INTEGRATED THINKING
CGMA BRIEFING INTEGRATEDTHINKINGThe next step inintegrated reportingProud Imperial Sponsor: CGMA powered by the AICPA and CIMA
Two of the world’s most prestigious accounting bodies, AICPA and CIMA, have formeda joint venture to establish the Chartered Global Management Accountant (CGMA )designation to elevate and build recognition of the profession of management accounting.This international designation recognises the most talented and committed managementaccountants with the discipline and skill to drive strong business performance. CGMAdesignation holders are either CPAs with qualifying management accounting experienceor associate or fellow members of the Chartered Institute of Management Accountants.2INTEGRATED THINKING
ContentsIntroduction2Reporting on what matters3How integrated reporting helps business4At the core: the business model6Conclusion: integrated thinking leads to better business81
IntroductionGlobalisation, technological development and rapid population growth are causingfundamental change to the business world. Traditional financial reporting has notkept pace with the seismic shift in macro-economic value experienced over the last30 years, and this is reflected in balance sheets.The value of intangible assets has now grown toover 80% of total market value for S&P 500 companies.That is a massive proportion of an organisation’strue value not being recognised by current financialaccounting standards (see figure 1). At a time whenmany of the practices and processes that account for acompany’s assets do not adequately capture value, weurgently require a reality check for business reporting.Reporting must evolve to address the informationneeds of business decision makers within this changedbusiness dynamic. Reporting plays a fundamental role indetermining both corporate and investor behaviour. Boththe American Institute of Certified Public Accountants(AICPA) and the Chartered Institute of ManagementAccountants (CIMA) advocate a new corporate reportinginitiative, Integrated Reporting, which ischampioned by the International Integrated ReportingCouncil (IIRC).Integrated reporting ( IR ) brings together materialinformation about an organisation’s strategy, governance,performance and prospects in a way that reflectsthe commercial, social and environmental contextwithin which it operates. It provides a clear, conciserepresentation of how an organisation demonstratessustainability and creates value. The InternationalIntegrated Reporting Framework 2 sets out the guidingprinciples and content elements of an integrated report.Effective integrated reporting requires integratedthinking and decision making based on an informationset that is much broader, more interconnected and moreforward-looking than traditional financial analysis.The IIRC’s goal is for integrated thinking to become afundamental business practice in both the public andprivate sectors, facilitated by IR as the reportingnorm.What is an integrated report?Figure 1: Components of S&P 500 market value100%83%68%32%20%20%80%80%80%An integrated report should: M ake the allocation of capital more efficientand productive through improvements in theTangible Assetsquality of information available to providersof financial capital.Intangible Assets68%60%40% R ecognise the importance of a broadrange of capitals (financial, manufactured,intellectual, human, social and relationshipand natural) to a thorough understanding ofthe organisation’s business model.32%20%17%197520%80%20%80%21985 I dentify and communicate the full rangeof financial and non-financial factorsthat materially affect the ability of anorganisation to create value over theshort, medium and long term.199520052010Intangible AssetsTangible AssetsINTEGRATED THINKINGSource: Ocean Tomo1 F ocus on the core concept of the businessmodel to support integrated thinking anddecision making with a view to sustainablevalue creation.50%Report onnon-financial
Reporting on what mattersThe greater the degree of integration included within the organisations’reporting, the more long-term investors comprise their investor base,according to research by George Serafeim at Harvard Business School3into the relationships between US firms and their investor base.This research, which included not only thoseorganisations that prepared integrated reportsbut also those that reflected broader, moreinterconnected and longer-term thinking intheir published reports, demonstrates the linkbetween integrated reporting principles andmore long-term investment.Stakeholder engagement remains vitally important.It has enabled corporations to question, andchallenge assumptions. The Italian energy companyEni, for example, has developed its reporting torespond to the demands of its key stakeholders(see case study).As well as improving relationships with stakeholders,integrated reporting has helped many organisationsreassess the way they work across the differentelements of their business, use technology tointegrate information and change their reporting toreinforce the connectivity of information. 5 This helpsto emphasise the interdependency between strategy,the business model and value creation.Integrated reporting is gaining internationalmomentum but despite strongly held beliefs aboutthe benefits of integrated reporting amongst itsproponents, the journey is far from complete.CGMA designation holders have an important roleto play to advocate a much broader information setfor decision making. This more holistic considerationof outcomes and impacts will assist organisationsto report more effectively and act as a tool to helprefine their value creation process.6Case StudyImproving stakeholder communications at EniEni, a major integrated energy companyheadquartered in Italy, noticed a disconnectbetween their reporting and the needs of theirstakeholders. Sabina Ratti, Eni’s SustainabilitySenior Vice President, said “After having issueda series of environmental and then sustainabilityreports Eni realised that, although the numberswere allowing a true and fair review of thecompany’s performance, operations andmanagement, they were not necessarily relevantto the stakeholders.”4Ratti goes on to say that “What was missing wasa broader process of analysis and communicationable to put performance in context, able torepresent the strategic leverages the company wasusing to build and maintain its ability to producevalue in the long term. Stakeholders’ demands forgreater transparency have, in time, been coupledwith an internal reflection on what the companyconsidered its strategic drivers: nowadays, ourintegrated reporting aims to respond to thischallenge.”So how did Eni respond? By contextualisingits reporting to focus on the interests of keystakeholders.3
How integrated reporting helps businessCompanies who adopt integrated reporting practices benefit from a greaterunderstanding of their business, the business environment and their ability tocreate value. A greater understanding of the business enables companies andinvestors to make better decisions for long-term success.Integrated reporting helps acompany tell its storyBenefits of IR for stakeholdersMore disclosure does not equate to better reporting.The focus has to be on disclosing not just a broaderset of information but the relevant and interconnectedinformation needed by investors, employees andother stakeholders to assess the organisation’slong-term prospects in a clear, concise, connectedand comparable format. This will enable thoseorganisations, their investors and others to makebetter short, medium and long-term decisions. IR helps organisations tell their story in their own words.A company’s relationships are interconnected.Communicating in a coherent way that meets theirdifferent needs is key to creating and sustaining value.FIGURE 2: The benefits of IR for stakeholdersMore relevant assessmentof risk.Many investors still struggle to integrate all relevant risk factors thatcontribute to value creation over time into investment decisions,because the information that is often presented is insufficiently strategic,comparable and sector specific. As a result, there is the risk that capitalis not being directed efficiently towards those companies that have robustbusiness models.Better explanation ofnon-financial value.Those investors that disconnect non-financial factors from financialperformance are missing what most CEOs and boards already knowwell – that these two are not isolated, but interconnected. For example,labour standards, employee satisfaction, customer feedback, communityrelations and government regulatory track records are fundamental tothe success of the business and its “licence to operate”. IR providesthe necessary framework to enable all the relevant information about abusiness to be put into context alongside its strategy and business modeland provide a more holistic view of performance.For employeesBasis for effectivecommunication leading tobetter engagement andmotivation.A company’s ability to compete and create value is critically dependenton its people. It is well known that employee engagement is correlatedwith higher levels of employee motivation and customer satisfaction,which in turn leads to increased customer loyalty. Being clear aboutcommunicating the story of the company is therefore vital. Integratedreporting provides the framework to help companies engage moreeffectively with employees.For otherstakeholdersIdentify relevant factorsaffecting future operationsand the resilience of theextended value chain.Integrated reporting benefits all stakeholders interested in a company’sability to create value over time including customers, suppliers, businesspartners, local communities, legislators, regulators and policy-makers. Whatall stakeholders wish to know is the relevant issues that are impacting (andwill impact) the performance of the business over time.For investors4INTEGRATED THINKING
Integrated reporting helps acompany create valueintegrated thinking as a way of breaking downinternal silos, reducing duplication and drivingpositive behaviours focused on long-term success.Value is not only created within the traditionalboundaries of a company. The value creation processcrosses organisational and geographical boundariesthrough connecting numerous value drivers, manyof which are now intangible. This requires goodinformation to inform good decision making anda clear strategy and business model – all of whichrely on internal cohesion created through a clearunderstanding of what the organisation is seekingto achieve and how.But what are the core building blocks that supportintegrated thinking? It starts with a thoroughunderstanding of the business model within thecontext of the external environment (see figure 3).This understanding creates a more robust basis foridentifying risks and opportunities.Integrated reporting emphasises conciseness, futureorientation and a firm focus on strategy, the businessmodel and value creation. The connectivity ofinformation will help to improve the informationavailable to enable a more efficient and productiveallocation of capital, both between businessesand within businesses. This greater cohesionand efficiency in the reporting process promotes“Integrated reporting promotesintegrated thinking“Our members are increasinglyembracing the value of the IntegratedReporting Framework from theperspective of internal communicationand co-ordination across departmentsand divisions to improve strategicplanning and decision making.Susan S. Coffey CPA, CGMA, Senior Vice PresidentPublic Practice and Global Affairs, AICPAFIGURE 3: How IR helps achieve a resilient business modelMore resilient business modelBETTER UNDERSTANDING OFTHE VALUE CREATIONPROCESS AND CRITICALBUSINESS RELATIONSHIPSIntegrated reporting helps acompany better understand its valuecreation process and connect theinformation, value-creating activitiesand relationships through which thevalue is created, both inside andoutside the organisation.FOCUS ON EXTERNALBUSINESS ENVIRONMENTFORWARD-LOOKINGORIENTATIONChanges in strategy may be driven byinternal activities, but are more oftendriven by changes in the externalenvironment such as changingdemographics, or resource andenergy limitations. These changescan be risks, but they can also beopportunities if they are identified,assessed and managed effectively andused to create competitive advantage.The IR focus on the externalbusiness environment helps thisidentification, assessment andmanagement process.Companies need to learn fromthe past, act in the present, butplan for the future. The forwardlooking orientation fundamentalto integrated reporting promotesthinking over the short, mediumand long term across the fullvalue creation process and so isan invaluable management tool.5
At the core: the business modelThe International Integrated Reporting Framework defines an organisation’sbusiness model as its “system of transforming inputs, through its businessactivities, into outputs and outcomes that aim to fulfil the organisation’sstrategic priorities and create value over the short, medium and long term.” Actually producing something or making a serviceSo what are inputs, business activities, outputs andoutcomes?available is not necessarily a long-term value-creatingactivity; what is crucial is the outcome that results. Docustomers purchase the output? Do they make repeatpurchases or recommendations to other potentialcustomers? Does the output generate brand loyalty? Inputs are the resources, relationships and othercapitals that the organisation depends upon orwhich provide a source of differentiation. Integratedreporting describes those inputs that are material tounderstanding the robustness and resilience of thebusiness model. Outcomes can be both internal (employee morale,revenue) and external (customer satisfaction, taxpayments), as well as either positive or negative. Business activities are what the organisation does,how it goes about creating value for itself and itsstakeholders (including society). In an integrated report, outputs include anorganisation’s key products and services as well asany by-products, waste or emissions that need to bediscussed, depending on materiality relative to anunderstanding of the robustness and resilience of thebusiness model.It is this need to identify and describe outcomes,particularly external outcomes, that drives anorganisation to consider the capitals more broadly thanthose that it owns or controls. And it is this broadening ofthe range of factors to be taken into account in businessdecision making that underlies integrated reporting andprovides its more holistic, long-term foundation.Figure 4: The business model, sitting at the heart of the organisation, within the context of the external environmentAL ENVIRONMEERNNEXTIX CAPITALS TTHE Son, GsioiVkRisBusinessActivitiesBUSINESSMODELOutputsRr foouPey&MINTEGRATED THINKINGesrc eA ll ouc a ti o n , F u t u r e Otl ook,anufal&ctuciapeoatSredtitil,Na, Intr,veuyatellectu,Etoral, Human, Nconulagomiel, Rc, Social, Political, LegaCo6rmteganceStr iti&esMission&LUE CREATIONTVA vernance, O
Business model analysisThe need to understand the business model existsat both the tactical and strategic levels within anorganisation. At the tactical level the focus is onan almost forensic analysis of the mechanics ofthe business model. At the heart of this detailedanalysis, which spans the entire organisation, arethe imperatives of improved customer experience,cost leadership, management of external resourcesand limiting the effect of competitor activity.Faced with this increasingly complex businessenvironment, the focus should be on value creationleading to long-term business success through theoptimisation of value-creating opportunities and theminimisation of value-limiting factors (see figure 5).At the strategic level, the analysis is driven bythe need for the board to understand how theirorganisation creates value through its chosenbusiness model and the risks it faces. Airmic’sRoads to Ruin 9 identifies a number of cases whereboard failure to understand the business modelcontributed to a major crisis. For example, neitherthe board of Northern Rock nor AIG appearedto have appreciated the potential impact of thefinancial markets on which their business modelsdepended. A thorough understanding of the businessmodel therefore needs to be at the heart of theboardroom conversation for a number of reasons: The business model focus on inputs, activities,outputs and outcomes helps the board identifywhether the activities of the organisation areeffectively aligned to the achievement of strategicpriorities and the creation of long-term value.At the tactical level the organisation’s businessmodel needs to be viewed through a variety oflenses specifically designed to filter different aspectsof the model such as cash flows, profit generation,dependence on external relationships, technologicalreliance, operational processes and the impact onthe organisation’s reputation and risk exposure.These lenses should be focused on the long term.However, pressure persists on business leaders todeliver financial results in the short term. Accordingto a McKinsey Quarterly survey 7 nearly 80% ofexecutives feel most pressure to deliver financialresults within a time frame of two years or less.Nevertheless, the importance of reputational risk isclear. Over three quarters (76%) of finance leadersrecently surveyed by CGMA 8 indicated that theircompany was prepared to lose profit in the shortterm for the sake of protecting long-term reputation,and the same number are putting more focus onreputational risk now than in previous years. The business model analysis provides a robustframework for identifying risks, weaknesses,opportunities, key relationships, supply chainand external environment issues upon whichthe long-term success of the business depends. Strategic discussions are more likely to begrounded in reality when there is a thoroughunderstanding of all the factors contributing to orlimiting the success of the business. This shouldlead to strategic priorities being more effectivelyframed in the context of the business.As a consequence, there should be increased unityof purpose within the boardroom and more coherentand attainable strategic plans.Figure 5: Business model optimisation – a tactical approachVALUE-CREATING OPPORTUNITYMeet customer needsDrive processFocus on value creationResource constraintsLong-termbusinesssuccessCompetitor activityVALUE LIMITING FACTORS7
Conclusion: INTEGRATED THINKINGleads to better businessAdopting the principles underlying integrated reporting promotes more holistic,long-term thinking and decision making by organisations, across a comprehensiverange of factors material to long-term value creation.A thorough understanding of the businessmodel supports better integrated thinking anddecision making – leading to better governance,better performance management and betterreporting; in other words, better business.““Such integrated thinking has a broader base thantraditional business decision making which hastended to focus on relatively short-term financialoutcomes. Together with best practice protocols,integrated thinking helps frame reporting to boardsand promotes better quality, decision-relevantmanagement information necessary for effectivedecision making. The top slice of this boardreporting provides an ideal basis foreffective external reporting.For CIMA, implementing integratedreporting has led to closer alignmentof the P&L account and businessmodel, as well as improved short andlong-term planning processes. It hashelped us focus on the same (and theright) targets across the business, andcreate better links between teams andwith management.John Windle FCMA, CGMA, Chief Financialand Operating Officer, CIMACGMA designation holders are ideally placed to
integrated reporting benefits all stakeholders interested in a company’s ability to create value over time including customers, suppliers, business partners, local communities, legislators, regulators and policy-makers. what all stakeholders wish
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