Fault Lines

Should divisional CFOs have a primary reporting loyalty to the group CFO or to their business unit chief?

In March, after a brisk investigation, the law firm probing the massive false reporting of oil reserves at $160 billion (€130 billion) Royal Dutch/Shell Group concluded that a key problem was that CFOs of the four business units reported directly to the local managing directors, and not to the group CFO back in London. The lawyers recommended that the four unit CFOs report to the group CFO in future. Shell’s senior management duly complied.

However, some Shell insiders felt that the hurried investigation produced a “lawyers’ report” that was too concerned with obvious compliance issues and not enough with the subtle realities of how finance actually operates within a business. “It’s all about relationships,” says one executive who is close to Shell’s senior finance management. “You’ve got to be part of intersecting circles. If you’re a finance guy, you’ve got to be part of the finance circle, and everybody knows that. But if you formally become part of the finance organisation — sitting as a ‘spy in the camp’ in a division [and reporting to a group CFO] — you’ll find it very hard to create the right sort of relationships … that you want to have with the management team of the division.”

It is a fine balance, and one that all large companies continually have to grapple with. Reporting lines are especially vexed for the finance function, with its dual role as financial overseer and business facilitator. Often, in the wake of a major scandal, the blame is put on a lack of financial oversight and control, especially if a company is decentralised — as a number of global companies are these days. The reaction in many cases is to then centralise reporting. But no two scandals are the same, and while some, such as that at Dutch retailer Ahold, were about a rogue foreign division too loosely controlled from the centre, others, like Enron and Tyco, are scandals that were directed by CFOs at the centre. There is no obvious best practice model for companies to follow.

The Root of Their Woes

But if there is no consensus about how the reporting lines should run, there is broad agreement on the need for clarity of responsibility. In 2002, Allied Irish Bank, Ireland’s biggest bank with €81 billion of assets, discovered that a rogue currency trader, John Rusnak, had covered up a loss of €860m ($1.045 billion) at Allfirst, its American subsidiary. AIB immediately hired Eugene Ludwig, a former comptroller of the currency at the U.S. Treasury, to carry out a “root and branch” investigation.

“Ludwig found a whole number of deficiencies in management, all the way back through the organisation,” says Paul Quigley, deputy head of risk management, and the manager charged with implementing changes in the wake of the scandal.

Interestingly, a key problem Ludwig identified stemmed from the “spy in the camp” syndrome. After dissecting the history of the problem, Ludwig said that when AIB took over Allfirst in 1989 it reckoned previous European takeovers of American banks had failed because the American unit wasn’t given enough freedom. So AIB let Allfirst run itself, except in the area of treasury, where the Irish bank reckoned it had more expertise. AIB put in its own experienced treasurer at Allfirst, David Cronin, to build up trading operations.

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