The ATIPIC Series 2

Where’s all our money gone?

There are many management teams out there who are asking this very question. They have risk management departments, they have operations teams, they have made cut costs, they have done everything possible to remain strong. But the results are simply not there.

They have charts, conduct meetings, analytics etc. But the growth promised is either non-existent or they can’t find it in the financials lower than expected. They then get an expensive management consultant to come in and do performance transformation.

Reality is: – no significant change occurs. Because no change was made or initiated. Its was only fine tuning. There continues to be Ebitda reduction (somewhat delayed), costs increasing as obsolescence and asset age is increasing, workforce reduction through attrition and cost cutting is resulting in loss of knowledge and experience. Lots of activity but no actions as real change is not managed or lead.

Consequences of this lack of change are production volatility, cost increase, destabilisation, quality issues, loss of competitive advantage etc. All not really shown in the KPI’s chosen. The tools used to achieve results are traditional and use outdated KPI´s which do not actually address the questions raised. Ebitda is maybe improving but enterprise value decreasing.

Stability Index – non-management buy-in

Graphic 1 is a good example of this typical management style where for years the mindset change was not successful.

The KPI used here is operational stability. This strong KPI gives three clear insights into the plant’s management style. Every 6 months, over 9-years, significant amounts of money were invested. This is shown in the regular KPI improvement. The volatility improvement, which should have improved following this investment, was never realised. This is clearly shown in the spread of the result over each 6 months. Finally, you can see that, despite this investment over a 9-year period, the overall trend of production stability is reduced. In fact, the assets are only producing 50% of what they had been capable of in the past. But following investments the KPI used by the project team showed good results.

The management response? We need more resources! Clearly the wrong actions were implemented, the actual site KPI´s were wrongly set and no lessons learnt. The 12-month moving average shows that there are no expected improvements as the management have not changed their approach. Loss of productivity, loss of quality, increasing costs and repeated spend for the group means that opportunities are not going to the site, innovation is possibly zero and the life of the site is at risk.

The spend over 9 years is tremendous, many times for repeat actions, but little value creation can be found.

Here you start to see the disparity between KPI´s set by ourselves, the financial calculations and traditional methods of graphically representing these results and a true understanding of where value is actually generated in a company. The plant management showed at each management meeting KPIs that were being achieved. So clearly more resources were needed. It’s not us!

So in graphic 2 you see another plant over the same time period. The KPI is the same, stability index. You see that in 2009 etc there was a tremendous improvement in management that focused on correcting the fundamental issue of production. The production volatility is smooth, the trend is positive, and the plant is operating at nearly its full potential. In fact, as the result is normalised, they continuously beat previous productivity records.

Stability Index as KPI

There is one item you don’t see from this chart. It’s a consolidation of multiple assets. Its shows that all of the assets are in synchronisation, the management at the whole plant is aligned. We can take this KPI for each asset, normalised to enable comparisons and then generate insight into the training and coaching needs of the operators and managers for each of the assets.

I am the first to admit I am not an expert in anything, but I believe that I have some common sense. One of the basic skills of risk management. My experience has shown me the following:

  • I will always define a KPI that my bonus is based upon in such a manner that I will achieve it. My boss will do the same. A consultant also.
  • I will always use traditional ways of reporting as this is what everyone is used to and enables external people to benchmark etc.
  • I need short term fast results, and this is typically at the cost of long-term strength.
  • Responsibility is pushed down, empowerment pulled upwards but with the misconception that the first point above, KPI´s, is aligned with company overall goals and results.

These 4 elements are clearly playing a large role in the first graphic shown. In the second graphic it’s not the case. So, what’s the underlying issue here and how can a risk manager help in creating the value needed and capture lost cashflow?

There are three strengths the risk manager can bring to answering these questions and creating the system needed to capture value as intended.

  1. Opportunity based action prioritization resulting in effective capex and opex allocation.
  2. KPI formulations based upon where we need to be and actual results rather than where we are going and budgeted figures.
  3. A system developed specifically to identify value loss and then feedback into the opportunity-based action prioritisation.

The future vision of the company, once defined and aligned, allows the risk manager and the management team to establish:

  • Which actions are good, but the timing is wrong?
  • Which actions identified by plant A should in fact be implemented in plant B?
  • The order of actions and timeline needed to be effective for the company benefit.

This requires the KPI´s of each action and risk owner to be defined on the entire company and not each individual plant financial statements. As this future is dynamic there is a need for constant revision and reappraisal to ensure the financial effectiveness needed.

One of the fundamental roles of the risk manager is to understand what the actual bottom line of the company can bring. Understanding if the assets can deliver what is intended at the right time and right cost and quality. This dictates that the operations and bottom up approach is fundamental. However, in todays world the top management are defining action and goals which the assets, through years of cost cutting and stagnation, can’t deliver.

Operational Leakage

Financial transparency and a better way of looking at results in needed. Challenging the traditional.

So, the management team shown in graphic 1 need to understand and create insight that will help drive decisions in the future.

Easiest, and the first step, is establishing the incident reporting system as this is typically already in place but not being used effectively. Through transparent reporting of the costs of events, even the small ones, operations can get an idea of where they are losing money.

By using correct KPI’s and understanding what the individual actions are actually achieving, Ie where and how they will affect the Ebitda, we can ensure they are achieving the results we expect. This will prevent the repeating spend on the same KPI improvement year after year.

Opportunity leakage

In the graphic shown above the actions needed to get back to the plants original operating condition need to be sustainable. Only then can we build on these to create the growth needed and expected. These are the opportunities shown.

The overall effect of not understanding financially what is happening within operations means we only capture approximately 30% of the targeted gains noted and reported. This is confirmed by some of the big consulting houses. The reason for this discrepancy is that a risk management and performance process is being used rather than a system. The approach used has always been silo based. The risk manager needs to create a system and make it holistic. As has ways been said.

One powerful result of combining all of these elements into a single system is the decision-making information being provided.

This is shown in the managerial bridge shown here. Simply understanding the operational leakage and reducing this will generate Ebitda.

There are some very simple steps that need to be put into place to capture a greater percentage of the gains targeted and reduce leakage.

  • Ebitda results are reported at the end of the year but budgets are setup at the beginning of the cycle. This means the KPI used is historical and not actual.
  • As the KPI is historical it’s not changing so you will be reporting based on a non-existent view of the future. If you are reporting a probability of result obtained based on this KPI it’s inherently flawed. The risk manager needs to report on the probability of achieving a future result based on market conditions that are coming and not are historical.
  • The risk manager is perfectly placed to advise on the issues and problems resulting in operational a volatility which is resulting in operational a tightening of the distribution curve. But not only. We are also moving the curve upwards meaning we increase the chance of achieving a higher result than expected.

These points nightlight some very interesting conclusions which the management board might find interesting.

Firstly, I question the need for a traditional budget. It’s based on last years results and target set. It’s not dynamic. Managers have base their performance KPI’s on this number and do whatever they can to achieve this historical target. Regardless of what the future looks like. An opportunistic budget based on where the company needs to be will be a better target and therefore create more value.

Secondly, we base the financial calculations on a future vision rather than a historical fact. By using actual figures, we can adapt our strategy and focus efforts on where they are really needed. This will result in faster Ebitda stabilization and growth. But more importantly a more efficiency use of capex and opex.

The required change in management thinking shown in the stability index graphic needs to be facilitated by the risk manager to leverage the effective use of funding. The investment structure needs to be revisited promoting needs not wants and future oriented Ebitda growth. The KPI setting needs to be challenged. A normal role for the risk manager.

So where to invest? The subject of my next article.

Passionate Risk Manager. Accomplished thought leader with more than three decades of industrial and financial experience. Visionary and functional Opportunity Strategist. Doing things right ... but differently.

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