New Applications for Financial Disciplines

The modern chief financial officer (CFO) is usually the key adviser to the CEO and the board of directors. It is the CFO, after all, who assures that an organization is capable of meeting its financial obligations. The CFO is also responsible for obtaining the financial capital required to execute the business strategy. That capital must be deployed to its highest uses. When other executives advocate new initiatives, the CFO often plays the critical role of a skeptic, challenging assumptions and projections and tempering wishful thinking with objective analysis.

The CFO is also the master of measuring and monitoring. Indeed, the finance function audits transactions and sniffs out the costs and profitability generated by almost every operation. Want to know the average return on assets for the last five years? Whether financial performance in the company is improving or flagging? Which products are most profitable? Ask the CFO.

Despite their propensity for measurement, however, few financial executives have taken the measure of human capital. Only 16 percent say that they have anything more than a moderate understanding of returns from what is often the company’s largest single investment—human capital—according to a survey done by CFO Research Services. Fourteen percent profess to be clueless (see Figure 12-1).^[1] This poor state of understanding about human capital returns among every corporation’s most skilled number crunchers suggests two things:

Figure 12-1: To What Extent Do You know The Return On Your Aggregate Investment In Human Capitol Source: Human Capital Management: The CFO’s Perspective (Boston: CFO Publishing Corp., 2003), 3.

1. Many, if not most, companies are unable to apply financial discipline to their largest single investment.

2. Many CFOs are not equipped to give advice about resource allocation for the people side of the business.

This also explains why so few financial executives explicitly consider the value of human capital when decisions about layoffs are made. Knowledge, experience, and informational “nodes” in organizations—all assets with long-term value—are lost whenever this year’s books are balanced by cutting payroll. However, only 38 percent of the respondents admitted to weighing those losses against the benefits of cost savings in the CFO Research Services survey. In the same vein, 30 percent of financial executives confessed to paying little or no attention to the future value of the individuals they let go during downturns.^[2]

Fortunately, this situation is changing. More and more financial executives are recognizing human capital as a key driver of customer satisfaction, innovation, and profitability: the underpinnings of long-term value creation. Also, they are getting involved through greater partnering with HR managers and by factoring human capital into their valuations of acquisition targets. Many financial executives are seeking larger roles in decisions about human capital. Undoubtedly, some of this increased involvement is measurement-oriented, such as sponsoring the implementation of nonfinancial measures of performance to complement the financial measures. Although measures such as employee satisfaction should not be ignored, a financial executive should not be satisfied with nonfinancial measures that cannot be proved to be related to financial outcomes.

The measurement-based approach described in this book offers new tools for gauging the impact of human capital attributes and practices on business performance. Business Impact Modeling, for example, can enable finance executives for the first time to assess the likely returns of further human capital investments against the likely returns of alternative investments. The net effect of this new approach will redefine the role of CFOs, broadening their capabilities and responsibilities in the realm of human capital. Best of all, a CFO’s expanded role will rest on a firm foundation of facts. A closer working relationship with the HR side of the organization will enhance the ability of the two to come together as informed strategic partners to drive business results.

If you are a financial executive, it is time to examine the issues raised in this section. The more informed you are about human capital returns and the investment aspects of people programs, the better an adviser you will be to the CEO and the board of directors. Becoming more informed calls for greater partnering with the head of HR. Working together, you can develop appropriate tracking metrics and find better ways to evaluate the economic returns of costly people programs.

^[1]Human Capital Management: The CFO’s Perspective. Boston: CFO Publishing Corporation, 2003, 4.

^[2]Ibid., 30–31.