How Finance Leaders Are Aligning Front And Back-Office Teams, Operations, Data, And Systems To Protect And Grow Revenues And Margins
Most (53%) boards are pushing their CEOs to repackage their products and services as subscription or usage-based pricing models, according to a report by CFO Magazine.A survey of financial leaders by CFO Research found that the majority (55%) of financial leaders project that over 40% of revenues will come from these recurring revenue streams within five years. Almost every (90%) business that sells technology, equipment, or software is moving to an as-a-service model according to Gartner. In fact, any business that can pull it off – including industrial firms like Honeywell, automotive firms like Audi, hardware firms like Avaya, and infrastructure like Flexential – is trying to move to recurring revenue models.
This business model transformation has blurred the lines across the roles and systems along the revenue cycle – creating a more intertwined process, with shared data sets and greater collaboration across front office and back office teams. And risks. A byproduct of all this change is it has rendered the traditional financial control systems used by finance teams inadequate to manage the speed, changes, complexity and collaboration associated with recurring revenue streams.
The Growing Revenue and Margin Risk Associated with Recurring Revenue Streams
Incorporating recurring revenue streams into the revenue mix introduces significant risk and uncertainty into the control systems and revenue forecasting processes CFOs have established over the last several decades. Traditional control systems based on spreadsheet analysis, transaction-based billing, and accounting systems are no longer adequate to manage the uncertainty and variability of modern recurring revenue streams. This is because most traditional control systems in transactional businesses were based on a “one-time charge” assumption. In other words, revenue is recognized upon delivery of the goods and/or services. With recurring revenue streams, revenue is recognized incrementally as the service has been provided and ongoing commitments are fulfilled. Cash may be collected in advance (e.g. annually), but revenue is recognized in arrears (e.g. monthly) or even more frequently. When you add on top of that amendments and renewals – along with their related proration calculations – the whole model falls apart.
FIVE CHALLENGES FINANCE LEADS FACE FORECASTING, RECOGNIZING AND REALIZING REVENUES AND MARGINS IN A MODERN COMMERCIAL MODEL
The cracks in the system of financial control are starting to show. Nearly two-thirds (65%) of senior financial executives report they are having operational problems establishing processes to track and manage and maximize revenues over the long term. And almost half (48%) of companies with a recurring revenue business model struggle to meet accounting and reporting challenges created by the dynamic customer relationship that dictates revenues must be recognized when realized and earned, not necessarily when received.
These struggles take many forms.
The most obvious is revenue and margin leakage due to invoice disputes, incorrect contracts, and failure to capture extensions, add-ons, or renewals. It is estimated that 1 to 5% of EBITDA flows unnoticed out of companies because they do not have their contract management and payment follow-up processes completely in order, according to Nikolaas Vanderlinden, Executive Director Advisory (Risk) at EY.
In addition, invoice disputes and errors have emerged as a critical issue that impacts both cash flow and the future lifetime value of a customer because most (61%) billing errors are not the fault of the customer according to customer research by Salesforce. The root cause of most disputes can be traced back to internal issues at every stage of the revenue cycle. At the front of the revenue cycle, the lack of consistent pricing, rogue discounting, or incorrect order information are primary sources of billing errors. During the expansion phase of the customer relationship, the failure to track and record customer amendments, execution delays, or contract extensions that occur after the initial revenue commitment leads to even more disputes and problems.
Another less obvious risk stemming is that the increased variability and complexity of modern revenue streams have turned humans – and the spreadsheets and manual data manipulation they use to maintain control over information – from a point of control to a source of error in the financial control system. This is because traditional spreadsheet-based approaches to gathering, aggregating, sharing, and analyzing demand data are too slow, inefficient, and error-prone to manage the velocity and volume of data changes required to apply revenue recognition rules, update forecasts, and verify revenue commitments in a modern commercial model.
The same goes for separation of duties as a control point. It used to be Finance viewed sales and optimistic estimators and did not trust their forecasts or information and could not be trusted to maintain discipline around pricing, discounting and margins when a deal is on the line. Now, front office sales, account management, and Revenue Operations teams hold the keys to the systems, data and information finance needs to accurately and properly recognize revenues, resolve billing issues, and adjust revenue forecasts to reflect amendments, expansion revenues and changes in consumption.
Finally, invoicing becomes a more important touch point in a recurring revenue model because customers use it to monitor the variable costs and operating expenses associated with subscription and SaaS contracts. This makes billing disputes and errors a customer experience issue in addition to a cash flow problem.
In response, financial leaders are being asked to lead the digital transformation of the entire revenue cycle – from the initial customer engagement to the receipt of cash – to maximize revenues, margins, and the lifetime value of the customer. Progressive finance teams are taking concrete steps to align the organizations’ processes and data across the front and back office to make forecasting more agile, transparent, and precise over time. This is because adapting the commercial model to support more predictable and recurring revenue streams requires back-office finance teams to take greater ownership of the key points in the revenue cycle that impact when revenues are booked (upon the commitment), forecasted (based on rules dictating revenue recognition, and realized (when cash is collected when the commitment is fulfilled). Along the way there are more errors and disputes, and revenues are prone to expand and contract more than in a purely transactional model. All of this means the CFO, controller, and financial planning functions need to work more closely with their counterparts in sales, account management, product, and services to transform their approach to managing and forecasting revenues.
The introduction of complex time-based, consumption, and milestone-based revenue streams has forced CFOs to take on a bigger role in growing customer revenues, margins, and lifetime value and rethink their relationship with the front office to better manage, forecast, and protect revenues. This is leading the majority of finance leaders are working to take greater ownership of the entire revenue cycle – from customer engagement to revenue realization – to eliminate functional and data silos along the enterprise product-to-cash processes and standardize the information and outputs of the process.
THE KEY POINTS OF FAILURE IN THE REVENUE CYCLE THAT LEAD TO REVENUE AND MARGIN LEAKAGE, SLIPPAGE AND SHRINKAGE
As a direct result, most (60%) Financial Planning and Analysis (FP&A) organizations are driving global process ownership of end-to-end processes for booking, reporting, and forecasting revenues according to a survey of 300 CFOs. Their goal is to reduce process fragmentation across silos and standardize and harmonize the way information moves across the process. More than eight in ten (81%) financial professionals believe sales and finance would benefit from improved collaboration and better communication about customers and contracts according to a survey of financial professionals by CFO Research. Thirty-one percent of CFOs are making it a high priority to integrate their finance processes from the back office to the front offices across organizational hierarchies according to a survey of 300 CFOs by the Everest Group.The best organizations are connecting the dots across the teams, systems, and processes involved in converting opportunities to cash into a closed-loop – data-driven system.
In parallel, most finance leaders are exploring systems and solutions that allow them to extend their financial control systems into the front office and gain access to critical customer contracting and order data needed for reliable revenue forecasting and optimization. Nearly two-thirds (68%) of finance leaders are actively exploring new processes or systems to support recurring revenue products or services. Almost half (49%) of CFOs are actively transforming their order to cash processes, according to a Grant Thornton CFO Survey. To achieve this, the most progressive organizations are automating and streamlining the upstream customer engagement, quote, and order entry to invoicing processes to ensure they capture consistent customer order and billing information across every channel touch point. Controlling front office problems early in the revenue cycle such as rogue discounting, poor account approvals, bad product fit, and wrong priorities can accelerate revenues and improve the return on selling investments. For example, 71% of senior financial executives think a more efficient pricing and approval process would substantially improve their organization’s profitability according to the CFO Research study. In addition, eliminating downstream billing disputes and late collections can stem revenue leakage, shrinkage, and slippage between booked and realized revenues – which can exceed 5% of total revenues. For example, according to client research by Salesforce, automating the subscription billing process can help your organization reduce invoice disputes and the days it takes to collect cash by over 10%. Automating the quote-to-cash cycle can increase new business and renewal conversions by double digits.
Another ways finance leaders are taking control of the revenue cycle is to increase the level of collaboration they have with the key front office stakeholders in the process. Sixty-seven percent of finance executives believe the finance function should be better aligned with sales leadership to improve forecasting and maximize revenue growth. according to a survey of senior finance executives by CFO Research. Two-thirds believe that better alignment between finance and sales leadership will lead to improved revenue forecasting and a 5% increase in revenue growth while simultaneously lowering both finance and sales costs by 5% and giving them greater control and compliance.
To make this happen, the most progressive finance teams are embracing the growing role of Revenue Operations as a better way to align the organizations’ processes and data across the core business groups to make forecasting more agile, transparent and precise over time – from the initial customer engagement to the receipt of cash – to maximize revenues, margins, and the lifetime value of the customer. These Revenue Operations roles are emerging as the missing link that connects finance with sales by taking on a “middle office” role that spans almost every “job to be done” in product to cash cycle. Over eighty percent of organizations are deploying Revenue Operations strategies by taking steps to align the teams, systems, data, and processes along the revenue cycle to get better control over revenue and margin leakage and increase customer lifetime value, according to research in the book Revenue Operations. “It takes collaboration between finance, operations and sales to generate predictable and scalable revenues,” says Tim Brackney, President, and Chief Operating Officer of RGP. “Doing this right is a team sport. So, I work very closely with my account management teams and CFO to bridge the gap in information and ensure we have the information we need post booking to allocate resources, monitor rollout logistics and project timelines so we can recognize, adjust resource sand revenues to reflect the reality in the moment.