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Longview Solutions has a longstanding presence in the financial performance management (FPM) software market and was rated a Hot vendor in our most recent FPM Value Index. Several years ago it began offering a tax provision and planning application. I think it’s worthwhile to focus on the tax category because it’s less well known than others in finance and is an engine of growth for Longview. We expect larger corporations increasingly to adopt software to manage direct (income) taxes to improve the quality and efficiency of what today in most companies is an inefficient, spreadsheet-driven process.
Longview’s tax offering consists of four main components. Its Tax Data Platform can be the central repository of a corporation’s tax information. I’ve commented on the need to maintain tax data separate from the data that’s used for financial reporting, managerial accounting and performance management. One reason is that tax accounting must be aligned with legal entities, not corporate organizational structures, because direct taxes are levied on legal entities, not corporate divisions or reporting hierarchies. A second is that tax data must be held in an “as was” state, without regard to subsequent corporate actions such as acquisitions and divestitures or management reorganizations. Longview’s Tax Data Collection software consolidates book and tax data from disparate source systems; it is designed to automate and streamline the movement of data and eliminate time-consuming manual work. It can do consolidations in different, parallel paths if dissimilar methods of consolidating tax-related data are required by the statutes of individual taxing authorities. The Tax Provision/Reporting component performs global tax accounting and reporting. And Tax Planning supports a company’s analysis and planning of its taxes.
Software vendors are taking two different approaches to dedicated tax management software. One mostly focuses on the needs of the finance department: It automates and simplifies incorporation of already calculated tax data into the financial consolidation and close process. This is useful for companies that operate in up to a handful of tax jurisdictions and have relatively simple legal entity structures. The other approach addresses the needs of the tax department as well as the rest of the finance organization. Longview’s tax offering falls into the latter category because it provides the functionality and data-handling capabilities that tax departments need to streamline their operations, enhance their ability to manage tax expenses and improve senior executives’ understanding of tax exposures and strategies to deal with them.
Longview’s tax software can replace desktop spreadsheets, which are the most common tool used for direct tax provisioning and planning in companies of all sizes. Spreadsheets are the wrong choice for managing taxes because they are so time-consuming. Tax departments use them to make often complex tax calculations, manage tax data and direct tax processes – these are tasks that dedicated software can handle easily but spreadsheets cannot. They are not well equipped to do these tasks quickly and accurately on a consistent basis. Consequently, facing looming deadlines, tax departments have little if any time left over to analyze and plan tax exposure and tax expense options more broadly and more intelligently. Spreadsheets also do not provide sufficient transparency or forward visibility in a timely fashion in the way that a dedicated system can. Spreadsheets make it difficult for companies to manage their tax risk exposure in a consistent fashion across all business units. They do not give executives sufficient insight into their risk exposure options. Our research on the financial close finds that a majority (53%) of finance executives believe that having better understanding of and deeper insight into their company’s tax positions would enable them to reduce their tax expense.
There are several other reasons why desktop spreadsheets are the wrong choice for handling taxes strategically. One is that tax laws and regulations are so fiendishly complex. For example, some countries have industry-specific statutory reporting requirements (for example, for insurance companies and other financial services). Tax calculations for subsidiaries in one country may not apply to those required for a regional headquarters or the parent company. There may be multiple tax rates applicable to a given legal entity and multiple bases or methods on which to apply each tax rate. Moreover, because book accounting for taxes and actual tax calculations almost always differ in multiple ways, it’s necessary to record and track these differences. Since rules, rates and assumptions will vary from year to year, it becomes necessary to adjust these differences. Desktop spreadsheets lack the dimensionality, data integrity and referential integrity necessary to be able to manage this level of detail easily. Dedicated tax management systems are designed to do it.
One reason why tax departments lag in adopting new tools is that until recently the technology necessary for managing the full range of requirements in direct tax analysis, provisioning and compliance was not mature enough for the organizations that needed it the most. Until recently, corporations that operate in multiple, worldwide jurisdictions with even modestly complex legal entity structures overtaxed the ability of IT systems to support them. However, using dedicated software for direct tax management enhances the efficiency of the tax department, enabling it to become more strategic and contribute to improving the company’s results.
Adopting a more strategic approach to managing direct taxes is an emerging trend in finance organizations, but it’s still at an early stage. Tax compliance is usually the main (and overwhelming) focus of tax departments. Most do this essential work reasonably well, but compliance is a tactical issue. To elevate tax management to a strategic level, tax and finance executives must have greater visibility into tax data and how operational decisions affect tax exposures. For example, finance and tax executives may construct a tax-optimized approach to transfer pricing, but their strategy may not be implemented if the company’s incentive compensation system is not aligned to this strategy. Operating managers in high-tax jurisdictions will try to maximize revenues because that’s what they’re rewarded for, even if it results in higher taxes than are necessary. Using spreadsheets is a significant barrier to tax departments taking a more strategic role in their company. When direct taxes are managed using desktop spreadsheets, there rarely is time for organizations to do much more than basic compliance. There’s usually not time to discover the fundamental disconnects between tax strategy and reality or other, similarly strategic activities such as analyzing and assessing the tax implications of long-term corporate plans.
Indeed, one sign of the tax function’s lack of strategic impact is its invisibility. There is a general lack of understanding of how the tax department functions, even within the finance department. For example, our research discovered that nearly two-thirds of finance executives (and, specifically, 60% of CFOs and controllers) do not know how long it takes their tax department to calculate tax liabilities.
Another reason is the relatively low status of tax departments in their company, which we can gauge through the distribution of titles and relatively low compensation for the highly credentialed individuals in these departments. Those that work in tax also tend to be tight-lipped and reluctant to reveal that their processes are time-consuming and difficult to manage, lest they be viewed as less than competent. The tax department’s invisibility contributes to a lack of focus on direct taxation by senior management, which also diminishes an understanding at that level of the potential benefits of investing in technology. Companies that are most likely to want to improve how they manage their direct taxes appear to be the ones where a senior finance department executive has spent time in tax and therefore has a firsthand appreciation for the challenges.
I’ve commented on the need to make tax more strategic. An increasing number of companies are finding that investing in dedicated software to improve the performance of their tax department is worthwhile. It gives them a deeper understanding of how best to manage what is usually one of their biggest expenses and enables them to make more optimal decisions about taxes. I recommend that all larger companies look into the benefits they can achieve by making their tax department more strategic and that they investigate dedicated software such as Longview’s that can enable them to have such a strategic tax function.
Robert Kugel – SVP Research
The keynote theme at this year’s Sapphire conference in Orlando was Simple. Top executives from SAP, a software company associated with complexity, stated and restated that its future direction is to simplify all aspects of its products and the ways customers interact with them and the company itself. SAP’s longstanding and commendable aspiration to thoroughness in its software will be giving way to an emphasis on elegance in its engineering. This objective is more than admirable – SAP’s future competitiveness depends on it. Changing the fundamental architecture of SAP’s offerings – already well under way with HANA – is absolutely necessary. The design underpinnings in SAP’s ERP applications, for example, have been shaped by technology limitations that have disappeared, as Dr. Hasso Plattner, one of the company’s founders, pointed out in his keynote. However, the relevant issue facing SAP and the software market is how far the company can progress toward this goal and how fast.
The stress on simplicity in the keynote addresses may have been more for internal consumption – a stake in the ground to mark an organization-wide turning point – than for the thousands of customers in attendance. This year’s Sapphire marks only the beginning of what will be a challenging but essential journey for the company.
ERP is a core business for SAP. It’s the product where simplicity is most needed but where it will be most difficult to achieve. The next generation of ERP – the core financials, manufacturing, operations and distribution – must enable line-of-business people to modify the system to adapt to changing business environments and modify business processes to reflect evolving internal requirements and adoption of new management methods. In our ERP research only 21 percent of larger companies said implementing new capabilities in ERP systems is easy or very easy while one-third characterized it as difficult. Because of this, the current generation of ERP software is a barrier to innovation and improvement. To be sure, the initial configuration of and major modifications to a new ERP system almost always require a mix of external consulting, internal IT and business people to achieve the best outcome. But even here software vendors must radically reduce the system’s setup cost. Today, the cost of implementation can be up to five times the cost of software license. In the future, companies must be able to do this at a fraction of the cost. Cloud-based systems are one way to achieve these kinds of savings, and the cloud was a hot topic at Sapphire.
There’s a debate on whether SAP is a cloud vendor. Some IT analysts see a dividing line between incumbent, on-premises vendors and the newer cloud-based ones. If a cloud vendor is one that only (or mainly) operates in a multitenant cloud environment, SAP is not one. But strict definitions of what qualifies as the cloud already have limited relevance to the market generally and to SAP’s business buyers. Moreover, the issue of which is a real cloud vendor will become increasingly less important to users of these systems over the next five years as software environments evolve to a hybrid cloud model that combines multitenant, single tenant and on-premises deployments.
I’ve discussed the business reasons why multitenant configurations have been the dominant architectural approach to software as a service (SaaS). Multitenant is inherently more economical than a single-tenant configuration. The savings that vendors have been able to pass along to customers have provided a compelling reason to acquire software in this format. This has been true for any software category that can be configured rather than customized. That is, the modifications necessary to make the software suitable to the specific needs of the user organization (configuration) can be kept separate from the core code. This is enables the vendor to update and modify the core software used by all of its customers at once without (in almost all cases) affecting the individual customer’s configurations. Sales force automation and travel and expense management software were two of the earliest multitenant categories to be widely adopted because they were designed to make it easy for users to configure the system in useful ways without touching the core code.
However, not every company has found that software in a multitenant environment serves its needs. This is especially the case for complex applications such as ERP, as I’ve noted. While cloud-based ERP has been a hot market, expanding rapidly over the past 10 years, a majority of ERP deployments remain on premises. Growth in the cloud segment has been driven by the superior economics for buyers that were able to accept the software’s limited configurability and by growing midsize companies that were able to migrate from entry-level accounting software sooner than was practical with on-premises software. The pace of adoption has been accelerating as companies have gotten comfortable with this method of deployment; plenty of organizations have found that this approach works for them, and security concerns have ebbed. Yet these multitenant cloud ERP offerings do not have all the functionality or configurability to address the requirements of a majority of the market. This is the biggest challenge – and greatest opportunity – in the ERP software market.
The root cause of the need to customize an ERP system is the forms-based table structure almost all them use. The first generations of all business computing systems were created as analogs to existing paper-based systems, similar to the way that the first automobiles were “horseless carriages” in their configuration. ERP systems also have mimicked the multiple ledger structure of paper-based accounting systems (which is pointless and even counterproductive in a computer-based system) and the paper-based forms that are the information containers used in accounting processes. In the first stages of business process automation, this simplistic automation was the only practical approach since it was the easiest way for programmers to start. But just as the design of cars evolved into a totally new form to reflect the capabilities of the underlying technologies, business computing systems have to evolve to break out of the shackles imposed by paper analog structures.
To break the configurability barrier ERP systems have to be more flexible in their basic design. Ideally, they should eliminate the need for customizing the underlying application. Companies would benefit if modifications are easier – and potentially less expensive – to make initially and to adjust as business conditions change over time. Easier configurability also can make it possible to reconfigure processes and capabilities faster and more cheaply than is possible today, enabling companies to make their ERP system more adaptable to their business needs. Separating the individual configurations from the core code base means that SaaS vendors can give a much broader set of users the flexibility they need to make the system work their way while still having only a single instance of a code base to modify, upgrade, debug and patch.
So the race is on to make multitenant ERP the appropriate choice for a significantly larger market. One approach that vendors can take to address this issue is to build in adaptations to the specific needs of a broad set of specific vertical or micro-vertical part of the core code. Another is to take a fresh approach to the design and architecture of ERP systems to make them inherently more configurable. Both changes could increase the number of companies for which a multitenant application suits their needs. But both are time-consuming and difficult to bring to market. In theory, a fresh approach is the more sustainable strategy, but it’s better suited to a startup than a huge company like SAP.
In the context of being able to offer an attractive ERP offering in the cloud, the question of whether SAP is a cloud vendor is still relevant because it gets to the heart of the simplicity issue that the company is attempting to address. For SAP to sustain its position in the market, its product must become far easier to implement and configure to the needs of an individual company regardless of how it’s deployed. The design requirement that SAP must meet is to have an ERP system with rich functionality that is as easy to deploy as those offered by cloud-only vendors but that can be readily customized to the specific needs of companies willing to bear the extra implementation and operating costs of a single-tenant or on-premises deployment.
SAP is already rolling out software with names that meet its simplicity theme, including Simple Finance. At first this exercise in branding seems both ridiculous and confusing. Ridiculous because, in reality, finance applications usable by midsize and larger companies will never be simple. Business and regulatory factors keep them from being so. Confusing because, for example, people may think the application is aimed at smaller midsize companies or is perhaps a retread of SAP’s ill-fated ByDesign. On the whole, though, “simple” is not a bad idea for branding if SAP demonstrates substance behind the trademark. The label also can be useful in focusing SAP developers on what the customer wants. SAP’s finance software will never be simple, but it must be as simple as possible.
Simple isn’t easy, especially when it involves moving a large organization in a new direction. Uniting SAP around the objective of “simple” is a good management strategy, but it will require consistent follow-through over the next months and years to make it a reality in the company’s products and processes. This is far from assured but by no means impossible. SAP’s user groups must hold senior management accountable for delivering results that demonstrate measurable progress toward simplification. Results in the software market will demonstrate the extent to which it is succeeding in meeting rising demand for ERP software that’s more flexible and adaptable and easier to deploy, maintain and update.
Robert Kugel – SVP Research