CFO Studio Magazine - Curt Allen, CFO, Subaru

By Michael Rist CPA, MBA Finance Executive Learn more about the author www.CFOstudio.com 2 CFO CFO Smart Money C apital allocation is one of the single most important responsibilities of senior management in today’s highly competitive business environment. Despite that, many companies have generated little shareholder value, and quite a few have even destroyed value in the past decade. When capital is scarce or expensive, an efficient capital allocation process is vital —as inefficient capital allocation puts pressure on the balance sheet and could end up destroying shareholder value in the long run. Funding the right investment initiatives allows for companies to grow. However, growth is not the ultimate goal of capital allocation— increase in long-term shareholder value is. Deciding how to allocate limited resources, including people, time, and capital, across competing initiatives to achieve the greatest overall benefit, is not simple. Senior management must: • Prioritize and evaluate the relative value and importance of competing projects, deciding which projects should be funded and which should be cut, scaled back, or eliminated.Align capital allocation with the company’s overall strategy. Are capital allocations linked to strategic goals and consistent with the organization’s risk appetite? • Consider long-term vs. short-term projects. Long-term capital projects are less flexible for conversion into more liquid assets and less flexible if there is a change in the strategic direction of the company. Evaluate interdependencies between various initiatives. There might be initiatives that could yield high return but are dependent on other initiatives, which could be both internal and external to the organization. • Balance risk and reward. Ask how do the expected returns compare to the risk associated with the capital outlay and the organization’s risk appetite? • Value both quantitative and qualitative factors. Most initiatives do not exist in a vacuum. Often there are intangible benefits and drawbacks associated with new or existing initiatives that typical financial modeling does not include. To address the above challenges senior management should ensure that they have an efficient and effective capital allocation process in place, including controls and metrics to monitor its performance. This process should be ongoing, and not be the exclusive domain of the finance department but a multifunctional undertaking that must be integrated with the company’s overall strategy. The approach of allocating capital should include ranking of initiatives via weighted decision criteria and considerations of the interactions and dependencies among various initiatives. Furthermore, the process should include timing, scale, probability of success, and analysis of exactly how each specific initiative is aligned with the company’s strategy. This way — and this way only —will the company be able to address the challenges and drive the greatest value out of its limited resources, thereby increasing long-term shareholder value, which is the ultimate goal of any capital allocation process. C 1st QUARTER 2015 WWW.CFOSTUDIO.COM 43 MAKINGCAPITAL ALLOCATION EFFECTIVE IN BOOSTING VALUE VALUE BOTH QUANTITATIVE AND QUALITATIVE FACTORS.