The financial crisis and Business Analytics
The question that we are being increasingly asked lately is, ‘Could the credit crisis and its consequences have been avoided with an intelligent organization?’ In this article, we explore where and how the credit crisis began, its effects and the characteristics of an intelligent organization that should have been able to play a role in that. Finally, we give a number of options on how you can reduce the current consequences with concepts from the intelligent organization and can even exploit opportunities. Even if you have no business intelligence (BI) system.
The financial crisis and the customer
In America, it started in the spring of 2007. In the preceding years, the lowest grade of mortgages – for people in a weak financial situation – were sold on as bonds to third parties. The housing market stagnated and mortgage repayments rose because of rising interest rates caused by a series of interest rate hikes by the Federal Reserve. Homeowners began to have payment problems, so insurers, mortgage lenders and bondholders suffered very hefty losses. These mortgages were also called NINJA mortgages because they were provided to people without work and income, and no equity (No Income No Job or Assets), sometimes without any form of check on the customer data.
Covering-up losses on the financial statements
Only six months later, from June 2007 onwards, the first reports came in from financial institutions that had to admit to the large losses. The value of the investments had to be written down, sometimes down to a value of zero. In July 2007, a subsidiary of the French bank BNP Paribas reported the following: “[…] it is impossible to value certain assets fairly, regardless of their quality or credit rating.”
Other financial institutions followed, in dribs and drabs and with great hesitation, with similar ‘vague’ statements. Some companies managed to conceal the problems for months, somewhere in the financial statements, or even kept such risky investments off the balance sheet – but instead in the Channel Islands – as in the case of Fortis. How is that possible after legislation such as IFRS and the Sarbanes Oxley Act? How true, and up-to-date as ever it was, is what Burton G. Malkiel wrote in his book ‘A Random Walk Down Wall Street’ in September 1996. “The profit and loss account is like a bikini: what it shows is interesting, what it conceals is vital.”
Trust between banks disappeared
It only dawned very slowly, that there was a large, not to say gigantic problem. Nobody knew what the mortgages were worth at any given moment. The banks that held such mortgages could also no longer be valued properly. Even institutions that had nothing to do with the ‘contaminated’ mortgages were looked at askance. Trust between financial institutions had completely gone and interbank transactions came to a halt. Money lending was seen as very risky. In late September, Fortis threatened to collapse, share prices evaporated in a few months and it became generally accepted that a period of economic downturn was imminent.
The sales bonus culture and failing risk management
A (substantial) part of the salaries of bankers and traders used to depend on their performance and that of the company. There is nothing wrong with that in itself, if the risks of the decisions made by the bankers and traders are well managed. That there is now uproar is not incomprehensible. Merrill Lynch was given a 10 billion dollar capital injection by the US Government, while 6.7 billion was paid out in bonuses at the same time. How is that possible while things are going so badly? Only one answer is possible, the bonuses were awarded for all the wrong reasons – the turnover – and were based on short-term success.
What did not go wrong…?
The above aspects show that certain things went profoundly wrong:
- It was not necessary to know the customer well, shareholder value was paramount
- Businesses were bought without knowing exactly what was bought
- What was essential was concealed, there was virtually no insight, analysis and transparency
- Trust was plummeting
- Inadequate supervision by shareholders and Government
- A bonus culture and structure focused solely on turnover and the short-term
- The starting points of an intelligent organization
We know from previous research that intelligent organizations achieve better financial results. Moreover, this is not only due to strong financial management, but also and more importantly, due to other factors.
Trust is the foundation of every successful transaction
One of the most important factors that an intelligent organization applies is to instil a culture that is deliberately aimed at creating trust. Trust between employees, between managers and employees and between employees and customers. From top to bottom, from outside to inside and vice versa as well. The collection, creation and exchange of relevant information and valuable knowledge is essential. When a customer really trusts your organization, a transaction will come about much more easily. By building up ‘trust’ as a matter of policy, the costs per transaction can greatly decrease.
Know your customer and let your customer guide you
The basis for knowing your customer is first of all to ensure you have a 360 degree view of the customer. Customer data is often stored and held in the so-called silos (departments) of an organization. These are generally not very accessible to others inside and, in particular, outside of the organization. An intelligent organization aims to combine the data held in the different silos on one customer into an informative overall picture. Everybody within the organization can use that during the preparation of customer contacts and the contact itself.
It is is only logical that there will then have to be necessary changes in the field of behavioral competencies, organizational responsibilities and culture. Instead of managing with silo information, you should be managing with integrated management information. Ultimately, the aim is to put matters into the customer’s own hands, so that they can obtain direct access to relevant information and applications in the back office via the internet.
The brainpower of the organization can then be greatly increased: the organization is no longer managed only by managers, but also by employees at all levels, customers, suppliers and shareholders. In this way, we increase transparency and we can also avoid payment problems that are caused by customers buying products that do not meet their needs.
From information dictatorship to information democracy
A smart organization therefore no longer focuses on the silo and its associated operations, but instead the on overall process and the customer. The organization makes a transition from an information dictatorship to an information democracy. Information will be disclosed to everyone, tailored of course to someone’s role within or outside of the organization and what it is relevant for them at that time.
We can look at things together, and see not only our performance and that of our team, but also that of others and the whole organization. Managers and employees can no longer get away with figures drawn up by themselves and their own interpretation. There will be obligatory and voluntary management and supervision from all sides. Here, it is of course important that there is, from top to bottom, a broad-based consensus on the meaning and definitions of the management information and key performance indicators (KPIs) and – not least – on which direction we must take.
Break down the walls in your organization
A process does not stop at the walls of the department or service. A wall is an obstacle, while it is where the greatest added value lies in an organization. Each step in the process means appreciation in value. And the more the customer comes into the process, the greater the value of the customer. There are exceptions to this rule, but the fact is that a customer who has paid for a service is worth more than one who requests a quotation (for the same service).
Managers and employees will therefore have to be very focused on ensuring the overall process runs as smoothly as possible. This often means that the walls between departments must be demolished bit by bit and by this, we mean as part of a controlled process. But the boundaries of the organization will also fade when customers and suppliers become part of the overall process in the chain. This requires trust on both sides. Verifying is good, trust is better.
No longer merely managing on intuition
We will not achieve that with reliable and relevant information on its own. Although information naturally calls for analysis and action, we will have to focus our management on this. In short, creating an analytical company culture, because people – employees and managers – are too often inclined to manage on intuition and are too gullible. A survey on our website shows us that, in 79% of organizations, managers completely or mostly manage on intuition (gut feelings). A major problem, which also played a significant role in the credit crisis: well-packaged bundles of ‘bad’ mortgages were purchased without any further analysis, often with borrowed money.
An intelligent organization could never do that, even if someone wanted to. The structure and culture of decision-making is designed in such a way that decisions can no longer be taken by one person based on gut feelings. It is a strong organic process of thorough analysis and interaction, a creative dialogue on the figures and a cascade of various smaller sub-decisions that are in line with the strategy and vision.
Sometimes decisions are also simulated, so that people get a better view of the potential impact and changes that they might bring about. A closer look is also taken at purchases so ‘sensitive’ details become visible that would be otherwise hidden by the ‘cold’ numbers. Born entrepreneur Dirk van der Broek looked with great concern at the many acquisitions that Ahold had made in the United States, just before the company ended up in the biggest crisis of its existence. Dirk van der Broek first checks the lay of the land before he buys companies; then, together with his wife, he does his shopping at the supermarket in question, for a whole month.
Performance related pay on customer value and process
Much has been written about the pitfalls of performance related pay. Many studies prove that bonuses are good for a company; just as many show that it is simply bad. We all know that you should not count your chickens before they are hatched.
A well-known software company from the United States paid bonuses based on the orders that came in. The fiscal year was closed at the end of December the bonuses paid. What happened in the month of January of the new year? Half of the invoices that were sent for the orders in December had to be credited back. You can understand that the Director did not endear herself to the sales team when she decided to pay the bonuses only after customers had paid.
An intelligent organization rewards for performance and based on customer value. What are the rules? The process is central, as is illustrated by this calculation:
|Customer receives a discount||-1|
|Customer reports faulty product||-2|
|Customer returns product||-3|
|Customer gets a late delivery||-2|
|Customer does not pay or pays much too late||-5|
|Customer is a one-time customer||-2|
|Customer has a serious complaint||-2|
You see, the client and the process are central here. In this example, your sales person would have been better off not selling. Not only will you lose a lot of energy and money on this customer, if you merely reward based on sales, you will also be stealing from your own wallet.
The value of business intelligence in a recession
It is seen as logical that when things are not going so well or even going badly, that people will invest less. We have already seen for a number of years that one of the top priorities of management, as far as automation is concerned, is better, more timely and accurate information; in other words Business Intelligence. But do people still invest in bad times or is it seen as more of a hobby? Experience shows that many companies simply stop, despite the fact that it is the best time to score with Business Intelligence.
They say “it costs too much, it is unclear what it brings – stop.” Nevertheless, there are always some companies that use business intelligence (BI) to steer through difficult times, to see which products are doing “well” in the market and which are not, which services are profitable and which are not, what measures really save money and which do not.
What we often see during a recession are reorganizations, factories close, people go and lots of money is spent on one-time restructuring costs. Decisions made, almost always, on “gut feeling” and based on spreadsheets. No one seems to have time to look at the real key performance indicators (KPIs). In retrospect, if people did have the time to analyze everything that has happened, we see that much of it made no sense. But then it is too late and no longer spoken about and even worse nothing is learned from it.
The conclusion is simple – Business Intelligence makes more sense in difficult times than in good times – and almost nobody dares to invest. See also: Is Business Intelligence worth the investment?
What you should and can do now?
The most recent forecast is that doing business will be difficult until the spring of 2016. What decisions will you take, what will you invest in and what can you change to see you successfully through next year and beyond? We propose five options:
- Ask yourself, are my strategies still tenable in these dynamic times? If not, make sure they are aligned with the situation in the (financial) markets. In other words, learn about the consequences of the financial crisis for your organization and products. Consider alternative strategies to keep pursuing your mission. Communicate these new strategies in the form of clear product and service offerings for your customers.
- Adjust the key performance indicators (KPIs) to your new strategy. Nothing is as fatal as when you continue to manage on the things you have always managed on, while the outside world and your customers have started finding that totally different things are important.
- Ensure that the process and the customer will be central in your organization. Employees who are not willing to adapt their way of working and only do things in their own interests can start to fear for their jobs. Let me say it again, there is only one interest, the company. Focus on allowing people to work smarter. What we need is a strong feeling that “we” are a team.
- Analyze your customer and product portfolios thoroughly. Which ones are profitable, and which are not. Make sure you retain profitable customers; consider divesting yourself of the non-profitable customers and keep opportunities to gain new customers and to tap into new markets. Involve all your employees in this. So make choices in line with your new strategies.
- Manage with the KPIs to keep on course and enter into discussions about the figures. Help your employees develop themselves, especially at this time. Design your bonus system on customer value and value for the company.
For more information about how we can help you with this and get the best out of your organization, please contact one of our consultants.