIA, EA, is director of research at IMA and managing editor of the IMA Educational Case Journal (IECJ®). You can reach her at susie.duong@imanet.org
Richard Gundling, CMA, FHFMA, is senior vice president of professional practice at the Healthcare Financial Management Association (HFMA). You can reach him at rgundling@hfma.org
Companies need to future-proof their business as they transition from pandemic-related supply chain issues to a potential recession—and the radically different economy that may lie beyond.
BY RENE HOast year was a grueling year for the global economy. China’s zero-COVID strategy only eased toward the end of the year and put global supply chains under severe strain even as they struggled to recover from the damage caused by the pandemic. Russia’s invasion of Ukraine further disrupted these supply chains, an event that sent geopolitical uncertainty skyrocketing and signaled our entry into a new and potentially more threatening world.
The resulting energy crisis in Europe has presented a huge challenge to policy makers there. And while the United States has been relatively insulated from the worst effects of soaring oil and gas prices, it hasn’t avoided the worldwide bout of inflation that has moved key central banks into hawkish policy stances that are likely to continue long into 2023.
Yet despite the forbidding macroeconomic backdrop, the fundamental choices facing businesses haven’t changed: Maintain a strong balance sheet and anticipate, model, and prepare for future scenarios.
One key lesson of the last few turbulent years is that the breadth and nature of scenarios that need to be modeled have changed. A number of recent events were largely not taken into consideration by business leaders, from China’s persistent lockdowns to the war in Ukraine to a radical uptick in inflation—with COVID-19, of course, representing the “big one.”
But each one of these events has yielded lessons in how to prepare for black swan events—or indeed “gray swan” events that are predictable and unlikely, but very great in their impact.
These include some shifts to bedrock assumptions that may or may not be permanent but must be factored into any decision-making process for at least the medium term. For example, the balance of power has shifted from buyers to suppliers as long as current conditions persist. Depending on the nature of your industry, confidence in the viability of Just-in-Time inventory management has likely taken a hit as time lags between ordering and consumption lengthen. Taking a longer view, it’s clear that the global energy market is taking a different shape.
What other gray swans can we anticipate? Among the list, there could be another pandemic, one potentially of a disease even more dangerous than COVID-19. It’s also feasible that climate change could result in food shortages or rapid shifts in global population distribution.
Challenges lie ahead, however, while many businesses focus solely on the next 12 months. As we move further into a year where there is consensus among analysts that we will face a global recession, companies can adhere to five key best practices to manage tough times: Follow the recession playbook, embrace technology, prioritize sustainability, embed long-term planning into your management structure, and optimize working capital.
take to ride out tough times. First and foremost is prioritizing the preservation of capital on the balance sheet. There are a wide variety of strategies to achieve this.
A key is conservatism in deploying resources: budget freezes or cuts, hiring freezes, and ensuring recent investments start to earn a return before investing in new initiatives and the streamlining of your product offering.
As you prepare for a potential reduction in demand and/ or increases in costs, it’s sensible to forecast and model scenarios for different proportions of change—20%, 40%, or even more—and build contingency plans for each one. There are leading indicators that can give some indications of what you can expect, such as numbers of leads generated, visits to your website, or number of meetings booked. It’s also wise to come up with plans for what to do in the event one of your key suppliers ceases operations. You need to model scenarios that were unthinkable in the past.
Avoid sentimentality. If individual business units are significantly underperforming as the recession proceeds, you should restructure them before any contagion can spread. And, depending on your industry, there are typically segments of any market that hold firmer in a recession than others—be aggressive in targeting them while potentially stimulating demand with discounts.
At the same time, there are financial actions you can take that should smooth your ride through any downturn. These include carefully managing cash flows, including accounts receivable and accounts payable, to the fullest extent possible while preserving key relationships. It’s wise to lock in any pending debt or equity transactions.
After a significant period of inflation, pricing is in question as we move toward a recession. Many businesses will have increased prices in response to rising supply costs, but you may find that your customers have reached their limit and higher prices could begin to dent demand. This becomes an even bigger challenge should inflation continue as the recession hits, creating an unforgiving environment of “stagflation.”
One response to this would be to adjust prices in a flexible, nondogmatic way. Instead of increasing prices across the board, use strategically targeted increases to preserve your margins while offering other incentives to your customers, for example, volume guarantees, bundled projects, or service levels on a sliding scale.
Another approach to managing your passage through a recession is to actively seek to reinforce your customers’ relationships with you, regardless of your industry. They’ll be reviewing their spending and considering alternatives: Strong customer engagement will help you impede that decision. Money you save from, for example, automating processes can be redeployed to build the kind of business intelligence that can help you identify customer segments and delineate them by vulnerability to the downturn and openness to competitors. You’ll then be able to both target them in your marketing and adjust your product offer to meet their evolving demands.
The word “recession” can intimidate, but there is a tried-and-tested set of actions that business leaders can
Finally, are there any areas of your business that are outperforming as the downturn progresses? Explore investing in them further to reinforce success. This is also the time to be open-minded. For example, are there merger or acquisi-
Budget freezes or cuts
Hiring freezes
Determined at strategic level
Determined at strategic level; communication of motivations and future plans key
Communicated and implemented by finance director/manager
Communicated and implemented by finance director/manager
Buy-in from CEO; internal communications to deliver message constructively
Buy-in from HR and managers of relevant verticals
Conservatism in investments
Determined at strategic level; communications of priorities key
Streamlining product offering Determined at strategic level
Forecast and model recession scenarios Range of scenarios determined by CFO
Restructure according to shifting demand
Target resilient markets and stimulate demand
Manage accounts receivable and payable
Adjust pricing strategy to preserve revenue
CFO has key role in “selling” any restructure to other key decision makers
Guide strategic direction and build flexible culture
Determined at strategic level
Ultimate decision maker; top-down communication of goals critical
Finance managers triage existing investments for return on investment (ROI)
ROI of product suite determined by finance managers
Treasury department/finance controllers gather data and build models
Finance managers identify what to restructure and implement resources accordingly
Finance director to allocate budget for reinforcing success, cut budgets where prudent
Corporate treasurer manages incoming and outgoing payments
Finance managers contribute to determining how best to preserve margins
Product and delivery teams “on the ground” communicate what is working and what isn’t
Product teams test current offer to find “weak links”
Operations, product teams, and marketing all play a role in providing information
Buy-in for any serious restricting from CEO and board
Marketing builds strategy to reinforce or generate demand
Support from procurement teams
Sales teams’ feedback on customer tolerances
tion opportunities in the broader market? See Table 1 for an overview of the recession playbook.
In a recent survey of financial decision makers across key global markets, financial technology company Taulia discovered that 37% of businesses are investing in either automation or supply chain technology in response to concerns over inflation and a potential recession. Of the respondents, 43% of U.S. companies reported prioritizing investment in automation, while 41% are putting first either cutting costs or implementing new supply chain
management technology. Meanwhile, companies in Singapore were more likely to invest in supply chain management technology (46%) or automation (44%) than they were to prioritize cutting costs (37%).
What does this embrace of technology actually deliver? Companies don’t pursue updated technical solutions for their own sake. Very often, technology can act as a source of or conduit for better information reaching an organization’s leaders. And better information means better decisions.
Good data and good analytics enable more efficiency in your operations, greater visibility across your entire supply chain, and the identification of fluctuations in supply and demand before they occur; it’s no exaggeration
Deploy ERP or inventory management systems
Determined at strategic level—the key is to identify what goal the technology serves, rather than giving too much detail
Financial controller/director manages budgeting for major cross-function initiative
CTO and IT functions implement solution, integrate with existing system, and identify which legacy systems to keep; procurement teams buy in to leveraging learnings; strategy/ product teams adopt agile stances in readiness for change; HR develops training strategy
to say analytics should be the bedrock of your decision making. This not only better empowers businesses to ride out any recession, but any technology investment can lay the foundation for resilient future growth as the economic cycle turns.
Potential actions you can take include investing in automated solutions that can take on manual processes like invoice processing or creating purchase orders and expense reports. Scaling automated solutions across your organization could cut costs significantly, reduce the instances of human error, free up human resources, and free up capital to invest in your key priorities as the downturn progresses.
There are platforms on the market now that offer consolidated dashboards that surface real-time data on spending and other financial information. There’s also a growing number of platforms that can facilitate sophisticated enterprise resource planning (ERP) systems. Perhaps most usefully, they can act as a single source of truth for your organization—something that can add significant value, especially the larger and more complex your operations are, and markedly smooth internal communications.
Meanwhile, innovative new inventory management solutions are available that will allow you to distribute resources, personnel, and assets more efficiently and can open up opportunities to find efficiencies in intricate supply chains that may not be immediately apparent on the surface.
Before embarking on any large-scale program of investment in technology, however, there are multiple factors you should take into consideration. For instance, what legacy systems do you wish to keep—if any? Which of your team members will need training on the new platforms, and how? How will any new solution integrate with your existing operations and those of your external stakeholders and suppliers? Will you need to convert your existing data? If so, how will you define, examine, and analyze your existing data sources, and avoid the delays and increased costs associated with poorly managed and
executed data conversion? And, finally, will you require an external third party to support you as you find answers to these questions? See Table 2 for further tips on embracing technology.
As we head toward a likely recession, one notable change to the business landscape compared to recessions prior to the pandemic is the radically expanded importance of sustainability as a consideration in business operations.
Sustainability truly is at the core of the future economy. Unless decision makers across the private and public sectors make it central to their thinking, the long-term picture becomes a dark one. As such, whatever shape global supply chains take after this period of disruption, all stakeholders are highly likely to make sustainability a priority.
For all the breadth and scale of its impacts, it’s easy to forget that COVID-19 was, at its core, a natural disaster (of a kind). There are serious arguments that its global scale and brutal damage to business activity served to dampen illusions that we’re invulnerable to shocks emerging from the natural world.
Therefore, keeping sustainability top of mind in future strategy is a core element of any effort to embed long-term resiliency to any business. This is easier said than done, but there are a number of potential actions available that will make your organization truly sustainable.
Culture comes first: If sustainability has until now been an abstract idea rather than a reality for your company, embark on a cultural transformation project with the mandate of finding any structural obstacles to sustainable business practices.
Having done so, you’ll be in a strong position for making a company-wide commitment to finding innovative new ways to improve your sustainability posture. This means you’ll be able to embed ethics, values, and a sense of mis-
sion into your culture alongside, more practically, an organization-wide understanding that sustainability-related risks are material and not optional to manage.
Building ambitious diversity, equity, and inclusion (DE&I) strategies will allow you to include diverse new perspectives in this conversation and find solutions that may not have immediately presented themselves to your leadership team.
Turning to practical applications, you could explore strategies for incentivizing stakeholders in your supply chain to embed sustainable practices in their activities, perhaps by offering a supplier finance program. Gathering and leveraging accurate and actionable data around sustainability-related issues is critical—and this data could potentially be integrated into your ERP platform.
For your staff, there’s an educational opportunity to develop both broad and deep knowledge of any existing or new regulations across your business. You could embed sustainability criteria into your teams’ key performance indicators (KPIs) and incorporate them as you structure your leadership teams’ incentive packages.
The CFO has a vital role to play here. The unique nature of the role means that you have the opportunity to act as a node for the sharing of information on sustainability questions throughout your organization and developing new accounting frameworks that take into account nonfinancial KPIs. The CFO also has a real voice in the setting of strategic goals and developing the finance strategy that will meet them, managing the compliance and control systems that will ensure sustainability targets are being met, and identifying and relating any connected risks that can (and will) emerge. A CFO can catalyze change, steward success, and take responsibility for the intermediate steps between.
In terms of scenario planning, there are any number of sustainability-related scenarios to take into account in long-term planning. Climate risk is the most obvious, but everything from sudden shifts in regulations to the viability of a factory’s water source to the integrity of a supply of raw materials are just a small selection of material risks connected to sustainability issues. See Table 3 for suggestions for centering sustainability in business operations.
Build DE&I strategies Determined at strategic level; build incentive programs for leaders; culture of openness and inclusion set from the top
Incentivize suppliers for sustainable practices
Embed sustainability into KPIs
Embed sustainability into compliance function
Model sustainabilityrelated scenarios
Determined at strategic level
Determined at strategic level
Targets determined at strategic level; rewards for success (and penalties for failure) determined
Nature, time horizons, and severity of scenarios determined at strategic level
Finance managers ring fence budgets, examine own practices and culture
CEO and board buy in and set tone; review of team practices across all functions, in particular HR; internal communications support and sustain
Corporate treasurers and finance managers build program
Payroll manages; finance managers construct
Finance managers and treasury function manage consolidation and interpretation of data
Finance director manages cross-function collaboration
Product and procurement teams deploy and feed back
Board and CEO incorporate into own incentive packages
Procurement teams own sourcing, gathering, and sharing reliable data
Board and CEO buy in to incorporating learnings; all functions contribute ideas, insights, and input to planning
Review management incentive structures
Seek out innovation
Ring fence forecasting and research budget allocations
Adjust subordinates’ compensation to encourage longer time horizons
Determined at strategic level
Determined at strategic level; support offered to subordinates in disputes
Finance director and managers adjust payroll budgets accordingly; payroll team implements
Finance managers accept that not all research and development spend pays off immediately
Finance teams police budgets meant for long-term strategic innovation against short-term demands
Board and CEO buy in to possible cultural shift away from short-term thinking
All colleagues pursue new ideas, working practices, and technologies
Buy-in from CEO for potential operational constraints caused by budget ring fencing
It can be tempting as we move toward a likely economic downturn to think only in the short term, with even medium-term planning in danger of becoming considered a luxury. This is a mistake: Recessions are tough, but they do offer the opportunity to innovate and retrench for the future and can serve as a stress test of the resiliency of business practices.
The challenges mentioned already around sustainability and the broader economy won’t address themselves, yet neither is there a simple ready-made solution. Giving your leadership teams the semipermanent mission of long-term scenario planning—creating teams specifically for this purpose—will move you out of a purely reactive stance and allow you to take control of your business’s future.
There’s no right or wrong way to do this, but there are several approaches that can orient your company to the future. There are solutions available now that can enable you to build digital twins of critical parts of your supply chains for detailed scenario planning, which is useful for both long- and short-term planning. Almost every organization, regardless of size, is siloed to some extent—seek out opportunities for productive data sharing to make these models as powerful as possible.
Again, much of the success in long-term planning will likely be culturally determined. You can encourage a culture of long- and not short-termism by reviewing incentive structures for management accordingly and making it routine to extend time horizons for planning to five years or even longer. Innovation will be happening outside of the business, too—promote detailed research about consumer and business trends that could come to define your industry. You might just spot them before the competition.
On a practical level, an option is to separate forecasting from annual budgets. Rather than managing crises—and provided you can afford to—allocate capital in ways that are aligned with a long-term strategy.
Even during a recession, the most obvious but nevertheless most important way in which a business can orient itself to the future is in how it invests. Redefine what’s core to your operation and what could play a role in the emerging trends so the business is well-placed to benefit as the market evolves.
Recognize, however, that not all of these will be totally successful. Some will fail outright. This requires skillful stakeholder management, especially if your company culture is one that isn’t used to the iterative nature of experimentation and incorporating the learnings gained along the way. Table 4 presents ideas for long-term scenario planning.
From supply chain finance to dynamic discounting programs, CFOs have a number of options available to them for getting as much value as possible from their working capital arrangements.
Management teams tend to default to focusing on profit and loss figures at the expense of the rest of the balance sheet, and not many companies manage their liquidity as attentively as they manage their costs. This can be a mistake, especially during a recession, as adroit management of working capital can free up liquidity to the extent that companies may be able to avoid cutting staff numbers or restructuring operations.
To do this successfully, build a team of key internal stakeholders, from treasury to procurement to IT to accounting to legal, and ensure communication structures are in place to bring them along with the program and ensure their buy-in at every stage.
Review and reform accounts payable and receivable procedures
Review and reform supply chain
Determined at strategic level
Determined at strategic level; colleagues encouraged to find and embrace opportunities; metrics selected for determining success
Developed and deployed by finance managers and treasury function
Finance managers gather and review data, filtering for efficiency opportunities
Support from procurement teams
Support from procurement teams critical
your financial position. That means accurate data is vital, and a degree of flexibility is required in your approach. This will enable the business to at once secure better returns on excess cash, improve margins, and de-risk its supply chain, while retaining the capacity to adapt to shifting sources of funds as business needs change.
Many companies choose to pursue a working capital optimization program in partnership with a third party, but either way requires reaching out to suppliers to bring them along and choosing the right metrics to measure the program’s success. Table 5 is an overview of options for improving working capital arrangements.
The pandemic may be largely over, but we aren’t yet clear of its disruptive effects on the global economy. Analysts agree that 2023 holds in store both more inflation and recession in most developed markets. Leveraging the recession playbook of rigorous attention to costs and creative ways to manage falling demand should enable businesses to ride out the storm.
Next, identify any areas of opportunity that immediately present themselves. In managing receivables, encourage rigor in collections management and tracking any slippages. In managing payables, improve the supplier payment process, reform their timings, adjust the terms to a position beneficial to your business, and seek what efficiencies present themselves.
Distinguishing between strategic and tactical working capital optimization is important. A tactical approach— using tools like reverse factoring or procurement cards in isolation—can enable companies to address specific issues, such as alleviating the impact of extended payment terms on suppliers and giving suppliers greater certainty on when they will get paid.
Yet tactical measures can’t deliver the full potential of the supply chain opportunity. You’ll need to be clear on
Embracing the wide range of technological solutions now available to support business practices will both cut costs and place you in a strong position going forward. At the same time, sustainability is critical to any business’s long-term success; sensible decision makers should put it at the core of their decision making.
The best way to manage short-term challenges is to think long-term and use the opportunity of a recession to adjust and evolve your practices in ways that favor long-term planning. Optimizing your working capital can unlock value hidden on your balance sheet and potentially free up liquidity that can help you avoid difficult decisions. SF
Rene Ho is the CFO of Taulia. He can be reached at taulia @fullyvested.com
Be wary of the overlooked impact that inflation has on financial statements.
BY KEN ABRAMOWICZ, PH.D., AND D.J. KILPATRICK, PH.D., CMA
hile financial experts initially expected higher levels of inflation to be transitory, the annual rate of inflation rose significantly during 2021 and 2022. Many now believe inflation is a more persistent global issue that may remain much longer. Further, inflation is a worldwide issue (see Table 1) and may rise as China’s economy emerges from COVID-related lockdowns, increasing the international demand on various resources. While news reports focus on the effects that higher levels of inflation have on individuals and the economy in general, the effect that inflation has on financial statements is often overlooked.
During time periods when the annual rate of inflation is very low, as it has been over the last 40 years, users of financial statements can rely on the information contained therein to make important management and investment decisions. As inflation rises, however, the assumptions underlying current accounting theory may not always hold. Thus, the value of information contained in financial statements may be diminished. As a result, effects of inflation on the information contained in financial statements must be evaluated by management and investors before they rely on accounting numbers to make decisions.
In its Statement of Financial Accounting Concepts (SFAC) No. 8, Conceptual Framework for Financial Reporting, the Financial Accounting Standards Board (FASB) states that the general purpose of financial reporting is to “provide financial information about the reporting entity that is useful to existing and potential investors, lenders, and other creditors in making decisions about providing resources to the entity” (bit.ly/3kSiS7u). Oskar Bogstrand and Erik A. Larsson stated that to be useful, financial information “must both be relevant and faithfully represent what it purports to represent” (bit.ly/3EUSPTU). Relevance requires that information be able to make a difference in the decisions made by users, which necessitates that it has either predictive and/or confirmatory value.
The FASB also emphasizes that the usefulness of financial information is enhanced if it is reported in a timely manner and is able to be verified. Furthermore, the usefulness of financial information is enhanced if it is understandable to users of the financial statements and is able to be compared with information reported by other entities as well as with information reported by the same entity in a prior period.
Current accounting practice for many assets relies on the historical cost concept. When an asset is acquired, it’s recorded at the cost to obtain it. Following the monetary unit assumption, assets are maintained in the financial statements in nominal units of money and aren’t adjusted for changes in the purchasing power of money over time. In other words, numbers in the financial statements aren’t adjusted for inflation.
China
Switzerland
Saudi Arabia
Japan
South Korea Indonesia
India
Brazil
Spain
France
While accounting standards generally require assets to be recorded at historical cost, asset costs are sometimes written down. Examples include writing down a receivable or inventory to net realizable value or an impaired fixed asset to fair (market) value. But asset costs generally aren’t changed to reflect increases in current market values.
A consequence of current accounting standards is that the usefulness of many numbers in financial statements may be reduced during prolonged periods of high inflation. Assets listed on the balance sheet may become significantly
understated relative to current market values. Because asset costs become expenses on the income statement during the normal course of business operations (e.g., as inventory is sold or assets are used in the process of generating revenues), the understated asset costs lead to an understatement of expenses. As a result, while revenues reported on the income statement are generally measured in current dollars, many expenses are reported in nominal dollars from past years and don’t reflect the current cost of doing business. Consequently, earnings are generally overstated during periods of inflation.
The comparison of financial statement numbers from different years becomes increasingly more difficult if inflation extends over multiple years because no adjustments have been made for the changes in the value of a dollar. Some expenses on the income statement will reflect current costs of conducting business, and other expenses will reflect lower amounts that were recorded in prior years when costs were significantly lower. Consequently, the interyear comparability of financial information is reduced, as is the predictive value of reported earnings. Thus, the usefulness of information in financial statements will be diminished as inflation rises and persists for multiple years. Some may even argue that information reported in financial statements will at some point turn into misinformation unless adjustments are made related to the effects of inflation.
To provide a better understanding of the effects of inflation on financial information, three examples that can commonly distort earnings during times of rising prices will be discussed: interest expense on debt, depreciation on fixed assets, and sales of inventory.
One of the mandates of the U.S. Federal Reserve is to maintain stable prices in the economy. As inflation rises, the Federal Reserve commonly increases the federal funds rate in an attempt to increase borrowing costs throughout the economy, reduce the amount of money in the economy, and gradually stop the rise in inflation. With the rate of inflation reaching 7% at the end of 2021 and remaining between 7% and 9% during 2022, the Federal Reserve increased the federal funds rate 425 basis points during 2022 to a range of 4.25% to 4.5%. The Federal Reserve is hiking rates at the most aggressive pace since the early 1980s. At the December 2022 Federal Reserve meeting, Chair Jerome Powell indicated that while the size of the rate hikes will likely be smaller, the rate hikes will continue and the federal funds rate will remain elevated indefinitely, at least until inflation returns closer to the Fed’s 2% inflation target. On February 7, 2023, the Federal Reserve continued to take measures on inflation by again raising the federal funds rate 25 basis points to its current range of 4.5% to 4.75%. Thus, the current cost of borrowing money is increasing significantly for individuals and businesses alike.
During the past decade, entities have enjoyed the ability to borrow money at historically low rates of interest. As a result, the liability section of the balance sheet for many
Today the FOMC [Federal Open Market Committee] raised our policy interest rate by 25 basis points. We continue to anticipate that ongoing increases will be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2% over time.... Despite the slowdown in growth, the labor market remains extremely tight, with the unemployment rate at a 50-year low, job vacancies still very high, and wage growth elevated…. We are seeing the effects of our policy actions on demand in the most interest-sensitive sectors of the economy, particularly housing. It will take time, however, for the full effects of monetary restraint to be fully realized, especially on inflation.
businesses has increased annually for many years. Current reported earnings will benefit greatly due to the low rates of interest being paid on the existing debt. These funds are being used to generate revenues that are rising with inflation, yet interest expense reported on the income statement is low due to fixed interest rates on the debt. If entities issue new debt in the future to retire existing debt, however, they will need to pay significantly higher rates of interest to attract investors and their interest expense will rise accordingly. In other words, the effect of low rates of interest on existing debt will result in reported earnings that aren’t sustainable in the future if new debt must be issued to retire the old debt.
Earnings may also be artificially inflated through the retirement of existing debt. Because rising interest rates have an inverse effect on bond prices, the market value of current corporate debt is declining. This creates an opportunity for entities to retire their own debt through market purchases and report significant gains on the retirement of the debt. While such a gain should be reported as other income below the operating income line, it may result in a significant increase in net income and earnings per share. Thus, when evaluating reported earnings, investors should consider the positive effect of debt retirements during times of rising inflation.
When buildings and equipment are purchased, the acquisition cost is capitalized to an asset account. A variety of depreciation methods may be used to allocate the cost to the periods of use, but the central concept of depreciation is to match the cost of an asset with the periods during which revenues are generated through the use of the asset. During periods of stable prices, it’s assumed that depreciation of the asset over its useful life will generate an earnings number that can be used to make management and investment decisions. In fact, investors often view operating income as being predictive of future performance of the entity.
During periods of rising prices, however, the revenues generated by use of these assets will continue to rise with inflation, but the depreciation expense will continue to be calculated based on the original acquisition cost and estimates determined at the time the asset was acquired. Thus, revenues in current dollars will be matched against expenses based on costs from a prior period that may be significantly lower than the current cost of the asset. While the effects of this mismatch may be immaterial during times of relatively stable prices, rising inflation produces
greater effects in the later years of the useful life of an asset. Part of the earnings will be attributable to current operations, while part of the earnings reported on the income statement arise simply because an entity is using older assets. In other words, the predictive value of earnings will be reduced, making the reported earnings number less relevant and, thus, less useful to investors unless additional subjective calculations are made.
Calculations of financial ratios will also be affected by inflation. Take, for example, the return on assets (ROA) ratio (i.e., net income/average total assets). While inflation tends to cause revenues and net income to rise, total assets are reported using historical costs and won’t reflect the current cost of assets in this ratio. Assuming the managers of two entities are performing equally well during times of higher inflation, the ROA may be higher for the company with older fixed assets relative to one with newer fixed assets.
The following example illustrates the effects that fixed assets can have on accounting information during times of inflation. Assume that in 2020, a corporation has $100 million in revenues, $30 million in depreciation expense, and $60 million in other expenses, and its tax rate is 30%. (In other words, 21% federal income tax rate plus 9% state income tax rate; state income tax rates range
from zero to 12%. For simplicity, a 9% rate is assumed, thus creating the 30% corporate tax rate used in this example.) Income before taxes is $10 million, and aftertax income is $7 million. Thus, before-tax profit margin is 10%, and after-tax profit margin is 7%. This example assumes that no new fixed assets are purchased, straightline depreciation is used, and inflation is 8% annually. Thus, while the depreciation expense remains constant over the four-year period, revenues and other expenses increase 8% each year (see Table 2).
This example illustrates how constant depreciation on assets that haven’t been replaced can have a significant effect on reported financial numbers. While revenues increase by only 25%, both income before taxes and net income more than double. Financial ratios are also affected. Before-tax profit margin increases from 10% to 16.2%, while profit margin increases from 7% to 11.3%. Both the reported financial information and the related financial ratios are distorted by inflation. As a result, decision making during times of rising prices becomes increasingly difficult.
Inventory represents one of the largest items on the balance sheet of most retailers. When prices are stable, gross profit on the sale of inventory generally results from the process of buying and selling. During times of rising prices, however, gross profit inherently contains two distinct components: (1) profit generated from buying and selling inventory and (2) profit caused by holding the inventory. When first-in, first-out (FIFO) is used to determine the cost of goods sold, the costs of the oldest inventory are placed on the income statement and generate higher earnings. The faster prices rise, the greater the potential that holding gains will result in an overstatement of reported earnings during the current period.
Last-in, first-out (LIFO) places the most recent inventory cost into cost of goods sold on the income statement. Thus, LIFO results in a measure of profit that’s closer to the actual amount of earnings generated from buying and selling inventory during the current period. LIFO, however, generally results in an undervaluation of inventory reported on the balance sheet. Because the oldest costs are placed on the balance sheet, businesses that have been using LIFO for an extended period of time may report an inventory amount on the balance sheet that’s significantly lower than its current replacement cost. When calculating financial ratios such as inventory turnover and ROA, the denominator will be understated and cause each of these ratios to be artificially high. Thus, use of different cost-flow assumptions will reduce the comparability of earnings and financial ratios of businesses more during times of rising prices than when prices are stable.
“LIFO reserve” represents the difference between the cost of inventory reported using LIFO and the cost of inventory that would have been reported using FIFO (or an alternative cost-flow assumption). During periods when a business is expanding, the LIFO reserve will generally continue to increase as required inventory levels are increased.
On the other hand, if inventory at the end of a year decreases relative to the inventory that existed at the end of the prior year, part of the LIFO reserve is liquidated. Liquidation of old LIFO layers results in low costs from prior years being included in cost of goods sold and matched against higher revenues from the current year, thus increasing gross profit on sales. The higher the rates of inflation and the older the cost numbers, the more likely liquidation of LIFO layers will significantly overstate the earnings for the current year.
To see how inflation impacts inventory turnover ratio comparisons under FIFO and LIFO, consider the following example. Assume a company maintains inventory levels of 10,000 units while purchasing and selling 60,000 units per year. At the end of 2020, inventory cost is $10 per unit and annual inflation is assumed to be 8% during each of the next three years. Under FIFO, the company would report in its annual financial statements the cost of goods sold sections shown in Table 3. In contrast, under LIFO the company would report the cost of goods sold sections shown in Table 4 in its annual financial statements.
This example shows that during periods of inflation, cost of goods sold increases at a faster rate under LIFO than under FIFO. This causes net income to be lower under LIFO than under FIFO and creates the incentive for the company to use LIFO to reduce its tax liability. In addition, however, the use of LIFO during times of rising prices also causes the inventory turnover to increase relative to companies using FIFO. With each succeeding year, comparability in financial reporting is further reduced.
When the sale of inventory is a major source of income for business, it’s very important to examine the footnotes to determine the cost-flow assumption being used and to consider its effect on the financial statements. During times of rising inflation, this becomes even more important.
In 1979, the FASB released Statement of Financial Accounting Standards (SFAS) 33, Financial Reporting and Changing Prices, to deal with the high levels of inflation the United States experienced during the 1970s. While SFAS 33 maintained the use of nominal historical cost numbers for the financial statements, it required larger public enterprises to disclose supplemental information on the effects of inflation in the footnotes to the financial statements. Rather than requiring a comprehensive restatement of each item on the income statement, the FASB only required restatement of the items most affected by inflation (e.g., cost of goods sold, depreciation, depletion, and amortization). In addition, entities that used LIFO were generally not required to restate cost of goods sold because it was assumed to be very close to the current dollar cost of the inventory sold. Significant flexibility was allowed with respect to the methods of calculating current cost numbers that were required to comply with SFAS 33. Due to the expected complexities of compliance, the FASB also exempted certain industries (e.g., motion pictures, mining, oil and gas, and real estate) from making current cost disclosures.
Costco’s 2022 annual report illustrates the challenges of managing inventory costs in inflationary times. It notes, “Merchandise costs in 2022 were impacted by inflation higher than what we have experienced in recent years.”
Costco employed merchandising and pricing strategies in response to cost increases. But Costco noted the risk that “[i]f inflation on merchandise increases beyond our ability to control we may not be able to adjust prices to sufficiently offset the effect of the various cost increases without negatively impacting consumer demand.”
Source: Costco 2022 annual report (bit.ly/3y8maGG)
The creation of current cost accounting reporting standards proved to be difficult. For example, while the FASB opted for the use of the consumer price index to measure inflation, credible cases could be made for the use of other price indices. Also, because prices change continuously throughout the accounting cycle, the wisdom of using average prices during the year or prices at year-end wast debated. Various methods were developed, and each had its own merits and deficiencies. Over the next five years, the FASB released numerous SFASs modifying the current cost reporting requirements. By 1984, however, the rate of inflation had declined significantly. Soon thereafter, the FASB modified the current cost reporting standards, opting to encourage them rather than require them.
In addition to the effects of inflation on financial accounting information, it should be noted that the overstatement of earnings will also appear in tax returns. The U.S. Congress has enacted legislation mandating the indexation of many tax numbers (e.g., tax brackets, standard deductions, and various credits) to mitigate “bracket creep” and
prevent inflation from pushing taxpayers into higher tax brackets without experiencing any increase in purchasing power of their income. While indexation of many numbers in the Internal Revenue Code began in the 1980s, Congress has never enacted indexation of the tax basis of assets. As a result, taxable income is increased by inflation when investments are sold because the amount realized on sale is stated in current dollars while the deduction for the amount invested is measured in old dollars. Thus, part of the gain realized on the sale of investments is merely due to inflation.
Likewise, tax depreciation deductions on assets acquired in prior years are often understated, leading to a similar overstatement of taxable income. Although many have often argued for the indexation of investment costs for tax purposes, Congress has never enacted such a law. Thus, rising and persistent inflation causes taxpayers to pay more taxes even though much of the income may not reflect any real increase in purchasing power.
If inflation persists, the usefulness of financial accounting information will be diminished. Interest expense based on low interest rates on older debt would understate the reported interest expense compared to the interest cost that would be incurred in the future on new borrowed money. Depreciation based on outdated asset prices would understate the real cost of using fixed assets. Gross profit from the sale of goods would include both profit from buying and selling the goods and gains
from holding the inventory. Thus, earnings reported on income statements would likely be overstated by the effects of inflation. The FASB may feel increased pressure to modify accounting methods (or mandate additional disclosures) in an effort to maintain the ability of users to interpret the reported earnings. Developing new accounting rules or disclosures that better reflect the results of operations, however, would again be a difficult task and would require the resolution of many implementational challenges.
In the meantime, the impact of inflation should be carefully considered by users of financial information. For example, users should read the footnotes in annual reports and look for disclosures related to the effects of inflation. In addition, users could prepare a vertical analysis of the income statement and compare the results with the ratios from prior years to help identify anomalies that may have been caused by inflation. SF
Conventional, compliance-driven risk management practices easily degenerate into a separate illusory system. Companies should instead focus on improving decision making and dilemma reconciliation.
BY MARINUS DE POOTER, CMA, CFM, RA, CIA
ompanies’ understanding of dealing with the uncertain future has changed considerably in recent years. This has significant implications for the current approaches to risk management, whether it’s part of the duties of the finance department or the responsibility of a dedicated function.
This new understanding raises the question of whether risk management is redundant. Simply asking that question, however, will immediately raise the eyebrows of most risk, compliance, and audit professionals. Risk management has been long established as something that can and should be implemented—to not do so is considered profoundly unwise. It saves you from unnecessary pitfalls. And above all, risk management helps you achieve your goals. So why would it be redundant?
Risk consultants keep selling their services—risk frameworks, risk assessments, risk registers, risk matrices, risk dashboards, the list goes on—and many organizations continue to buy them. All these services are designed to capture, analyze, and address risk. Tim Leech (riskoversightsolutions.com) and others refer to this approach as “risk list management.” The ultimate goal is to mitigate what can go wrong.
Yet as Alexei Sidorenko (riskacademy.blog) and others point out, risk management isn’t really about dealing with risk but rather about making better decisions. Therefore, to what extent do decision makers need separate risk management if the following conditions apply?
■ Looking ahead and considering the uncertain future is part and parcel of their regular management responsibilities. They ask questions like “What can happen that could help or hinder the realization of our objectives?” They understand that their objectives are about creating and protecting value for their core stakeholders. They try to make realistic estimates of possible positive and negative impacts of what can happen on the interests of their stakeholders.
■ They demonstrate that they’re consequence-conscious. They’re aware that there are options to act or to refrain from acting. They consider the possible consequences of their options on the competing or even conflicting interests of their stakeholders. They take unwelcome information into consideration as well.
■ They show that they have the right competencies to weigh the potential positive and negative effects of their decisions. Their mentality leads to ethical considerations, balanced decisions, and honest reconciliations of dilemmas.
While there’s an entire industry and ecosystem set up around risk management, how well do its conventional approaches help decision makers deal with uncertainty, disruption, and dilemmas? Or is it more of a belief system? Could there be missionaries, believers, and inquisitors who have serious commercial interests in maintaining the system? Understanding the current dominant view of risk management, how we got here, and the challenges it creates can help find a new perspective on dealing with uncer-
tainty that could better support the goal of companies to stay future-proof.
Many executives see risk management primarily as a compliance matter. To them, effective risk management means above all that they don’t get into trouble with their external or internal supervisors. Due to their role, oversight bodies are hardly interested in the “upside” of risk. It’s their duty to minimize the downside.
During training, board members are taught to ask about the top 10 risks. That’s apparently a sign that management has thought carefully about the company’s vulnerabilities and taken suitable actions to mitigate them.
Board members and supervisory authorities keep asking for risk profiles with remarkable tenacity, which indicates
Risk management isn’t really about dealing with risk but rather about making better decisions.
As early as the 1960s, the first requirements from the U.S. Securities & Exchange Commission emerged for the inclusion of risk factors in documents in the context of initial public offerings. In 2005, there were requirements to include in annual and quarterly reports any factors that make shares speculative for shareholders. These requirements turned into the need to have a risk management framework: a coherent set of risk identification, analysis, mitigation, and monitoring—all aimed at preventing financial losses for those involved.
The idea of malleability is rampant in the planning and control world. Conventional risk management naturally fits in well with this DNA. It can be summarized by the ORCA approach. It involves stating your objectives, identifying your risks, implementing suitable controls, and obtaining assurance by monitoring their effectiveness. It promises to increase the likelihood that the future is going to unfold as anticipated.
Internal specialists and outside consultants used risk management to help organizations limit undesirable outcomes. It led to all kinds of methodologies and codifications of best practices. In the 2004 edition of the COSO Enterprise Risk Management—Integrated Framework, risk management was seen as a process. If you hadn’t implemented it yet, the risk consultants were lining up to assist you.
Extensive maturity models resulted in more bells and whistles. Numerous enterprise risk management (ERM) and governance, risk, and compliance (GRC) applications were developed. The more that risk management practices became mandatory, the more lucrative the revenue models became for consulting firms. It’s now a multimillion-dollar industry with high stakes.
Over the years, risk management became treated as a separate, stand-alone—even independent—process. Due to the maniacal focus on what can go wrong, less attention was paid to the real purpose of dealing with uncertainty: helping decision makers with balancing pros and cons when faced with dilemmas.
In the financial sector, legislators and regulators came up with a risk management function that must be independent of management. This function must inform the board of directors based on its own risk assessments. Another influence on the current practice of conventional risk management comes from the origin of risk registers as the basis for the well-known heat maps. The risk inventory lists became common in factories in the 1970s, where they had begun as lists with all kinds of points of attention regarding the safety of workers. When more and more regulations came in this area, those lists were used to draw attention to possible dangerous situations. Soon, they were given a function in the context of compliance, used by the inspectors who came to check the companies.
Governments and regulators subsequently embraced these standards as methods for demonstrating that organizations have their affairs in order. Thus, “risk management” (i.e., keeping risk lists) was gradually seen as a characteristic of good organizational governance.
that risk management has become an accountability tool. That’s quite different from a tool for better achieving your goals under uncertainty.
Recent insights underscore the issues with conventional risk management. Roger Estall and Grant Purdy conclude in their book Deciding that risk management is a millstone
hanging around the neck of organizations and should be abandoned.
First of all, what are we talking about when we use the word “risk”? There’s no universal definition. It’s striking that the International Organization for Standardization (ISO) uses more than 40 different definitions of risk in its own documents.
In both the 2013 Internal Control—Integrated Framework from the Committee of Sponsoring Organizations of the Treadway Commission (COSO) and COSO’s 2004 Enterprise Risk Management—Integrated Framework, “risk” refers to
something negative—something that can cost you money, that can be bad for your health, and that can discredit you. Since its inception in 2009, the ISO 31000 Risk Management— Guidelines used a neutral risk concept—as does COSO’s 2017 Enterprise Risk Management—Integrating with Strategy and Performance. In those documents, risk encompasses both positive and negative effects on the achievement of objectives.
These changes come with far-reaching consequences. Originally, COSO used four so-called risk responses: accept, avoid, reduce, and share. COSO added pursue—“accept increased risk to achieve improved performance”—as the fifth risk response in 2017. This is more in line with the common concept of balancing risk and return.
Because risk has very different meanings, simply using the term could lead to confusion. The conventional definition focuses on things that can go wrong. This is by no means holistic since decision making requires balancing pros and cons. For example, when you start investing, hopefully you aren’t only concerned with possible losses but also with returns. Alternatively, if you take risk’s definition to include both upside and downside risk, then you lose most people in your audience because of the negative connotation that risk has in common parlance.
Because of all this confusion, Norman Marks (normanmarks.wordpress.com) and others suggest avoiding the word “risk” entirely. Terms such as “uncertainty management,” “success management,” or “expectation management” might be better alternatives. I regularly use “value management.” After all, both COSO and ISO indicate that it’s about creating and protecting value. Value management also takes into consideration that different stakeholders value different things, such as safety, dividends, or punctuality. And the term appeals to people much more than “risk management.”
There’s no science called “riskology”—no dedicated field focused on the empirical study of risk. Rather, a self-contained risk management world has been created with all kinds of consultant-recommended paraphernalia. Those working methods must then be integrated into the existing management cycle.
One of the artifacts of conventional risk management is the risk appetite statement, which refers to the type and amount of risk a company is willing to accept. Yet how is the amount of risk expressed? There’s no unit of measure or currency for risk. Risk profiles suggest that you can add up risks for convenience purposes. Yet if you try to aggregate risks based on monetary value, you’ll soon discover that what you value most is difficult to monetize.
What we may not always realize is that opportunities and threats are our mental images of possible future events, changes in circumstances and trends. These images are strongly influenced by our personalities, knowledge, and experiences. Above all, as Nobel laureate Daniel Kahneman points out, we humans are very susceptible to biases.
Many risk assessments are done qualitatively. Scores are awarded to estimated likelihoods and effects using values on ordinal scales (for example, from 1 to 5), much like the type of scales used in opinion polls or to rate the quality of hotels. Yet one can’t simply multiply ordinal values in order to come up with risk scores as an attempt to prioritize risks.
While there’s an entire industry and ecosystem set up around risk management, how well do its conventional approaches help decision makers deal with uncertainty, disruption, and dilemmas?
Assess the personal values of your executives before hiring them.
2 3 4 Support colleagues who have the courage to speak up.
Look ahead from the perspective of your customer-serving colleagues.
Focus on impactful dilemmas and use a structured approach to reconcile them. 1
Keep decision makers conscious of the possible consequences of their choices.
Challenge assumptions in plans and advocate using scenarios.
Estimate the likelihood that the objectives will be achieved in your forecasts.
5 6 7 8
Remind decision makers of wishful thinking and other biases.
9 10 11 Invest in business intelligence as a fuel for decision making.
Seek and bring forward unwelcome information in addition to the optimistic.
Use common language and avoid risk management jargon. 12 13 14 Transform the risk management function into decision support.
Refrain from appointing risk owners and risk managers. 15 Remove risk management as a separate item on your meeting agenda.
Risk quantification is highly dependent on the quality and quantity of the data and on the assumed parameters in the model. If the assumptions used are no longer valid, the value of the model expires. Moreover, they remain just models; a map isn’t the area that it represents.
Quit reporting lists of risks and using heat maps.
Making decisions is never about a single objective. Exceptions include the one-sided “shareholder value” approach in which risks are mainly seen as threats to the earnings potential. We have all witnessed the derailments to which the approach “money as an end” instead of “money as a means” has led. In reality, decision makers
are faced with dilemmas because there are always competing stakeholder interests.
In contrast to the conventional approach that advises implementing a separate system called “risk management” aimed at countering troubles, more recent insights suggest a focus on looking ahead in a consequence-conscious way when making decisions. This involves considering the potential effects of acting or refraining from action as part of your regular business responsibilities.
Decision makers have to weigh the pros and cons of their options. Rarely does anything in life come with benefits only. There are always potential or actual drawbacks too. Take, for example, acquiring a retail property. It doesn’t only come with advantages, such as potential capital accumulation, more freedom to adjust
it to the company’s needs, and lower monthly costs than renting.
It’s essential to consider the possible disadvantages as well. In essence, if you need debt financing, you’re speculating with borrowed money. You may also end up in the unlucky circumstances of having to deal with subsiding foundations or a deteriorating neighborhood.
A management team won’t become successful by reducing failures. Periodically updating a list of things that could go wrong isn’t the same as figuring out how best to achieve the company’s goals. Success requires both seizing opportunities and limiting threats.
Making decisions is at the heart of management. It implies allocating scarce resources and limited people in order to deliver products and services that meet requirements and expectations. In his book Risk Management in Plain English: A Guide for Executives, Norman Marks emphasizes the importance of focusing on increasing the likelihood of your success. That involves weighing possible pros and cons when reconciling dilemmas.
Articles and Reports
Mark L. Frigo and Richard J. Anderson, “The CFO and Strategic Risk Management,” Strategic Finance, January 2021, bit.ly/3IKXtFb
Harshini Siriwardane, Ella Mae Matsumura, and Sridhar Ramamoorti, “Strategic Risk in the New Normal,” Strategic Finance, December 2021, bit.ly/3J4E6IL
Mark L. Frigo and Kip Krumwiede, Strategic Analysis—Methods for Achieving Superior and Sustainable Performance, April 2020, bit.ly/3kKmYP5
James F. Boyle, F. Todd DeZoort, and Dana R. Hermanson, “Risk Management Programs’ Effect on Financial Professionals’ Accountability and Investment Decisions,” Management Accounting Quarterly, Summer 2018, bit.ly/3ZgMHxt
Paul L. Walker, William G. Shenkir, and Thomas L. Barton, A Risk Challenge Culture, IMA and ACCA, August 2014, bit.ly/3mlZq3D
William G. Shenkir and Paul L. Walker, Enterprise Risk Management: Frameworks, Elements, and Integration, 2014, bit.ly/3miNVtM
Count Me In Podcasts
Episode 20: Sandy Richtermeyer – Enterprise Risk Management, bit.ly/3kLTC2H
Episode 196: Amanda Cohen – Why your company needs a risk management makeover, bit.ly/3KPXRVy
Continuing Education
COSO Enterprise Risk Management Certificate - Online Self-study, bit.ly/3matFu4
Why would you first create a separate risk management system and then try to integrate it into your regular management system? Isn’t it much wiser to start from the position of the decision makers?
Making balanced decisions requires the willingness to factor in unwelcome information as well. When interpreting the information at hand, you need to be aware of your exposure to ingenious influencing and framing techniques. Parties will highlight the advantages and mask the disadvantages of an available option that serves their interests. That’s why it’s important to engage coaches who think constructively and critically, who question and challenge your choices, and who want to help you increase the probability of your success.
Do you really want to add value as a management accounting or finance professional? Provide decision support as a critical friend when assisting colleagues with preparing realistic plans, business cases, and forecasts.
To stay future-proof, what executives really need to know is how likely it is that their plans and strategies are going to succeed. Therefore, as a management accounting and finance professional, assess the extent to which management team members ask what-can-happen and what-if-x questions, make their assumptions explicit, and show consequence consciousness.
Investigate how they deal with assumptions in proposals, budgets, business outlooks, and so on. Are their estimates realistic and balanced? Are the right experts involved? Is there room for critical voices? If decision makers choose an option because of the perceived advantages, are they also prepared to deal with the associated disadvantages?
Pay attention to the mentality of team members. Dilemmas are about ethical considerations. In practice, decision making is about dealing with competing interests, such as commerce vs. compliance. Imagine a prospect with all kinds of dubious business activities offering substantial earnings potential for your organization as a service provider. Which interests of which stakeholders do the executives give priority to?
Always discuss which objectives should be the priority. It’s a warning sign if only commercial interests predominate. This isn’t about what is formally stated on the website, but rather pay attention to the attitudes of executives and other decision makers. If avoiding getting caught is the main driver of compliance policies and practices, it tells you a lot about the company’s core values.
Stop maintaining risk inventories for the sake of identifying risks. Quit updating risk registers every year or quarter. Don’t spend endless time assessing risk levels. Risk management isn’t about updating risk lists. It’s about the likelihood of your success as an organizational unit, function, or project.
Don’t think about how the quality of risk appetite statements can be improved. Focus on how decision makers can be supported to make better decisions. What information do they need to be able to consciously weigh the pros and cons when making important choices such as product introductions, takeovers, or outsourcing?
Finally, realize that there’s reason for humility. Our human abilities to predict the future are seriously limited. It’s never possible to imagine in advance what could happen in a world with so many actors and factors. Instead, you need people who are alert to what’s going on, who welcome unpleasant news, and who are able to improvise. SF
If decision makers choose an option because of the perceived advantages, are they also prepared to deal with the associated disadvantages?
You will often encounter long formulas in Excel with many functions nested together. If it isn’t a formula that you created, figuring out what’s happening within it can be difficult. The Evaluate Formula icon found on the Formulas tab is one of the most comprehensive tools for formula debugging.
BY BILL JELEN
Select a cell that contains a formula. Click the Evaluate Formula icon, and Excel displays the formula in the Evaluate Formula dialog. One part of the formula will be underlined. This indicates the portion of the formula that will be calculated next.
At the bottom of the dialog are four buttons: Evaluate, Step In, Step Out, and Close. If you click Evaluate, the underlined portion of the formula will be calculated, with the result shown in the dialog. The next part of the formula to be calculated will be underlined.
In Figure 1, the first part of the formula to be evaluated is the reference to cell D3. Instead of clicking Evaluate, you could click Step In. A second, nested box appears in the dialog with the formula in D3. You can then choose to evaluate D3 one step at a time or step to any portion of the formula in D3.
The Step Out button is used to close the second formula and return to the formula shown at the top of the dialog.
Often, you’ll be interested in just one portion of a formula. If you click into the formula bar and select that portion of the formula, you can cause Excel to calculate that portion by pressing the F9 key. Excel will replace that portion of the formula with the answer from that portion of the formula.
Once you have pressed F9 inside of the formula, you have three ways to proceed:
■ Press the Esc key. Excel will clear any formula changes up to that point and exit formula editing. This can be a problem if you were building a long formula and pressed F9 on one part of the formula.
■ Press Ctrl+Z to Undo. The formula will stay in editing mode, but the solution revealed by pressing F9 will return to the original part of the formula.
■ Press Enter. This ruins your formula, hard-coding the subresult into the formula. I will admit that I have done this way too many times over the years.
Recently, a new change rolled out to Microsoft 365 subscribers that will be a benefit to those who frequently use the F9 key within a formula. Select any part of a formula in either the formula bar or in the in-cell editor and then hover for a moment. Excel will reveal a tooltip with the result of that part of the formula.
This is the same result that you would see if you pressed F9, but without actually inserting the calculation into the formula. In Figure 2, the tooltip with the numbers 1 to 30 show the lookup_array argument of the XLOOKUP function.
The best part: Unlike using F9, the tooltip isn’t changing your formula. You can now hover, examine the
tooltip, and leave the formula intact. The feature will be rolling out slowly to the monthly and semiannual channels, so watch for it to appear in your Microsoft 365.
You might notice it when you use the Alt+= shortcut to create an AutoSum. Excel frequently proposes a range to sum and selects those characters in the formula so you can easily change the sum range. Because Excel has selected the sum range argument inside of the SUM function, the tooltip will appear with the numbers being summed.
I want to share a great Excel formula tip that Financial Modeling World Cup champion Diarmuid Early passed along in a comment to one of my YouTube videos.
The XLOOKUP function used in this month’s example has a hash (#) character at the end of the function. The hash character tells Excel that you want to return all of the results of a dynamic array. In this case, the lookup table has a series of horizontal dynamic arrays in column N. Each array contains a different number of cells.
If you used =XLOOKUP(D3:M3:M32, N3:N32), Excel would return just the first cell of the array from column N. By adding the hash to the end of the formula, Excel returns the entire array that starts in column N, =XLOOKUP (D3:M3:M32,N3:N32)#
Thanks to Diarmuid Early for passing this along. Watch Diarmuid this December 9, 2023, as the Financial Modeling World Cup returns to the ESPN family of networks. SF
Bill Jelen is the host of MrExcel.com and the author of 67 books about Excel. He helped create IMA’s Excel courses on data analytics (bit.ly/2Ru2nvY) and the IMA Excel 365: Tips in Ten series of microlearning courses (bit.ly/2qDKYXV). Send questions for future articles to IMA@MrExcel.com
Microsoft’s new tooltip should avoid the need to use F9 inside of a formula.Figure 1 Figure 2
With updated information security requirements on the horizon, management accountants are positioned to influence the changes ahead.
nformation security and cybersecurity are areas with an intensive need for ongoing monitoring, review, and adjustment in the face of developing threats and challenges. With technology advancements, new products or services, and changing compliance requirements, organizations are called to develop a more unified, disciplined approach in response to any negative and adverse risks or vulnerabilities within their organizations. Management accountants and finance departments are integral to these efforts. Finance professionals are knowledge partners in answering significant questions related to protecting financial data, information, and cybersecurity for critical financial IT solutions within an organization.
The U.S. Federal Trade Commission’s final rule amended the Standards for Safeguarding Customer Information (Safeguards Rule) under the Gramm-Leach-Bliley Act (GLBA). “The Safeguards Rule requires covered financial institutions to develop, implement, and maintain an information security program with administrative, technical, and physical safeguards designed to protect customer information” (bit.ly/3KWwmKi). These new final rule changes further define information security program requirements for financial service organizations identified as financial institutions within GLBA. The rule provides safeguards to protect the security of customer information.
Effective January 10, 2022, the definition for “financial institutions” will now include organizations engaged in financial activities from a much broader perspective. It’s more about activities than specific organizational categories. Organizations that bring together buyers and
sellers of a product or service may be within the rule’s scope. Under the new rule, the following are examples of financial activities that will now need to be measured for compliance:
■ Retailer providing credit by issuing its own credit card
■ Automobile dealership that, as a usual part of its business, leases automobiles on a nonoperating basis for longer than 90 days
■ Personal property or real estate appraiser
■ Collection agency services
■ Credit bureau services
■ Asset management, servicing, and collection activities
■ Leasing personal or real property, real estate settlement servicing
■ College and university financial and school loan services
■ Securing buyers and sellers of any product or service for transactions that the parties themselves negotiate and consummate
These financial institutions will need adequate representation and reporting for information security programs, more accountability, and sufficient controls. This will include designation of a specific qualified individual responsible for overseeing and implementing the information security program; ongoing internal and external risk assessments and inventory; periodic reports to boards of directors or governing bodies; and development of physical, administrative, and technical safeguards to “protect customer information.”
Further, financial institutions will need to incorporate more specific aspects of an information security program, including a written information security program, encryption of customer information over external networks and at rest, multifactor authentication, and secure disposal of customer information. Those institutions that
collect customer information from fewer than 5,000 consumers will also be exempt from certain rule requirements.
As of June 9, 2023, a new set of requirements takes effect. A qualified individual must be appointed to oversee an information security program. Risk assessments should be documented. Encryption standards are to be implemented for all sensitive information in transit and at rest, and multifactor authentication or the equivalent protection needs to be in place for customer information access.
Access to sensitive customer information will need to be monitored and limited, and security personnel training will need to be continually updated based on risk assessments and/or with changes in security practices. Periodic security practice assessments of service providers should be performed, and a written incident response plan should be developed to respond to and recover from security events materially affecting customer information. Finally, reports on security programs from a qualified individual should be written at least annually to the board of directors.
So what does this mean for your organization, and how can management accountants play a role? First, elevate the Safeguards Rule changes to executive management for discussion and awareness. These rule changes may subject your organization to operational efforts beyond expected tactical and budgetary plans determined for the upcoming years.
Engage both the compliance and legal departments to determine whether your organization is now considered a financial institution under the Safeguards Rule changes. Timeliness in figuring out if this new legislation applies to you as an organization is paramount. This may be a stop-go gate for added decisions going forward and impact the other mentioned efforts that follow. If so, begin efforts to start a compliance readiness program to decide current gaps between current information security practices and the Safeguards Rule.
Decide if this is an initiative that can be managed in-house or if outside consulting services will need to be incorporated to help assess organization-wide information security governance and process activities. Your organization may be in a position with limited capacity to complete assessments. Move forward
with an assessment by leveraging and revisiting any pertinent information security policies, procedures, and earlier work efforts and work papers for analysis, and establish baseline efforts between where you are now and where you need to go for rule compliance. Minimize the duplication of other work products within your three lines of defense construct. This may include risk assessments completed by internal or external audit.
Include a review of current financial information security controls, addressing how to manage financial and accounting metadata, work papers, and electronic reports in core information technology information systems, as well as disposal and the storage location of this data, and encryption standards. This is in addition to the accompanying information security governance assessment. Where determined, begin recalibration of information security practices where differences are discovered. This may involve realignment in your governance and practices for risk assessments, incident response plans, and vendor oversight programs.
Communicate and coordinate these efforts with external auditors, as needed. This may be an area of external audit consideration these next coming years. Try and forgo any rework where applicable. Maintain sufficient work papers for external requests by auditors or regulatory agencies. Complete annual reassessment and realignment with new information security practices and changes implemented during a current year. Reference year-over-year baseline and update in a timely manner when significant changes were implemented. This should apply to other areas of compliance beyond GLBA. Review your current legislative and strategic governance risk profile. As an organization, assess the consequences of new or changes in legislation.
These GLBA Safeguards Rule requirements may not be easy lifts for affected financial service entities. Responsive, initiative-taking implementation changes to information security programs may be necessary to meet these 2022-2023 revised rule requirements. SF
Jim Tadewald, CMA, CFM, CRISC, CDPSE, CIA, CFE, is principal at GRC Advisory Services International and a member of IMA’s Technology and Solutions Practices Committee and San Francisco Chapter. He can be reached at jtadewald@global.t-bird.edu
BACK IN 2020, pondering what I wanted to do next in my career, I realized it had been more than five years since I last got a formal academic certification or degree. I’d acquired my bachelor’s degree in accounting in 2014 from the University of Buea in Cameroon, my home country. I was lucky to have started gathering professional experience immediately after graduating, first from volunteering as an accountant, then to working full-time as a general ledger accountant.
In the six years after obtaining my degree, I performed duties that required basic general ledger accounting knowledge, which I executed smoothly given my strong background in accounting
Ngafor Ernest, CMA, is project accountant at Kirintec International DMCC in Dubai. He is also a member of IMA’s Abu Dhabi Chapter. You can reach him at ngaforernest20 @gmail.com
(I was an accounting major throughout my secondary and high school academic journey). Still, I’d always yearned to obtain a globally recognized certification. With numerous options available to me, choosing the right one became crucial. For most young professionals, the impact that technological advancements have on the global economy and business plays a vital role in selecting the best career path. Given my personal purpose and desired career destination, I chose the CMA® (Certified Management Accountant).
Why the CMA? A thorough review of the exam content and curriculum revealed to me that the certification cuts across financial, cost accounting, and management accounting topics. By incorporating technology and analytics into the study materials, young finance professionals like me
can prepare for the digitally evolving corporate environment of the 21st Century. I also believe that dreams of achieving career heights can only be attained with the right mix of qualifications and experiences, since luck best occurs when opportunities meet preparation.
While preparing for the CMA exam, I was able to apply some of my newly acquired skills to help reduce costs at my job. This involved employing inventory and internal control procedures that mitigated the commission of errors and fraud and instilled a sense of ethical consensus in the workplace. Using acquired knowledge of financial statement interpretations and budgeting also assisted in my strategic reporting and recommendations to management. Most important, however, after earning my CMA, I gained leverage that enabled me to change jobs and negotiate a better pay package with greater potential for career development.
I was then selected as one of five global participants in the 2022-2023 IMA® Young Professional Leadership Experience, where I took part in the IMA Global Board of Directors meeting last October and enjoyed a great networking opportunity with accomplished finance veterans. Thanks to these experiences and more, I’m just getting started on a fun and adventurous career metamorphosis.
I encourage all my fellow young finance professionals to equip themselves with the right tools and knowledge to handle the hurdles of the profession. If you want to constantly learn and challenge yourself—all while abiding by mandatory ethical principles—then join the IMA family. SF
CMA
«I’m just getting started on a FUN AND ADVENTUROUS CAREER METAMORPHOSIS.»
