Such information is increasingly demanded by investors but is also vital for executives. It’s an issue that requires action — and scrutiny.
At emerging tech companies, traditional metrics fail to capture the crucial factors that drive performance. For tech CFOs and their teams, demonstrating and enhancing the long-term viability of their company — particularly if it is preparing to go public or is scaling quickly — increasingly depends on financial and nonfinancial key performance indicators (KPIs) that aren’t so easily conveyed within GAAP financials.
KPIs can create a more strategic relationship with stakeholders, boost investor confidence and differentiate the company. CFOs should be confident that their organizations’ KPIs are thoughtfully defined, measured, monitored, collated and reported internally before disclosing them to the public. Leading and experienced CFOs use financial and non-financial KPIs that support the implications of potential new strategies, like transitioning into a consumer-facing brand or expanding enterprise offerings to include a consumption model.
The importance of guardrails
While KPIs are not generally audited, experienced CFOs and their teams understand the importance of establishing processes and controls that monitor these metrics.
As an example, social media companies capture and often disclose user activity metrics, such as daily active users or time spent, on their platforms to show scale and growth over time. But where does the day start and end, knowing that users exist all over the world? And if those numbers are cited in a sale of the company, will they hurt the valuation or damage public perception if they can’t be evidenced properly?
Before disclosing metrics publicly, companies should have a clear definition and a description of how the KPIs are calculated. Once defined, it’s important to describe the useful value of the KPI to stakeholders and investors, and how management uses the metric in managing or monitoring the performance of the business.
Similar to the requirement that public companies must have effective internal controls over financial reporting, both public and private companies should design their financial and nonfinancial KPIs with similar rigor, including policies, procedures and controls. Implementing these essential guardrails over metrics will help companies address the risk of misstatements or errors.
Actions for moving forward with confidence
If you haven’t already, now is the time to invest in validating that your KPIs align with your company’s current and future growth and in designing their related processes. As new trends consistently emerge — such as the evolving landscape around KPIs for environmental, social and governance (ESG) topics — both private and public companies need to understand and embrace the importance of their KPIs.
They may be a moving target, but if you invest time now, you will be best positioned for greater efficiency and reporting success in the future. Focus on how to:
1. Benchmark your business
Some companies find that examining what their competitors are measuring and reporting is a good first step to building out their capabilities. What companies should you consider and watch closely — and why? And what could you learn from some emerging tech companies that have recently shared their public KPIs?
2. Think about your metrics strategy
Over time, your KPIs should change as your business changes. Businesses should regularly assess and determine the usefulness of their reported metrics and how these metrics are relevant to the business and investors. For example, enterprise software-as-a-service companies’ key metrics, such as annual recurring revenue and retention rates, have been key to the industry for many years. As companies continue to offer consumption-based pricing offerings, new layers of considerations are added to these existing metrics. A coherent strategy is required to integrate new metrics and assess existing ones.
3. Understand the importance of data integrity and system reliability
When private equity is acquiring a company, a quarter to a half of the due diligence time is typically spent on KPIs. Inputs into KPIs will get scrutinized and can affect business outcomes in a big way. Data must be reliable, complete and accurate, as KPIs are only as good as input data. Without proper controls or guardrails in place to detect or prevent unauthorized data changes or erroneous data updates, businesses are at heightened risk of losing investors’ trust and confidence.
For engineering-led tech companies, the key to succeed here is aligning across functions (such as engineering, sales ops and finance). We share more recommendations here.As you formulate a strategy for what to watch and why, never lose sight of how reliable your data is, and whether the processes for collection and analysis are aligned.
Finally, it can also help to rely on an external, trusted professional services provider. Impartial recommendations and considerations from those with proven track records in designing controls and assessing KPI calculations can uncover potential blind spots and leverage lessons learned, offering credible validation to investors and other stakeholders.
Courtesy EY. By Ben Thiesen. Article available here.