Centralisation is not a new concept – it has been a core business solution for many years. Achieved through the use of structures like shared service centres (SSC), outsourcing and centres of excellence, centralisation has often been used as a means of reducing costs, often as a result of labour arbitrage.
However, in recent years the opportunities for labour arbitrage have diminished as a result of globalisation, while the objectives of centralisation have fundamentally shifted. Once used for purely cost management purposes, today centralisation is more likely to be applied strategically to help drive enterprise growth.
Consequently, enterprise senior management is actively looking at the use of centralisation to support the corporate strategy. Conversations around centralisation and robust working capital management are being combined with merger and acquisition plans, divestiture, and market entry.
Degrees of Centralisation
Centralisation can be defined as the bringing together of dispersed activities or structures to a central point. As such, the term has a certain ring of finality to it. Once centralised, always centralised – right? Not necessarily. Enterprises have reported varying degrees of success in centralisation over the years and for many there is much still to be achieved. While many companies have already undergone centralisation projects in the past, today a lot of those companies are revisiting the concept of centralisation and are looking to do so more effectively than they may have done previously. Others are looking to bring new geographies into their existing centralised structure.
At the same time, there are new reasons for companies to attempt a centralisation project for the first time. With the arrival of more sophisticated solutions, centralisation projects are stretching beyond basic finance functions to include human resources (HR), procurement and supply chain functions. There is a growing recognition that centralisation is not just about short-term tactical gain, and that real advantage can result from robust planning and execution. This is where the challenge starts: what is the best, or more fundamentally, the most appropriate approach to centralisation? Is there a cutting-edge approach? And is the cutting-edge an aspect of the centralisation process itself – or is it what can be achieved as a result centralising.
In-house or Outsource?
Centralisation can be a revolutionary journey, causing a revolt within the ranks. And no matter how many times consultants talk about a prescribed sequence of approaches, phases or steps, there is no predefined approach for a particular business. There are a myriad of options available and the optimum structure for a specific company is the one that works for its own culture and objectives. Choosing the cutting edge approach for a particular company is therefore about clearly articulating the business’s needs and goals, as well as defining what needs to be achieved within a given time frame.
For any company, a key decision is whether to adopt an in-house or third-party structure – or a combination of the two. Centralising in-house – in totality or in stages – allows an enterprise to leverage its own business knowledge of its systems, processes and operational practices to support the centralisation effort. It is often believed that doing it in-house is expensive and time consuming; however, the same could be said of third-party structures, as significant enterprise effort is always required in any centralisation activity. Economies of scale, protection and risk management, and ‘keeping it under own brand’ are all key hallmarks of in-house centralisation.
It is sometimes (wrongly) believed that the in-house approach is appropriate where transactional and activity volume is less and therefore, does not justify third-party involvement. This is incorrect, as more often than not the choice between third-party and in-house structures may well be more to do with the company’s organisational culture than activity levels alone.
By the same token, it is wrong to assume that outsourcing works only where high volumes of work and activity are involved. Indeed, third-party providers today can do significantly more than just ‘take over your mess’: they can become strategic partners to the business. Over the years they have refined their offerings and their skill. For an enterprise considering a third-party outsourcing solution, the key opportunity is to have a dedicated third-party provider take partial or total control of selected business activities from the enterprise and add value to these. Third-party providers’ specialist industry knowledge and experience of other companies in the marketplace can enable them to offer proactive suggestions on how the company can improve its own operations.
A classic mistake is to focus on beating third-party providers down on price while overlooking opportunities to benefit from the resources they have to offer. Business is only good business when both parties are making money, and forcing prices down can result in vendors providing a lesser service.
The Best of Both Worlds
In-house and third-party structures are no longer mutually exclusive options. Enterprises are realising that the one-size-fits-all approach doesn’t give value and can be difficult to manage. The number of large-scale outsourcing contracts that have ultimately been terminated prematurely to their contracted term has been on the increase. Hybrid models are coming into vogue.
Hybrid structuring gives flexibility to the enterprise. Companies can leverage best-of-breed external providers for activities where it makes sense to use a third-party – and centralise activities in-house where it doesn’t. Identifying which activities to centralise is a strategic enterprise decision that should not be made in isolation. Companies should look at specific functions and activities and ask a series of questions:
- What is the company trying to achieve?
- Is the activity core or non-core?
- What is the service provider’s track record in this activity?
- What is the company’s track record in this activity?
- Could the activity be performed more effectively in-house?
The concept of centres of excellence (COEs) has started to gain traction recently in key business functions. Definitions vary, but broadly a COE is where a group of people come together – either naturally or by design – to collaborate on a particular activity or function on behalf of the rest of the enterprise.
However COEs are only usually effective once a high degree of process optimisation has been reached and when the organisation has reached a more mature (as opposed to nascent) level of sourcing capability. Enterprises that are using COE models do so more often than not in conjunction with other types of models, forming a hybrid structure.
Ask the Right Questions
Deploying an overall approach to centralisation is key to success, and hinges on choosing the right operating model and its mix of components and distinct elements. The challenge lies in understanding in detail the business requirements and the operating talent available – as well as the company’s track record in tackling projects of a similar scale.
A degree of honesty can go a long way here: companies need to be realistic and ask themselves how good they are at managing change. What enterprise-wide changes have they achieved in the past and how successful were those changes? If previous projects have proved to be bumpy, some thorough soul-searching should be undertaken to identify the reasons for failure. Was it a lack of resources, mismatched or unrealistic expectations, lack of senior sponsorship or insufficient buy-in from the business? What needs to be done to avoid such pitfalls in future projects?
It is also important to look at the centralisation project in the context of other projects the company might be running. How much change can the company cope with at any one time?
The Cutting Edge
While the techniques available to corporations continue to evolve, the mechanics of centralisation and the resulting process improvements should not be mistaken for the whole story. While focusing on the process of centralisation – companies may risk overlooking the strategic or commercial value to the organisation opened up by centralisation.
For example, centralisation might improve liquidity management. The strategic value arises from what a company does with that cash, such as reducing the cost of borrowing, which in turn may lead to an improvement in the company’s credit rating. This is one outcome that brings value to the company as a whole.
Balance sheet strength comes from structural solidity, and centralisation can play a key part in achieving this. By optimising working capital, the intrinsic value of the enterprise can be enhanced. A merger target with strong working capital has better shareholder value and; therefore, more intrinsic value.
The link between structure and balance sheet and shareholder value is emerging and is becoming acutely visible to the C-suite in the organisation. The real benefit is not the structure itself, but the way in which it can lead to outcomes such as freeing cash, managing balances and providing solutions to manage difficult regulatory environments.
Where’s the Value?
The value curve for a company’s deployment of centralisation has evolved significantly. Operational efficiency is a given, no longer just an objective. So how will this value be created? A company may centralise liquidity management into Singapore – however, beyond risk management and centralisation efficiency, what value is created? The savvy organisation will be looking at the project as a way to optimise interest and disperse float; to deal with its bank in order to optimise balances and deploy that cash effectively.
Figure 1: Value Curve for Companies
Source: Bank of America Merrill Lynch
Is there a cutting-edge approach to centralisation? Yes, but it exists not only for operational efficiency, but also contributes to the overall value of the enterprise. It’s not just about being efficient in terms of how cash is handled – the real achievement is when that cash is optimised for better utilisation for the enterprise and to drive growth
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