Anticipating Risk and Opportunity: A Key Attribute of a Great CFO

By Stephanie Roberts

My CFO roles at a diverse group of consumer businesses (Rothy’s, Third Love, goop, Moda Operandi, Specialized Bicycles, Old Navy) have led me to appreciate how critical it is to be disciplined and take the time to think through all the variables (positive and negative) that could affect the financial outcomes at a company over the next 12 to 36 months. Just as important is translating this perspective into a concrete set of actions that a company team can take, proactively, to mitigate these risks and facilitate opportunities.

I offer the following four recommendations:

• Use A Collaborative Approach
• Isolate the Metrics That Matter
• Tell A Compelling and Simple Story to Create Consensus
• Balance Your Focus Between Risks and Opportunities

Leadership in Action: Use a Collaborative Approach

Before building our financial plans, my finance team creates a strawman of all the variables that could have an impact on our performance. My direct reports and I take the time to discuss and debate:

1) What could go wrong and how to mitigate those risks and,

2) What could go right and how to capitalize on those opportunities.

We then share these plans with the CEO and the leadership team so that we can collectively and strategically manage the most important risks and opportunities moving forward.

Isolate the Metrics that Matter

Every financial plan we subsequently develop at the company includes a range of scenarios that include both a low and high side scenario with key assumptions documented. Depending on your industry, certain variables might affect you more than others of course, and therefore need to be factored in.

Below is a short list of examples of key variables that I think through before finalizing a budget and long-range plans for a company:

Sales/Revenues

• Level of new product acceptance
• Product differentiation vs. competitor products
• Competitive pricing
• Marketing effectiveness
• Consumer spending patterns, levels of confidence, and mindset
• Economic landscape: stock market, interest rates, unemployment
• Regional economic trends: US, Europe, Asia

Cost of Goods Sold

• Level of inventory investments and turns
• Fixed vs. variable costs and distribution
• Raw material costs
• Foreign currency volatility

Operating Expenses – Fixed vs. Variable

• Headcount: full time vs. part time vs. seasonal vs. contractors
• Marketing investments, performance, and brand equity/strength
• Legal or product risk

As a CFO, you will know you have done a successful and comprehensive job when you have accurately anticipated risks or opportunities before they happened and were prepared to address these proactively.  This is especially important for the overall management of cash and cash flow forecasting. A company will burn through cash much faster in a downside scenario and, as a CFO, you need to prepare for this ahead of time.

Tell a Compelling and Simple Story to Create Consensus

As a rule of thumb when making presentations to the Board, I capture at least five bullet points under Sales, Gross Profit, and Operating Expenses in both low- and high-side scenarios.

Below is a typical example of a slide I might include in a Board presentation, but with more robust descriptions and many more bullet points.

Balance Your Focus Between Risks and Opportunities

As a CFO, it is important to keep a 50:50 view of both risks and opportunities when looking at future low-side and high-side scenarios.

For example, here are a few areas associated with managing company performance risk:

Investment of Capital 

•  Capital investments are, by nature, risky, as they are large cash outflows with returns in future periods. A common example in the consumer sector might be the decision to invest in a new retail store. Such an investment implies committing to a 5, 10, or 15 year lease and investing a large amount capital to build out the store. As a CFO, you might mitigate this risk by recommending that the company test out the market with a pop-up location which has minimal capital expense and a short-term lease. If the popup store proves successful, you then have greatly reduced the company’s risk of building a more expensive, permanent store at this location.

 Buying Inventory

•  While it is certainly true that without inventory a company will never bring in revenue, it is also true (at least in every company I have ever worked at) that you often end up with too much of the “bad stuff” and not enough of the “good stuff”. The reason you end up with too much of the “bad stuff” in your mix of inventory is often because someone thought that a product would be a best seller and it just wasn’t. This situation can also happen when inventory was purchased based on an overly ambitious sales plan and too much inventory was purchased across the board.
• How to address this challenge is nuanced. In short, I recommend buying the amount of inventory necessary to meet 80% of your sales plan and leave 20% open to chase (for the best sellers) or as a mitigation to top line sales risks. The downside of this approach is that you may lose out on some revenue by being temporarily out of stock, but this is a much better scenario then having too much inventory and needing to mark it down to sell it through.

 Operating Expense Structure 

• In my experience, companies with a great deal of cash tend to be the least disciplined as they are not often forced to make trade-offs. Historically, many companies have over-hired and create operating expense structures tilted toward fixed costs. But when sales are volatile, it is key to have a variable expense structure that can flex up or down with revenue. Therefore, it is wise to utilize different types of labor to mitigate labor-expense risks including part-time independent contractors, and/or seasonal employees. This allows you to flex labor expense more seamlessly with revenue and can be key to maintaining a positive customer experience for the brand.

And here are a few areas associated with chasing opportunities:

Revenue Growth

• For consumer products companies the biggest opportunity is to always stay “in stock” with your best sellers. The best way to financially manage this is to carefully monitor sales and chase inventory replenishment. This is critical especially if you have to manage product replenishment by style, size, and color.
• Another area of opportunity is dynamic pricing. Airlines and hotels do this very well. Use your promotions to drive traffic and conversion but don’t use them for your best sellers. Keep these at full price to even out your overall gross margin dollars.
• Sales incentive plans drive the right behavior. Just make sure that they are achievable and simple to implement. It is demotivating to an employee if they don’t have control over the direct levers to meet the goal.

Optimizing Gross Margin through Logistics

• Ensure your team has a dashboard showing either order or unit economics and that Finance is partnering with Supply Chain to drive these costs down. This is an area of opportunity for most companies, but critical for Consumer Products companies.

In Summary

Great CFOs need to embrace a proactive approach and discipline to carefully assess both a company’s risks and opportunities on an ongoing basis. Even more importantly, they need to recommend a set of actions across the company which company leaders can initiate before risks become a reality, and in order to facilitate opportunities.

In the end you will know that you have done a great job as a CFO if your financial plans and assumptions did, in fact, anticipate the variables that you ended up facing and your recommended actions left your company prepared to seamlessly navigate these situations.