- South Africa’s integrated reporting journey
- Integrated reporting: Where to next?
- Volkswagen a wakeup call
- A quality integrated report
- Staying alive
- Embracing simplicity
South Africa is in its fifth year of implementing Integrated Reporting <IR> and the momentum of this evolutionary, if not revolutionary, reporting framework continues to gather momentum. By Mark Hoffman
More than 90% of JSE-listed companies prepare annual integrated reports, with the quality ranging from excellent to perfunctory.
Gratifyingly, the quality of integrated reports is trending towards the excellent pole as best practices emerge and <IR> gathers momentum. Also pleasing is the extent of public sector organisations, unlisted private equity companies and NGOs that have implemented <IR> on a business case-driven basis.
Below are some lessons learnt and key observations made during our <IR> journey that will certainly benefit organisations at different stages of their <IR> journeys.
Those that have applied <IR> well have recognised that:
- It is all about the maturity of ‘integrated thinking’ within the organisation.
- It is not about just putting together an annual report to appease regulators and shareholders.
- It is about reflecting the development and execution of the strategy of the business and its ability to create and sustain value.
- It is not about boiler-plate regulated reporting.
- It requires critical analysis around the processes used to develop and execute strategy in the business.
Below are some pertinent questions that you should ask when embarking on and during your <IR> journey:
Do you understand and are you able to clearly explain your:
- Material issues from a risk and opportunity perspective?
- Key stakeholder relationships and their expectations and concerns?
- Industry and market analysis focusing on key trends and outlook?
Can you articulate and explain in the context of your material issues your chosen:
- Business model?
Do you measure business performance relative to:
- Extent of strategy execution?
- Outcomes of strategy execution?
Can you demonstrate to your shareholders that you have a lasting and profitable stakeholder value proposition based on:
- Your strategy and business model?
- Clear insight into the organisation’s outlook supported by your past performance track record?
Do you incentivise your people’s performance based on effective execution of strategy and value creation?
Can you demonstrate how your governance structures are focused on the development of sound strategies and overseeing the execution thereof to generate and sustain value?
Very few organisations will be able to answer yes to all of these fundamental questions. Therefore, in order to achieve a satisfactory state of integrated reporting and thinking, companies should endeavour to develop processes to effectively address all these aspects.
A really important part of <IR> is to look at how businesses process, report and analyse information internally. Many internal reporting processes are built around ‘legacy practices’ typically on the premise of ‘it’s what we have always done’ or ‘it’s what everybody does’ and often with a significant bias on financial accounting measures.
On the other hand, very few organisations take the time to zero-base their internal reporting to focus on information that will assist them in developing and executing their strategy as well as managing their business processes on a continuous basis. The <IR> framework provides the ideal framework to zero-base internal reporting from management reporting right through to board reporting and ultimately external stakeholder reporting.
The alignment of internal and external reporting is when <IR> becomes reflective of how integrated thinking happens within the organisation. External reporting based on an effective internal <IR> reporting process built around a solid strategy brings credibility to the quality and depth of reporting as well as reflecting a well-managed organisation.
So what are organisations struggling with and how can they get it right? Here are a few common observations:
- Stakeholder engagement: Stakeholder engagement tends to take place at different levels within the business with little or no co-ordination. More robust processes are required to monitor the levels of engagement, quality of relationship and dissemination of business intelligence gathered.
- Material issues: Risk management tends to happen at governance level only and is very often short term and operationally focused. Risk and opportunity analysis should happen throughout the business and should extend to more external mega forces and longer-term issues.
- Strategy: Strategy is seldom well-articulated, communicated and understood throughout the organisation. A good strategy should be clear on objectives (the what) and enablers and initiatives (the how) and be seen to be ‘alive’ within the organisation.
- Business model: The <IR> business model is seldom used to provide a snap-shot view of what you do, how you do it and your key differentiators. A good business model is linked back to the strategy and presents the six-capital capability of the business.
- Measuring performance: Performance measurement is largely financially focused. More emphasis is needed on operational KPIs that reflect the successful execution of strategy (lead indicators) and the outcomes of strategic initiatives (lag indicators) to manage the organisation more effectively.
- Remuneration: Incentive schemes are largely based on earnings per share and relative peer share price performance. There is a need to provide a balance of KPIs in the determination of management incentives based on the execution and outcomes of short-, medium- and long-term strategic initiatives.
- Integrated governance: Governance structures tend to be compliance-based with little integration between committees and between the board and management. Governance needs to be more focused on its primary purpose of developing effective strategies and overseeing the effective implementation of strategy. Governance processes built around the <IR> framework has resulted in many organisations reinvigorating the effectiveness of governance structures with a job to be done imperative.
- Integrated assurance: The concept of combined assurance is often not well understood or fully operationalised. <IR> provides a framework to properly understand material issues and related strategic initiatives. It thus provides an understandable basis upon which to develop effective integrated assurance plans utilising a combination of process and system controls, management controls, internal and external assurance and governance oversight.
- Integrated thinking: Many organisations have fallen into the trap of silo-thinking that was fostered by old-style corporate reporting. <IR> provides a framework that gets organisational teams to rally around one set of organisational material issues and one core strategy and performance measurement framework.
- Technology: <IR> also calls on the organisations to look at improved systems and use of technology to enable the underlying processes and reporting of information. Most organisations have formidable systems and controls over financial information as this has traditionally been subject to audit. The efficiency and reliability of processes and related systems that generate non-financial information are typically not as robust as financial systems. The good news is that most existing ERP and business intelligence systems are fully capable of processing and managing non-financial information. Most organisations simply need to implement the necessary robust processes and turn on the functionality in existing systems they have in place.
It is evident that many of the areas in which organisations struggle with the application of <IR> typically relate back to the lack of effective underlying processes and reporting within the organisation. While implementing comprehensive <IR> processes, many organisations have identified a number of key business improvements as well as streamlining opportunities.
Keeping <IR> alive means a relentless continuous improvement initiative to integrate and improve underlying processes and practices within the business using <IR> as framework. This is consistent with the observation that many organisations will take up to four years to fully implement <IR>.
So, after four years of <IR> implementation, what are the true benefits for those getting it right? Many organisations are seeing that most of the benefits have been within the organisation. Some of the noteworthy benefits being observed include:
- Focusing the organisation on really material issues
- A more comprehensive consideration of risks and opportunities
- Articulating and communicating strategy more effectively
- Enhanced and focused performance measurement and management
- Achieving integrated thinking and integrated management
- Streamlining and aligning internal and external reporting
- Reporting with purpose and meaning
As <IR> gains traction and credibility within the organisation, investors are starting to pay more attention to integrated reports. After years of being served up the shallow and disconnected content of traditional annual reports, it will take a while to win disillusioned investors back to using annual integrated reports as their primary source of information in performing analysis, modelling and making investment decisions. With that said, there’s an appetite for investors spending more time with integrated reports and a lot more follow-up questions and interaction on the content of integrated reports is being observed. What they do seem to relate to is:
Insight into management’s views on material issues and what their ‘make or break’ risks and opportunities are in the short, medium and long term
Good-quality business models providing insight into the dynamics and structure of often complex organisations
More depth being provided on strategy beyond just strategic objectives by extending into insight into the underlying strategic initiatives being followed
Seeing ‘strategy in action’ in lead indicators that reflect extent of strategy execution and lag indicators reflecting whether the strategy is delivering the desired outcomes
A more forward-looking view of the business in terms of plans and targets relative to the strategy of the organisation backed up by track record of management’s ability to execute strategy in the past
More insight into the robustness of the governance structures and processes in place relative to overseeing development and execution of strategy with the risk appetite of the organisation
The all-important linkage of remuneration to execution and outcomes of strategy in terms of short, medium and long-term performance
Despite integrated reporting not being a quick fix for all the areas noted as of interest to investors, it certainly starts to provide more insight into these aspects of the business and a foundation on which investors can more effectively engage with organisations on these aspects.
<IR> is a truly refreshing and value-adding journey that many South African businesses have embarked on. It is very much a ‘Business 101’ framework and is useful in assessing the effectiveness of integrated thinking and underlying processes within a business. Whether it is relooking at how governance operates, improving risk management practices or implementing more robust processes and systems, <IR> is certainly going a long way to enabling organisations to take a fresh look at how they go about developing and executing strategy and focusing on their ultimate mandate of value creation.
Fundamentally, the investor community is starting to appreciate the credibility and depth of <IR> reports and the insight that this provides in determining and understanding the long-term value generation ability and prospects of businesses outside of a purely financial statement view.
AUTHOR: Mark Hoffman CA(SA) is a Partner at KPMG Accounting Advisory Services and Integrated Reporting
South African companies are pretty good at integrated reporting, but a recent survey of the Top 40 companies listed on the JSE reveals a number of areas for improvement. Zubair Wadee elaborates
For entities that want to report more fully in an integrated manner, the road ahead is less clear. The changes required going forward will be less cosmetic and more structural. They will require entities to embrace integrated thinking in their decision-making.
The survey ran through some 110 questions and drew out some of the key themes that companies still appear to battle with, together with some of the ways that companies might go about improving in those areas. Importantly, I think that the way forward for companies is through using a more holistic range of internal information as the basis for decision-making rather than cosmetic changes to their reports.
I have linked the key themes with some of the practical steps I believe companies should be taking as they seek to improve their reporting.
THEME 1: WHO IS THE AUDIENCE?
While the primary users of an integrated report are intended to be investors, organisations are accountable to a broader range of stakeholders. Companies therefore often struggle to determine who the report is written for, especially in the South African context of inclusive stakeholder governance and active stakeholder groupings like unions.
The survey shows that reporters are battling with the concept of materiality in the context of the integrated report. This results in a lack of focus and consistency in reporting.
Perhaps a change in perspective is needed. A report that tells a story about the material issues that the business is facing and how value is created and destroyed might be more useful than a report that focuses solely on investors or employees.
Only 36% of companies in the survey clearly explained how they identified material issues for the future viability of their business. This begs the question – have they actually gone through the process of identifying material issues?
The first stage of the reporting roadmap is to identify material issues by identifying and prioritising stakeholders, assessing the best way of engaging with these stakeholders in order to gain insights into what is important for stakeholders and how further value may be created. This first step is the foundation of integrated reporting and should inform the story that is ultimately told in the integrated report.
The process of stakeholder engagement should be iterative. The link between material issues, value proposition and risks should also be stress-tested with stakeholders to ensure that they address the material stakeholder issues. It is when these links are present that an organisation’s story is understandable.
I think this is important because it should inform not just reporting but also more holistic decision-making.
THEME 2: AGILITY IN THE FACE OF CHANGE
Businesses do not operate in a vacuum, and this is especially true in today’s environment of regular disruption. In order to survive, organisations need to be agile enough to be able to respond to changes in their environment.
Megatrends like changing demographics, rapid urbanisation, shifting economic power, technological change, resource scarcity and climate change mean that no business strategy remains unaffected. Companies need to look to the outside world to develop a holistic understanding of the strategic risks and opportunities arising from the changing external environment, the organisations competitive position and global megatrends. This then translates into an organisation refreshing its strategy in light of what is happening both around it and within it.
PwC’s research has shown that only 56% of companies explain the link between strategic choices and external drivers. Only 53% of companies explain how external factors impact on their ability to grow in future.
Once material issues have been identified, the next step of the roadmap involves defining the company’s stakeholder value proposition and for the company to refresh its strategy. The refresh of the strategy takes into account the changes in the external environment and is critical for entities hoping to demonstrate that they understand the factors that create value have the agility to take advantage of or deal with challenges posed by changes in the external environment.
Once the value proposition is identified, the organisation should map identified risks to the value proposition and material issues.
46% of companies surveyed report risks in isolation without a link back to strategy, business model or performance.
THEME 3: EMBEDDING INTEGRATED THINKING
A lack of progress and innovation was apparent in the survey this year. I think this is because cosmetic changes alone are no longer sufficient to result in significant changes to the integrated report. What is needed, fundamentally, is a move to integrated thinking. The survey results and discussions with selected management groups indicate that internal processes are not always aligned to what is being reported externally.
I think that in order to embrace integrated thinking, companies need to align their internal processes to their strategy and develop an integrated dashboard.
The process of aligning internal processes to strategy should, in theory, be an easy one. The reality for many companies is that strategy is more aspirational than operational. The process of converting that strategy into something that can be pursued with vigour requires management to start reporting on it internally. This means developing ways to monitor the steps towards achievement of that strategy and reporting on those when decision-makers meet.
The second part of our solution is for companies to develop an integrated dashboard. Almost all companies have regular internal meetings where they discuss their performance to date and the steps they will take to reach their objectives.
I believe that these meetings, which are commonly driven off financial metrics, need to make use of an integrated dashboard that considers the performance of the business holistically in the light of its stated strategy. The integrated dashboard will then include both financial and non-financial measures. The importance of these measures is further discussed under Theme 4.
THEME 4: PUTTING THE ‘K’ IN KPI
The survey revealed that, while many companies report performance measures, these did not always tie back to their strategy. If KPIs are intended to drive behaviour, they should drive this behaviour in the direction that the company has articulated through its strategy. I believe that the efforts that an organisation makes in developing a resilient business model and comprehensive strategy can only be evaluated when performance against strategy is measured on an ongoing basis, by using indicators that truly reflect the key areas of an organisation’s performance. For example, if maximising customer experience is part of an organisation’s strategy, the KPIs would include a KPI related to customer satisfaction rather than simply a KPI related to revenue growth.
53% of reports surveyed clearly identified the performance measures that were selected to monitor progress against strategy (those identified as ‘key’).
The 22% of reports that identify future targets for these performance measures are providing their readers with invaluable information about where the organisation is heading.
The last element from a KPI perspective is to link clearly those KPIs that have already been aligned to strategy, to the remuneration of the decision-makers. Again, for many companies, this is more than a reporting issue.
It requires entities to buy fundamentally into integrated thinking, accountability and transparency through remuneration policies that embody a holistic approach.
Only 36% of companies clearly align management remuneration with company KPIs.
THEME 5: APPROACHING BUSINESS WITH AN OUTCOME IN MIND
One of the areas that most companies still struggle with is articulating the outcome of their activities on the capitals. Outcomes, as defined by the International <IR> Framework, represent the internal and external impacts, both positive and negative, of the organisation’s business activities and outputs (being goods or services) on the capitals.
While preparers’ struggles are well reflected in the survey results, it begs the question of whether preparers find difficulty merely in reporting or whether there is a deeper root cause.
It would appear to us that the reason that many companies struggle to articulate their outcomes is because these broader outcomes are not assessed when decisions are made. This is linked to our assessment of integrated thinking discussed above.
I think that the integrated dashboard discussed above – which includes connected and broader information on stakeholders, key material matters, risks, strategic objectives, value drivers, KPIs, targets and impacts – is the appropriate mechanism to assess these impacts. It helps companies to manage their impact by evaluating it systematically, though management teams may need to accept that not all data used will be 100% accurate and assured at the start.
PwC’s survey indicated that only 39% of companies provide useful information on the impact of their activities on external non-financial capitals.
There is no doubt that integrated reporting has developed in leaps and bounds over the last few years. However, the pace of change and improvement is rapidly diminishing. To continue on the path, I believe that fundamental changes are required to the internal workings of a company so that the reporting externally becomes a reflection of the internal decision-making. It is when this happens that the change desired by the IIRC will become reality.
Author: Zubair Wadee CA(SA) is a Partner/Director at PwC
The Volkswagen crisis highlights again how easily stakeholders can be misled by overly positive corporate reporting, writes Graham Terry
We only have to think back to Enron and the more recent financial crisis involving some of the world’s best-known banks to remind ourselves of the dangers. In each case, the reality was masked, and there was no indication of an impending crisis in preceding annual reports. So too with the VW crisis. Its latest annual report published in March 2015 projects VW as the ‘most sustainable automotive company in the world’.
At the time of writing, VW’s supervisory board and the board of management maintain that they were unaware of the emissions manipulation. They say that the scam was perpetrated by a small group of rogue engineers working on diesel engines. This is a familiar tale as many of the corporate collapses mentioned above were caused by management scams. This is not to suggest that VW will collapse, but the financial and reputational impacts are likely to be serious.
Some commentators have stated that VW has an autocratic corporate culture and that there is a fear of making mistakes or not meeting goals. They suggest this possibly led to engineers failing to disclose the fact that emissions targets were not being met. Autocratic cultures can lead to the development of silos within companies and, in extreme situations, cover-ups of failures.
I thought I would take a look at the most recent annual report of VW to see if it had any clues to the impending crisis. I found the report to be very disappointing. It is a lengthy 422 pages, although the last 77 pages are devoted to the future automobile as envisaged by VW. Much of it is presented in a narrative form using a legalistic style and focusing on financial information and compliance.
Indeed, it only gives you part of the picture of the company. To get a broader image one also needs to read the sustainability report. What struck me after reading both reports was that everything appeared to be under control. The reports use all the right language, and there is a lot of hype about VW leading the automotive world. However, there are few if any negatives or weaknesses mentioned and therein lies the problem. Every company faces challenges, and if the annual report fails to highlight any, then one must question its balance and integrity. This is a trap that many companies fall into, and it should raise red flags for investors and other stakeholders, but sadly it seldom does.
If the scam was perpetrated by a group of rogue engineers, does it absolve the boards? I would think not. Emissions containment is a fundamental feature of the company’s strategy and as VW has chosen to promote the use of diesel to limit emissions, perhaps to a greater extent than many of its competitors, the success or otherwise of the strategy should have come under scrutiny by the boards on a continuous basis. In that case surely the boards would have taken steps to ensure that claims made about the emissions were accurate? One would assume that they would have sought third party confirmations and not relied on internal information systems. It seems that whatever action they took, it did not highlight the problem.
The annual report does, however, highlight vehicle emissions targets as a key risk and outlines how the company minimises risks. It even describes the penalties for noncompliance. In truth, though, this is boilerplate stuff, and it does not adequately describe how the company mitigates this and other key risks.
This VW example signifies a big danger for directors and investors. It is easy to be taken in by assertive management commentary, but that is precisely how management will project situations if there is any manipulation taking place.
Directors need to seek assurance about the accuracy of key information, and that may mean seeking third party assurance, especially in an area that can have significant financial and reputational consequences.
A few people have asked me if I thought this crisis could have been averted if VW had published integrated reports. Of course, one cannot answer that with any certainty. Integrated reporting does help boards to look at their businesses through a variety of different lenses, which can only be of benefit. It also encourages integrated thinking and a focus on the various forms of capital used and affected by the business. However, effective integrated reporting will only work where there is an open and transparent culture.
The principles of integrated reporting do provide a very useful framework within which to assess a company’s performance and future prospects. Directors, investors and other stakeholders can use the framework to identify searching questions to pose even if the company does not prepare an integrated report.
The VW crisis is certainly a wakeup call for directors and investors. It highlights the dangers of autocratic company cultures and overly positive reporting. It is so easy to be complacent when everything appears to be perfect. However, it is often in these situations that one needs to apply one’s mind even more diligently. Hopefully, this example will encourage independent directors (especially) to take extra care even if everything seems rosy. The integrated reporting framework can be a useful tool to aid directors and investors in this task.
Author: Graham Terry CA(SA), Independent Integrated reporting Advisor
With years of valuable experience, Leigh Roberts gives some sound advice on how to perfect your integrated report
Judging the integrated reports for an awards programme can be a rollercoaster ride. The 300-plus-page reports lead to hand-wringing anguish; discovering a gem of a report inspires whoops of joy. Most of the time, though, there is curious interest in looking for elements of perfection. Here are my thoughts on what a quality integrated report looks like.
THE OCTOPUS MODEL
Some companies have finessed the octopus model approach to their corporate reporting because it does make good sense. The integrated report (the head of the octopus) is a high-level, concise but complete report about how the company’s strategy, governance, performance and prospects, in the context of its external environment, lead to value creation over time. The head of the octopus is connected to arms, each of which is a detailed report or information sources such as annual financial statements, sustainability report, social and ethics committee report, or other compliance reports. These are either printed or on the website.
100 PAGES OR LESS
Telling the company’s value creation story can be ably done in fewer than 100 pages, and this includes summarised financial statements. The best reports of the top 40 JSE companies come in at around 100 pages. The point here is that aiming for a low number instils good discipline on focusing on the significant information and sending detailed information to the website.
STRUCTURE OF THE REPORT
The International <IR> Framework refers to six categories of capital which are commonly used or affected by organisations. The capitals are essentially an awareness and completeness tool, and they do not have to be used to structure the report. My view, however, is to consider them as a structuring option for the report but in a way that best suits the company’s story. The reason is that it ensures completeness, offers easy connectivity from the business model upfront of the report right through to the end, and is a seamless extension of the integrated thinking in the business.
The report tells the company’s value creation story and as such will contain all the significant information of the story guided by the framework’s principles and content elements. The report will also contain a list of material matters. These matters (about five to ten is the norm) will have risen to the fore through the materiality determination process because they have the power to substantively affect the company’s ability to create value over time (in other words, they could impact its strategy, business model, or one or more of the capitals used or affected). Notably, the issues are material to the organisation itself and encompass all categories of capital.
The business model in the integrated report is not last century’s approach of ‘this is what we do and how we do it’. It is much wider and more encompassing than that. It is best explained by a diagram that begins with the main inputs drawn from the six capitals, shows the churn through the company’s processes, the main products, services and waste that are spewed out, and finally the resulting consequences on the input capitals and other capitals it affects.
The business model in the integrated report is all about the capitals – what goes in, what comes out and the consequences thereof. The latter are called outcomes in the framework, and they explain value creation.
VALUE CREATION AND OUTCOMES
Value creation is essentially the company’s outcomes – that is, the consequences on the capitals it uses or affects including the effects on stakeholders. The consequences can be negative or positive, which is why the term value creation in the framework includes ‘increases, decreases or transformations of the capitals’.
This is not widely understood by companies who tend to disclose the financial wealth distributed to stakeholders or focus on only the positive effects on stakeholders.
One of the prime reasons why outcomes are important to the board and investors alike is that significant consequences, such as water scarcity or the actual and reputational effects of carbon and noxious emissions, can strike at the heart of the company and its longevity in today’s high-transparency world.
No company is an island so disclose the significant aspects of the external environment and how they have impacted the company. This is very relevant to understanding the company and the choices it makes. Reports that show this well are the Anglo American Platinum 2014 report and the AngloGold Ashanti 2014 report
STRATEGY AND RISKS AND PERFORMANCE
Strategy and risk are joined at the hip so show the connections between the company’s strategic objectives and major risks. The Aspen Holdings 2014 report does this well, showing strategic objectives, KPIs, risks, performance and outlook; the MTN Group 2014 report shows good links between strategy and risks.
What I would like to see in a report is a table upfront showing the strategic objectives (which encompass all capitals and indicates that the company applies integrated thinking), the risks and opportunities, and the KPIs and targets for the short, medium and long term with the link to remuneration. The company’s disclosed performance for the year is against these strategic objectives and targets. Add to this, disclosure of inputs from the capitals and the significant outcomes, explain the external environment, discuss governance through the lens of value creation, and give a view on the outlook – and that’s an integrated report in broad terms.
A well-known journalist wryly commented recently that most people only read a company’s integrated report when things go wrong. In troubled times, the report will indeed come under close scrutiny to see what the board said and what it didn’t say. The report, after all, is the voice of the board. Given that a board can’t control or mitigate against everything in the company’s external environment (or internal environment for that matter), transparency in telling the company’s balanced and complete value creation story is something that they can control.
Author: Leigh Roberts CA(SA) is an independent specialist consultant in integrated reporting
With all their resources, large corporations should remain viable indefinitely. Why do some fail spectacularly – while other businesses flourish for centuries? The key to futureproofing is to continually identify and leverage material issues as these arise, writes Clive Lotter
The JSE has prodded most listed companies into producing annual integrated reports though at present the majority of these are ‘integrated’ in name only.
Many companies treat these reports as a compliance burden, but a growing number recognise that an authentic approach to producing integrated reports shifts the company to an ‘integrated thinking’ culture, which enables agile responses to challenges and opportunities.
MATERIALITY – THE HIDDEN HAND
A key aspect of integrated reporting is to identify and prioritise the company’s material issues. This exercise is similar to determining risks or forward strategy, but materiality can be used to uncover and evaluate business opportunities well before competitors or disruptors.
Although the word ‘materiality’ is relatively new to corporate reporting, the materiality principle is the hidden hand behind why some companies adapt and survive while other household names surprisingly and spectacularly fall over.
In 1955, Fortune magazine published its first Fortune 500 list of top global companies. By 2015 only 65 of the original 500 remained on the list, with many having disappeared completely. Business disruption is speeding up, with 43% of previous Fortune 500 corporations having dropped out since 1995.
According to Cathy Engelbert, global CEO of Deloitte, the Fortune 500 will differ even more sharply in ten years. She says, ‘Businesses will have to keep on reinventing themselves. It is better to be the disruptor than the disrupted.’
WHY GIANTS FALL
Time and again seemingly indestructible giants make critical errors of judgement that topple them to the ground.
Kodak, Blackberry and Yahoo spring instantly to mind. A young Eastman Kodak engineer, Steven Sasson, invented the digital camera in 1975 and developed it into the first digital SLR camera in 1989. He was never able to persuade Kodak to sell these digital cameras, as management feared the impact on its hugely profitable film-based market.
Competitors duly introduced digital and smartphone cameras, so that film disappeared anyway. Kodak should have disrupted its own industry while it had the opportunity.
We should have been ‘yahooing’ rather than ‘googling’, as Yahoo dominated Internet search in the early 2000s. Yet somehow its management treated search as a peripheral operation while obsessively trying to grow Yahoo into a media giant. As a result, poor decision-making pushed Yahoo itself to the periphery.
In 2002 Yahoo could have acquired Google for US$5 billion, but its CEO went against his own advisers to veto the opportunity. Four years later Facebook was on the table at about US$1 billion, but Yahoo executives continually tried to drive the price down, prompting Facebook CEO Mark Zuckerberg to withdraw in frustration.
Nevertheless, Yahoo was not yet done with shooting itself in the foot and in 2008 turned down an acquisition offer from Microsoft that would have had its long-suffering shareholders dancing in the streets. Needless to say, Yahoo’s market value has never recovered.
Although Yahoo was a pioneering online business, the company’s executive obviously couldn’t interpret the digital future that was rushing up. They undervalued Internet search against traditional media, not seeing that the media itself was transforming rapidly. Blinded to actual market realities without the forewarning and market intelligence of materiality, Yahoo made critically wrong decisions.
ARROGANCE, BUREAUCRACY AND COMPLACENCY
Warren Buffett hit the nail on the head in his 2015 shareholder newsletter when he wrote: ’[F]ight off the ABCs of business decay, which are arrogance, bureaucracy and complacency. When these corporate cancers metastasise, even the strongest of companies can falter.’
To survive and thrive, companies must take the blinkers off when assessing the emerging realities of their markets, so that they can innovate to their advantage. Too many businesses fixate on their currently successful offerings and are reluctant to move on from the practices and systems that succeeded. When best practice becomes rigid bureaucracy because it ‘always works’, the company is in mortal danger.
The consumer of today is not tomorrow’s consumer. The inrushing digital age is changing consumers, markets, brands – everything.
Materiality is built into integrated reporting. Therefore JSE-listed companies should be using it anyway, though few appear to be doing so correctly yet. Get to grips with materiality and use it alongside – or as a replacement for – your strategy or risk assessment tools. As an annual reality check, it can get your company focused in the right areas and keep it there.
THOSE THAT STAYED ALIVE
Other great businesses have stumbled but reinvented themselves in time. In a sense, they determined their actual materialities before it was too late.
IBM is the classic example studied in business schools. An innovator since 1911 – from punch cards to mainframe servers – IBM launched its relatively inexpensive desktop computers preloaded with the revolutionary Windows operating system in the 1980s. IBM’s desktop PC carved out a new niche – much as the iPad did years later – and was universally adopted in businesses and homes.
But competitors soon cloned the IBM machine using cheaper hardware components, cutting so sharply into IBM’s desktop market share that in 1993 it reported a loss of US$8 billion dollars – then the largest loss recorded in USA corporate history.
Yet IBM is a resilient business with a renowned internal culture revolving around the verb ‘think’. Recognising its material issues – albeit belatedly – IBM steadily withdrew from computer hardware and completely re-invented itself as a provider of specialised enterprise IT solutions.
An iconic publication for over 100 years due to its ground-breaking nature photography, National Geographic magazine – along with much of the publishing industry – was becoming irrelevant to the digital generation.
CEO John Fahey took a visionary step in launching the National Geographic channel in 2001. Although not to everyone’s taste, this pay TV channel generates the revenues that enable National Geographic to continue funding outstanding photography, which it distributes through social media and photo sharing sites.
PROOF OF THE PUDDING
The lessons learned? Companies may lose touch with their commercial realities, but some recover through visionary leadership (such as Steve Jobs at Apple) or a corporate culture that intrinsically supports introspection and innovation (IBM).
For others, the way to go is to wholeheartedly introduce integrated reporting and its focus on materiality. The process of generating an authentic integrated report should build a corporate culture that identifies and adapts quickly to market shifts while recognising materialities as the next wave of business opportunities.
The proof of the pudding – or the culture dish – is Denmark founded Novozymes, the world’s largest producer of industrial enzymes and other biopharmaceutical ingredients.
Novozymes houses its reporting unit within its new business development department and actively uses its materiality plotting to uncover new business opportunities. It is recognised by Forbes magazine and others as one of the companies most likely to remain sustainable over the next 100 years.
Materiality has arrived on company agendas because of JSE regulations, but its intrinsic value goes way beyond mere compliance. Used properly and with honesty, tackling the materiality aspects of integrated reports provides boards of directors, managements, shareholders and stakeholders with a radar scanner view of the year ahead.
Author: Clive Lotter is a GRI G4-certified integrated and sustainability reporting consultant
Many of us see our complicated and stressed personal lives as badges of honour. Companies too seem to think that complex financial processes and systems are something to boast about. Rhys Robinson disagrees with this approach
It is year-end for your company, and the accounting team started popping rescue remedy weeks ago. It seems that no matter how prepared you are, it is always a chaotic scramble to consolidate the company’s financial results. Someone with a caffeine overload has made an error with some of the formulas; someone else too eager for their lunch break imported the wrong entity data, and things have gone haywire.
No-one owns up to the mistake (their heads would be on the chopping block) and the team must now wade through spreadsheet upon spreadsheet to first find then correct the errors. Failing that, the dreaded consultants have to be called in to try and sort out the glitches and mitigate the PEBCAK (problem exists between chair and keyboard) errors. As soon as the results are delivered to shareholders, the frustration, inefficiency and caffeine-fuelled rage is forgotten … until next year.
The Oxford Dictionary defines complexity as being ‘the state or quality of being intricate or complicated’. The Cambridge Dictionary goes a step further, defining the term as ‘the state of having many parts and being difficult to understand or find an answer to’.
We cannot argue that financial consolidation is complex. Companies are dealing with greater demands for growth and higher profitability, and more time constraints, increasing financial and legislative requirements than ever before. People (all doing their best) tend to make the process even more complicated. But if everyone had a clear understanding and common goal, financial consolidation wouldn’t have to be the pandemonium that it so often is.
Is a tangled web of convoluted processes and numbers the only way to see this picture? There is a simpler way.
As Albert Einstein said, ‘Insanity is doing the same thing over and over again and expecting different results.’ Well, then we must all be crazy! What is it about complexity that keeps us so addicted? Arguably, the most difficult part to improving reporting efficiencies is a mindset change that embraces simplicity.
Simplicity is defined by the Oxford Dictionary as ‘the quality or condition of being easy to understand or do’. To quote the brilliant theoretical physicist again, ‘If you can’t explain it simply, you don’t understand it well enough.’ Sound familiar? Before something can be simplified, it must be understood. That understanding comes with knowledge, focus, real experience and very importantly, a need to change.
Experience has taught us that simplicity is achieved through adopting a ‘simplicity model’ specific to one’s business needs and circumstances. An example of our ‘simplicity model’ consists of the following key elements: methodology, process, people, technology and sustainability.
It is important to find the right mix of these key elements in one’s business environment.
We must never stop reinventing the process, learning from and adapting to the changing needs of the times, making things better, faster and ultimately, simpler. Keeping things simple can be your operating model.
With this reasoning, making use of legacy financial reporting and consolidation methodologies and tools is preposterous! Should we be running our businesses today on the financial thinking and systems of yester-year? Quite clearly the answer is no!
Let’s consider an example of one of these key elements in a typical ‘simplicity model’. Technology, by its very definition, is meant to be an enabler, providing seamless outputs to one’s business and in this instance, reporting needs. It is critical that you choose a solution that is right for your business – one that fits your company culture, maturity and business objectives. It is also important to understand the inter-relationship between these key elements in your environment. In other words, technology has to be adopted by people, who seamlessly have to apply methodology and processes to ensure sustainability through reporting on the organisation’s financial results.
So ask yourself, is financial year-end ‘business as usual’ in your company – or not? If your answer is the latter, surely there’s room for improvement?
Financial consolidation may have complicated elements, but the process of effective management doesn’t have to be. ‘SIMPLE’ is possible:
- Saves time
- Improves productivity
- Mitigates risks against human and system error
- Partners with your business
- Leads to more value, and
- Earns stakeholders’ trust
So let’s have another look at that year-end scenario, this time in a world with simplicity at its core.
Financial reporting harmony is achieved, so for your accounting team, it’s business as usual. In this new paradigm, more benefits are clear, such as time savings in the reporting cycle, which translates into further value-driven planning and flawless execution of financial results.
Welcome to the era of true business value with increased intellectual contribution and the ability to continually reconfigure the business and reporting landscape.
Author: F R (Rhys) Robinson PhD is Executive Director: Strategic Partnerships and Marketing at Infinitus Reporting Solutions