When efficient capital and operations go hand in hand
Olli-Pekka Kallasvuo, Nokia’s head of mobile phones and a former CFO,
discusses strategic organization, performance measurement, and the value of
financial transparency.
Fredrik Lind and Risto Perttunen
Web exclusive, March 2004
Nokia's transformation from a Finnish conglomerate with its roots in pulp and
paper to the world's leading mobile-phone supplier has earned it a reputation
as a model of innovation, brand building, and operational efficiency. Even
during the severe downturn in the telecommunications industry the company
maintained strong margins on its sales of mobile phones. Today Nokia runs 16
manufacturing facilities in 9 countries, conducts R&D in 11 countries, and has
more than 51,000 employees around the world.
Nokia is reorganizing itself yet again as it anticipates increased demand for
high-tech phones and other mobility products. A base of four business
groups—mobile phones, networks, multimedia, and enterprise solutions—will
exploit scale advantages across common functions such as finance, marketing,
and operations to provide maximum flexibility for business units. The goal: "to
go after every market in this industry and take share."
So says Olli-Pekka Kallasvuo, who in January of this year was named head of
the mobile-phones group after serving as chief financial officer from 1992 to
1996 and 1999 to 2003. A lawyer by training, Kallasvuo, 50, sees his move
from finance to the leadership of the business group responsible for most of
Nokia's profits as perfectly natural. In an interview conducted at Nokia
headquarters outside Helsinki, Kallasvuo spoke to Fredrik Lind and Risto
Perttunen of McKinsey about Nokia's strategy, communicating with markets,
and the CFO's mind-set when operational and capital efficiencies go hand in
hand.
McKinsey on Finance: What long-term trends in the handset business do you
see, and how are they affecting Nokia's strategy?
Kallasvuo: The biggest long-term trend is our customers' increasing mobility
and, as a result, their demands for ever more sophisticated handsets. In one
sense, it's a kind of convergence of businesses into a new business domain
defined by mobility. The result is that we'll continue to see a very simplistic
entry-level phone, with no bells and whistles, on one hand, and on the other
hand we'll see a multipurpose device that has all sorts of capabilities, like
mobile gaming or mobile imaging. This is what we need to tackle at Nokia, and
hence the reorganization to align our structure to different segments of this
market.
MoF: How do you think about measuring performance?
Kallasvuo: The thinking over the years has definitely changed. We've learned
to understand that for us, traditional measures of performance like working
capital, for example, are financial matters, yes, but more important they're
indicators of how a company is performing operationally. When I look at
working capital, I really see it first as a reflection of efficiency and then as a
reflection of where our capital is invested, which is the reverse of the usual way
of thinking.
MoF: So how do you track the company's performance over time?
Kallasvuo: A more capital-intensive business would probably look much more
closely at its returns on investment, but ROI just is not as useful a measure for
a company that makes its money by investing in people, in research and
development, and in brand marketing. Measures of efficiency are much more
helpful—operational efficiencies, production efficiencies, and yes, financial
efficiencies—and they really all go hand in hand. Production efficiencies and
capital efficiencies are very relevant for every finance person at Nokia.
And if there were just one single thing to do to improve performance, it would
have been done already. Improvement is usually not about making a quantum
leap; it's about taking small steps, improving a little bit every day. Nor is this
about pushing responsibility off to individual departments and saying, "You
look at working capital," or, "You look at inventory." These are the
responsibility of everyone at Nokia because efficiency is the core of the
business—and then working capital becomes a reflection of how efficient we
are, and that's why it's such an important indicator that remains very high on
our agenda even if financially it's not critically relevant at the moment.
MoF: Can the corporate team and the CFO team contribute to and lead the
different divisions and businesses on the working capital dimension?
Kallasvuo: No; this is exactly the point. Efficiency is so intricately entwined in
the system that everyone has a stake in it, everyone is helping out. So if you
were to start some big push for working capital at Nokia, with a big headline
saying, "Now we are going to emphasize working capital," or announce that
suddenly financial concerns will drive everything, no one would understand
what you're talking about. Everyone understands that working capital is
everyone's job—by taking those little steps to get logistics working even better.
This is one of our key competitive areas.
MoF: Are there any particular structures or processes at Nokia to make this
cooperation work?
Kallasvuo: In the end, it really comes down to a company's business
infrastructure and how it operates in general. As we have grown from a small,
flexible player to such a large company, we've put considerable effort into
combining flexibility and economies of scale, which has an impact on how we
operate. The emphasis has been on doing everything we can to take
advantage of economies of scale where we can and where it makes sense, but
not to centralize anything that is business specific. We've drawn that line very
carefully. If something is business specific, it gets maximum flexibility,
empowerment, decentralization. If it's not business specific, then let's take the
economies of scale. The result has been an increasing platformization, if you
will, of the business infrastructure. And here the business infrastructure means
other than IT, so it's a wider concept.
MoF: What have been the special challenges of communicating the results of a
very fast-growing company to financial markets?
Kallasvuo: Communicating results is easy. Giving estimates is more of a
challenge, because in this type of fast-moving business no one can really
know what will happen over three months—no one. No system in this world
can make that prediction in a way that is certain. The best you can do is
communicate your best understanding to the market at the time, which is
actually pretty simple.
At Nokia, we have been simply communicating our best possible
understanding to the market. We have not been playing games. I was
personally criticized by some investors for not playing games—for not giving
an estimate and then exceeding it by one penny, which so many companies
were doing. Now, of course, everyone feels this way. Whatever numbers come
out of the system, in accordance with your accounting principles, those are
your results.
MoF: What is your view of the emergence of companies over the past year or
so that are minimizing their financial transparency to the markets?
Kallasvuo: Of course, I can't speak on behalf of other companies, but I feel that
our investor base wants quarterly guidance. It's very much a matter of
providing the markets with the information they want, rather than telling them
what we think they should want. This isn't brain surgery. If the markets want
information, you give them information.
The question has to be, how can we better understand what our investors want?
The mind-set really needs to be that we must listen and communicate in terms
of what is expected. This is very relevant coming from a small market and
growing into one of the most traded shares in the world. We come from a
context where we really didn't have the benefit of the doubt when it came to
our existence and our ability to deliver over the long-term. It really was an
imperative to listen to what investors expected—if we did not have that
mind-set, we never would have become one of the most widely held shares in
the United States.
MoF: What is the optimal way to distribute value back to the shareholders—for
example, through share buybacks or dividends?
Kallasvuo: I don't think there is a big difference between dividends and
buybacks. In the end it's a pragmatic choice, very much driven by tax
questions and the shareholder base. Otherwise they're both pretty equal from
the financial perspective.
MoF: How important is it for a company to be listed in the United States?
Kallasvuo: It's really not possible to become a major name among US
investors if you're not represented in the US market in a major way. Being
listed supports the business, and the business supports the listing—which
Nokia's experience in the 1990s illustrates very well. Indeed, I would claim that
without its listing in New York, Nokia would not have become the market leader
in the United States. Furthermore, if it had not become a market leader in the
United States, the share story would have been a lot less well-known. When
we first issued our IPO in the United States, it wasn't really that we needed US
capital but rather that the listing would support the business, which is how it
worked out. The result was a positive spiral, if there is such a thing, each one
supporting the other.
MoF: And how has that transformation changed your relationship with
shareholders—on both sides of the Atlantic?
Kallasvuo: Sometime in 1995 or 1996, we became the first company in the
world with a major market cap that had the majority of its market capitalization
coming from outside its home country, as domestic Finnish share dipped
below 50 percent. That happened very suddenly and continued at a rapid pace.
Other companies have since found themselves in similar positions, but not to
the same extent. So we basically said to ourselves, "Now we have to see
ourselves as a US company and we have to do things in the same way a US
company would, because that's what a majority of our investors will expect."
That became a real priority. For example, instead of having our US investor
relations (IR) staff report to an IR executive in Helsinki, we located the IR head
office for the entire company in the United States—and then of course
allocated a lot of resources and everything to make it work. Even the
Helsinki-based IR office reported for many years to the US office. When it
came to communications, we said to ourselves, we need to communicate like
a US company. Even today, if some capital-markets-related legislation or other
comes out of the United States that isn't necessarily applicable to non-US
companies, we comply anyway, even if the legislation does not, strictly
speaking, apply. There is no other way for us.
Other companies have chosen exactly the other way: to be domestic first and
foremost, abiding primarily by their own government's practices and legislation
and domestic shareholders. Which one is wrong or right I can't say.
MoF: And how comfortable are you with Nokia's current level of transparency?
Kallasvuo: I can say that every time we have had a discussion internally about
whether we should go into this more transparent reporting, and every time we
have made a decision to report instead of holding back, the decision to report
has been the right decision, eventually. It's what I feel. Not once have I looked
back and thought, "Why did we have to tell this?" But here again, I would
suggest that theories aside, in our case it's been a necessity. You are foreign.
You are an ADR.1 You don't have the option of not listening to what the market
wants.
MoF: Is there any risk, as Nokia begins reporting separately for multimedia
handsets and enterprise solutions? What if one unit doesn't achieve very good
results?
Kallasvuo: No, definitely not. As I said, every time we've increased our
transparency it was the right decision, so it must be the right decision here too.
And you have to also remember that external pressure is good for you. It
makes you run even harder. The people running those operations have even
more reason to perform if external pressure is there also. That's been our
experience.
MoF: Has the CFO been a part of the strategic decision-making process in
Nokia, and do you see that role being strengthened in the future?
Kallasvuo: I don't really think there is one and only one role for a CFO. Of
course, the role of a CFO has to be aligned with the way the company
operates, and it also depends very much on the size of the company. But it
really can't be the same in every company, in every business situation, and in
every type of business a company is in.
At Nokia, being CFO has meant being very much a part of the management
team, looking at matters from a financial perspective but really not taking the
role of a finance guy who primarily becomes the voice of that department.
Instead of defining the role in one way and taking that into the management
team, the CFO at Nokia has a responsibility for the same decisions as
everyone else on the management team. Yes, of course, you might look at
those decisions from a certain perspective, but that doesn't have to mean that
you always take the same sort of role. You have to be more versatile than that,
which makes the role a very strategic one.
MoF: In many companies, the role of the CFO has been expanding on the
traditional role in two directions: the first is a more strategic-architect or
strategic-planning type of role, even to the point of having M&A or strategy
divisions; the second is moving toward a more involved operations role,
enhancing some business-controlling activities or leading corporate-pricing or
working-capital programs. What are your thoughts on the evolution of the CFO
role in general?
Kallasvuo: If you assume a traditional sort of controller role as the starting point,
then yes, those are the two natural directions for the role to evolve. But
because it varies depending on how the company operates, it's also possible
that both of those roles might even be combined. The latter role—the more
involved operations role—is particularly apt for the CFO of a major business
unit, which is very much an operational role in an operational unit. The former,
more strategic role is more apt for a corporate, head-office CFO who operates,
supervises, and oversees several business units. And both are quite relevant
at Nokia, too, because of how we operate and how the roles of the business
units or even business groups have been defined. And I would also claim that
the role of the CFO must be aligned to the approach of the CEO. Without
alignment, success is difficult.
About the Authors
Fredrik Lind is a principal in McKinsey's Stockholm office, and Risto Perttunen
is a director in the Helsinki office.
Notes
1
American depository receipt