What Is the DNA of a Great Expansion Stage CFO?
What are Great CFOs Made of?
I just finished reading an interesting study published by Ernst & Young called The DNA of the CFO, which led me to reflect on the role of the CFO within expansion stage software companies.
First, a disclaimer: I’m a HUGE fan of the role of the CFO in early stage businesses. In fact, I believe the CFO is the next most important position in those companies after the CEO. Think of the CFO as the “yin” to the CEO’s “yang.”
According to the Ernst & Young study, the CFO’s contribution comes in three major categories: Enablement, Execution, and Development. Their financial insight helps drive the company toward its strategic goals and keeps it grounded with sound financial data, ensuring smart business decisions.
That insight makes the relationship between the CFO and CEO particularly harmonious at the expansion stage. This yin-and-yang combination can play itself out in different ways, depending on the skill sets of the CEO. For example:
- For a CEO who is strong in sales and marketing, and driven to push top line growth: I would want a CFO who can use the operating metrics of the distribution model to temper the CEO’s top line drive. The role of the CFO in this case would be to keep the sales and marketing side of the house as capital-efficient as the business needs it to be. Read more on what constitutes a profitable distribution model.
- For a CEO who is product or marketing oriented, and not operationally or process centric: I would want a CFO who plays the role of the COO. In other words, the CFO can take care of building and scaling the operational processes and infrastructure within the company, while the CEO focuses on product or market development. For more on this topic, check out these posts on Operational Dashboards.
- For a CEO who isn’t a stickler for details and is not analytically focused: I would want the CFO to assume the role of operational co-pilot. The CFO would engage the functional senior management teams to pull together the right set of functional metrics and analysis that provide the right insights to the annual and quarterly planning.
- For an inexperienced CEO: I would want to have a CFO who brings extensive operating experience to be the CEO’s co-pilot.
The Cost of Not Having a CFO
In my years working with expansion stage businesses at OpenView, I’ve seen numerous examples of the heavy price that companies often pay for not having the right talent in the Finance function.
Here are just a few:
- An inexperienced Finance Director delivers sets of financials to the management team and board of directors that don’t always tie together. In those financials, the numbers that were reported as one year new customer bookings turn out to be multi-year bookings. That mistake causes the company to over-hire in sales by using the wrong assumptions on overall distribution model economics.
- An inexperienced Finance Director does not implement the appropriate procedures for closing and recognizing a sale. The company’s sales team reports bookings that are not validated with signed contracts by the customer and, subsequently, over $1M in bookings are written off as non-renewable. Those bookings are a significant driver to hiring decisions, which ends up burning a significant amount of cash.
- An inexperienced CEO does not understand the financials and economics of the business. Thus, decisions being made during the accelerated growth of the company result in high cash burn. The key issue is the impact of opportunistically closing a heavy portion of professional services’ sales, where the gross margin on that revenue results in cash burn. In simpler terms, the CEO (and the board) could not truly identify what was driving the cash burn.
The list could go on. But the bottom line is that having an experienced CFO that wouldn’t make those mistakes can be the difference between an expanding company surviving its next growth stage or falling flat on its face.
How Startups Should Manage Their Finance Needs
- Invest in a senior Finance resource early (CFO or VP of Finance). Look for someone who has experience in building companies from your current size to three times that size. And don’t let that resource’s cost stop you from hiring the best talent. It will pay for itself many times over.
- Recruit a credible audit firm and go through an audit (but not before you hire a CFO or VP that can prepare you for that audit). An audit is the best way to ensure that you have your house in order.
- Use the partner at the audit firm as your financial adviser (to augment your CFO). There are numerous things that the audit firm partner can do to help you and your CFO continue to evolve your finance function. I also suggest inviting that person to your board meetings as an observer.
- Hire a credible legal firm to perform a legal audit on your company. This audit invariably uncovers issues with your current corporate structure, option plan, contracts, and many other components of the business. Ask the legal firm partner to be one of your advisers and request help identifying the next steps of your evolution. And, just like your audit firm adviser, invite them to your board meetings as an observer.
- Recruit an independent board member that can play the role of the board-level CFO. This person should be a former CFO who has taken more than one company public and has experience sitting on boards. They would be responsible for providing your CFO with necessary air-cover and setting up more formal audit and compensation committees.
If you run a startup or expansion stage business without a CFO, that should be enough to get you started. For more, Inc.com provides a great how-to guide for hiring a CFO, including tips that will help you decide when you should start thinking about making that hire.
For more on the actual role of the CFO (and how to recruit and manage that position), I recommend reading a few entries from Cynthia Mignogna’s blog. She goes into great detail about why a CFO can make a competitive difference and discusses how to make a successful transition once you’ve found the CFO that’s right for your company.
The Finance function of any business is hugely important, but it’s particularly crucial as young companies begin to expand. So, don’t overlook the impact a great CFO can have on your company. The cost may seem high, but the return on your investment will be well worth it.