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Innovation is a long-term game that can help companies deliver ongoing value. It takes effective processes, support from a CFO who dedicates resources to projects, and an energized company narrative. But, when done right, innovation can fuel sustainable, consistent, capital-efficient growth.
Unfortunately, many innovation teams feel they must win over the CFO to access the resources they need. Some feel there is a bias against taking risks in their company. Others feel they can’t secure the finance, resources, or people they need to innovate. And others feel they can’t achieve near-term targets or meet unrealistic expectations of innovation projects due to delivering payoffs between one and two years. However, these are perceptions, and the reality can shift under the good leadership of a strong CFO.
The divisional and group CFO Gary McGaghey explains that the CFO can be the most important enabler in innovation and that they should be an ally, not an opponent. Here, he explores the misconceptions around corporate innovation, introduces McKinsey’s eight essentials of sustainable innovation, and explains how finance teams can secure the resources they need for innovation projects and get these projects off the ground.
Misconceptions Around Corporate Innovation
Although most people agree that innovation benefits companies, team members often disagree over what innovation can accomplish. Many people think of innovation as developing new products, but teams can also innovate new services, experiences, ways of serving customers, and business models, all of which are ways to create growth opportunities. For example, innovating a business model can involve enhancing your value proposition or finding new ways to use your tangible assets (like your production facilities) and intangible assets (like your brand) and improving productivity and processes as you make better use of your assets and talent.
Gary McGaghey explains that the end goal of innovation should be to deliver “net new growth” (something new that isn’t a one-off). Most companies can innovate to some extent if the CEO and CFO prioritize innovation projects and the relevant teams make huge efforts. But such efforts aren’t usually sustainable or repeatable. Therefore, the companies that innovate most successfully tend to innovate every year in different parts of their product or service portfolios. However, while team members can often come up with plenty of ideas for innovation, allocating resources can pose more of a challenge. These required resources may be financial, but they may also involve people, leadership attention, time, and/or physical assets.
McKinsey’s Eight Essentials Of Sustainable Innovation
Most CFOs want to weave innovation throughout the company’s operations, which means innovation can’t be a once-a-month or once-a-year exercise. Instead, teams should continuously budget for and forecast resources so they can integrate innovation throughout their approaches. The CFO should help these teams identify and develop the value proposition of any ideas that emerge.
The CFO’s priority should be to ensure that innovation investments lead to economic value. To achieve this, many innovative CFOs employ McKinsey’s eight essentials of sustainable innovation. These essentials include:
- Strategy and portfolio: Aspire and Choose
- Distinctive value proposition: Discover and Evolve
- Launch and scale: Accelerate and Scale
- Mobilized organization and culture: Extend and Mobilise.
Companies that only master some of the essentials of innovation don’t tend to enjoy the same impact on economic profit as companies that embrace all eight essentials. Many companies fall into the first bracket though — although they’re allocating resources to innovation, they’re not evolving their business models to capitalize on new offerings.
McKinsey has found that companies that use five or six of its essentials across all operations can achieve a 60% higher economic profit than if they hadn’t implemented these essentials. On top of this, companies that apply seven or eight of the essentials can multiply their economic profit by 2.4 times the momentum case.
Gary McGaghey explains that Aspire and Choose are two of the most important practices as people are less likely to pay attention to innovation projects if the CFO hasn’t set a high innovation goal and allocated resources to specific projects. Mobilization is another particularly important practice as this requires CFOs to consider the top line, and the price at the top line is one of the biggest multipliers of economic profit.
Ensuring Innovation Projects Get the Resources They Need
CFOs can carefully craft a process to ensure innovation projects get the resources they need. All functions, from supply chain through to manufacturing and distribution, should get involved in innovation by giving up resources and contributing to economically viable solutions.
Gary McGaghey notes that CFOs can use common metrics to highlight the payoff for this effort and reallocate resources so teams can cultivate solutions throughout the company. Sometimes, reallocating resources can mean reallocating talent. CFOs can ensure that the right people are innovating in the right places, and they can work with other leaders to find progression routes for high-potential individuals to move into operating or strategic roles.
Requesting Resources For Innovation
CFOs can encourage team members to request resources for innovation by making innovation part of the company culture. When CFOs recognize and reward innovation and make it fun, team members are more likely to share their ideas. For example, a CFO could ask team members to pitch product, service, or process ideas to the C suite. They could also award bonuses and/or other forms of recognition to teams that make submissions.
It’s also important to show acceptance of the high failure rate of innovation. Celebrating innovation outcomes should be separate from celebrating those who take risks and show leadership. It doesn’t matter how strategically an innovator works if the market evolves and their innovation doesn’t flourish. If they have led with a bold vision and moved forward despite uncertainty, their efforts deserve celebrating during project reviews and in company communications.
Encouraging Innovation And Risk-Taking
Most companies have a three-to-five-year plan and a growth model that they follow to reach their goals, and strong performance, portfolio momentum, and mergers and acquisitions may get them there. But if these factors aren’t proving enough, CFOs need to turn to innovation. In this case, the CFO should think carefully about setting stretch targets that the company can only reach through innovation. These targets cascade because team members are held accountable for both their quarterly EBITDA (earnings before interest, taxes, depreciation, and amortisation) targets and longer-term targets.
Gary McGaghey adds that time is another important consideration here. In private equity companies, the time horizon is often five-to-seven years. But a long-term innovation game can see companies lose stakeholders. Laying out a strategy relative to multiples that each drive value increases may resonate with stakeholders more.
Innovation’s Short-Term Demands And Long-Term Horizons
CFOs can balance the short-term demands of innovation with their long-term horizons by treating innovation as a pipeline. Instead of thinking of innovation as a once-in-a-while idea, they can position it as an ongoing, definable, repeatable process. CFOs should also remember that some initiatives in this process will pay off earlier than others and some will pay off better than others. The CFO should allocate resources in line with these payoffs and the company’s needs.
Meanwhile, finance teams can also take note that when initiatives don’t reach expected heights, this doesn’t mean that they have failed. Some of the world’s best-performing companies have found success in their “failures”. Take Amazon’s Fire phone as an example, which wasn’t successful, but its voice recognition software played a major role in the Alexa technology.
Knowing When To Cut Your Losses On An Innovation Project
Putting innovation ideas through a five-stage gate can be a good way to decide when to cut your losses on an innovation project that isn’t paying off. The first gate may be volume — deciding whether the innovation can work at scale. If so, the next gate may be pricing — identifying what kind of pricing you can get for the investment. If the pricing is doable, the next gate may be costly. Gary McGaghey explains that this approach can prevent companies from investing time and resources into the project until it’s passed the initial gates. When innovation teams know what the CFO is looking for at each stage, they can address issues between themselves before bringing projects to the CFO.
About Gary McGaghey
Gary McGaghey is an influential finance leader who is currently the Group CFO of the €1.3bn end-to-end marketing production and business services group Williams Lea Tag. In this role, he manages the company’s financial plans, increases the value of its holdings, and oversees decision-making processes related to investments. Gary McGaghey is also the non-executive director of Fitmedia UK, the children’s fitness analysis and testing provider. In the past, he has achieved financial transformation for a plethora of private equity, privately owned, and listed companies.
Having completed a postgraduate Bachelor of Commerce degree with honors from the University of South Africa and a Bachelor of Commerce degree from the University of Natal, Gary McGaghey is a chartered management accountant in the UK and a chartered accountant in South Africa. He has also completed the Financial Times’ Non-Director Executive Diploma.
