HP Autonomy. When You Need Forensic Accounting For Enterprise Software, Who Ya Gonna Call? November 22, 2012Posted by bernardlunn in capital markets, Corporate Strategy, Deal-making, Enterprise Sales.
Tags: autonomy, forensic accounting, HP, revenue recognition
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Wow, what a story! It makes me wish I was till writing the Enterprise Channel for Read Write Web. It is a fascinating story because how you see it depends on where you sit. This story sits at the intersection of accounting, software technology, enterprise sales and business strategy. I have sat at all those intersections.
The best Forensic Accountants usually make money from their skills by shorting stock. Folks like Jim Chanos who spotted problems at Autonomy don’t need to know a lot about running an enterprise software company to know that when cash flow is way less than profits, something good is not up. They look for simple signals such as high receivables and low deferred revenue. You don’t need years of running an enterprise software business to know that those signals are worrisome (or exciting if you make your money shorting). Of course if, like Larry Ellison, you have years of running an enterprise software business and had your own issues with revenue recognition, you will quickly come to a conclusion that the price being asked for Autonomy was too high.
Why did the massive number of highly paid accountants and lawyers from fancy firms not read those same signals? I am sure they asked a few questions around this but got snowed by the replies. That is when they should have got advice from a grizzled veteran of running an enterprise software sales team who has seen every technique for boosting revenue at the end of a quarter or year (channel stuffing deals, deals done on the 35th of the month, bundling deals with disguised discounts – the gaming ingenuity is endless). Then you need an accountant who has a passion for understanding the nuances of IFRS and GAAP accounting standards as they relate to revenue recognition (yes, they do exist, a quick bit of online searching will surface them and I am sure they can use a consulting gig).
Parsing through the “he said, she said” stories, my guess is there was something wrong in the accounts, something that was either aggressive accounting or fraud (I will let the lawyers parse that one as I am sure they are doing) but nothing even close to enough to justify the $5bn that HP is claiming. HP needs to decide whether they are a consumer company or an enterprise company. The Autonomy acquisition was part of a strategy to ditch the PC and the consumer business and emulate the IBM turnaround under Lou Gerstner. HP clearly wanted to do the deal, knew they were over-paying and were OK with that as part of a broader strategy. If HP had stuck with that strategy and executed well, the price paid for Autonomy would be a footnote in history.
It looks like Meg Whitman leans to the HP as a consumer tech company strategy. That fits her eBay past and the prevailing fashion in Silicon Valley. She may execute brilliantly on that. What clearly does not work is marching determinedly north (enterprise) and then a little later marching determinedly south (consumer). The HP Board is rightly getting a lot of flak for this kind of flip flopping that destroys value really fast. Nor will a fudged strategy work (“a little bit of his and a little bit of that with chocolate sprinkles on top”). Focus matters. Strategy means clarity. “Which direction do we go, Sir?”
Looking at this from a modern software perspective, this mess adds to the move from perpetual licensing to subscriptions and transactional revenue models. These new models simply don’t lead to the same frantic “must hit the numbers this quarter by bringing in that sale NOW and maximising every $ on that sale”. Subs and trans revenue is fairly stable and predictable. Nor do subs and trans models leave as much room for gaming. I suspect the Boards of enterprise software companies that still rely on perpetual licensing will be debating this subject more vigorously than before the HP Autonomy story broke.
Enterprise Software Sales – The Art and Science Of Accurate Forecasting September 30, 2012Posted by bernardlunn in Deal-making, SAAS, Enterprise Sales.
Tags: enterprise software, forecasting, new clients, revenue, sales management
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Forecasting new business sales revenue is hard. As any sales manager will tell you, that is the ultimate “no, duh” statement. Yes forecasting is very hard.
The reason is obvious – the future is uncertain.
Sales revenue forecasting is also enormously important. Ask any CEO who got hammered by their Board for missing their numbers. Forecasting drives so many critical decisions. Without good forecasts you cannot have a good relationship with investors and you cannot plan your business.
If the company is big and old you have lots of data to guide your forecasts and errors become rounding errors. However if you run a company that gets revenue from say 5 sales executives, you cannot rely on the usual statistical models. In startups the forecasting is also a lot tougher because there is a step ladder of forecasting difficulty:
- Very Easy: add-on sales to existing accounts. As a start-up you don’t have that much of this.
- Fairly Easy: new accounts within a geography and a niche where you have been selling for years. It is unlikely you will have many of these.
- Hard: sales of a well established product into a new geography or a new horizontal or vertical market.
- Really Hard: sales of a new product into a market that is not even well-defined yet. These are the blue ocean markets that allow startups to get traction and scale, but this is a very tough forecasting challenge.
Forecasting recurring revenue contracts such as maintenance can be automated quite easily. You can apply standard assumptions about decay (how many will cancel) and the growth will be based on new contracts.
The problems all come from forecasting new contracts. These are outside your direct control. You are extremely dependent on the judgment of your sales team. SaaS subscription models make new contracts less critical, but investors are still mostly looking for the new contracts (and churn) as the signals of success or failure. Whichever way you cut it, your VP Sales (Sales Director, Chief Revenue Officer, Chief Hustling Officer, whatever you want to call her) has a tough job where everything is on the line every day.
You obviously want more sales. Perhaps even more, you want to know what is likely to happen. You want accuracy.
Attempts to automate new contract revenue forecasting usually do more harm than good. The standard approach is to apply closure rates to the sales funnel. The idea is to make assumptions about how many calls it takes to get meetings and how many meetings it takes to prepare a proposal and how many proposals it takes to get a contract. Then you can say we have 10 deals at 40% probability, 5 deals at 60%, 3 deals at 80% and one deal at 90% based on where your deals are in the funnel.
This approach appeals to engineers and accountants. It appears to be scientific. The problem is that it generates a false sense of confidence and is very susceptible to gaming as in “lets bump up the number of meetings until we get the desired result”. It is a classic “garbage in, garbage out” problem.
It is better to build a system around what good sales managers do in the real world. What they want to know from a sales guy is “will this deal close this quarter?” In the real world it is always binary – it either closes or does not close. 90% closure does not hit the revenue numbers.
Sure this leads to “sandbagging”. The sales guy may have 2 deals that can close in the quarter. He will tell his manager that one will definitely close and keep the other one in reserve. If his “committed close” blows out he hustles to close his back-up deal. If his main deal closes, he can either get his back-up deal in this quarter and be the star of the quarter and pick up some nice accelerator commissions, or push it into the next quarter and get ahead of the game.
Everybody sandbags right up the CEO providing “earnings guidance” to investors. Is this a problem? As one Board Director put it, “I love getting sandbagged, it means surprises are much more likely to be positive rather than negative”.
Whatever system you put in place it will be gamed. The trick is not to try and avoid gaming as that runs against human nature. The trick is to get game theory working on your side.
Key recommendations for a sales revenue forecasting include:
- Align the input from sales guys with what the CEO has to report to investors. This sounds obvious, but there is a major disconnect in many companies.
- Measure input accuracy. The old saw, you cannot manage what you don’t measure, applies here. How accurate was salesman x in the past? Note that this is not the same as “did salesman X make target? The question is “at end Q2, salesman X forecast $1m for Q3 and $1.2m for Q4. Now at end Q3 what was the actual result?
- Reward accuracy. Revenue is always rewarded, but with accuracy being so critical to the company why don’t we explicitly reward accuracy? One reason is that we are too focused on budgets and targets. These are only plans. What we really want to know is what will happen this quarter? Accountants and spreadsheets can measure the difference between actual, forecast, budget and target and the gaps can be used to kick ass. But don’t confuse that with the main objective of getting accuracy.
If you get good input, the rest of the job is fairly routine and can be automated relatively easily.