What is a fractional finance team? Why is it likely to become the future of finance?
A fractional finance team is enabled by technology and outsourcing partners – it’s an approach that allows you to create a lean internal finance team while relying on outsourcing services and technology partners for a more efficient approach to meeting your finance needs.
Fractional finance is gaining momentum because it’s more cost-effective – by automating and outsourcing your finance activities intelligently, you can save your highest-priced resources for the highest-value work. There are two underlying drivers:
- It’s very difficult to get the number of resources correct within finance – take something like accounts payable. If you’re a $1M organization, then one person doing it is probably not enough, but two people handling it is probably way too many. Fractional resources and outsourcing can help make your spend more efficient when you need 1.5 people.
- Some finance activities lend themselves to automation – at the end of the day, no one ever made money off the accounting department, which is why automation is predicted to proliferate across the accounting function. Automation has already taken over most payroll processing needs because, for most companies, activities like multi-state payroll aren’t efficient to run internally. The potential for AI and machine learning in Finance and automation is even more compelling.
Making the Transition
How do you begin to transition to a fractional finance team?
First, identify activities that can be automated – if your outsourced finance firm understands your accounting platform, then they should be able to come in and identify areas where you may be able to automate manual work.
Then, to the extent that you need human intervention, buy fractional resources – fractional resources are more expensive than automation. If you use them wisely, you only pay for the resource when you need it, and save money when you don’t. In addition, a fractional team can have many specialists owning tasks whereas an in-house team requires a smaller team performing many tasks below their skill set.
What does the fractional finance team model look like? What roles should be kept in-house?
| Outsource |
| Accounting resources are the most likely to be automated or outsourced – Senior Controller and downward can be automated or outsourced, You could argue that no company needs an FTE Controller because they’re doing accounting manager work for a high salary. You can fractionalize or automate resources under the Controller like: • Payroll Manager • Accounting Manager • Tax Manager Most individual contributors can be outsourced – You only want to use higher-cost in-house resources for processes that can’t be automated and provide high value if done in-house. |
| Keep |
| Keep a fractional or full-time CFO – in a PE-backed company, you need a combination of two kinds of skill sets: Operational Accounting CFO & Strategic/Deal CFO. Companies will start with an operational CFO, stabilize, and then when they’re ready to exit, get the expertise of a strategic CFO needed to do so. A combination of the two is preferable. A CFO will also be the intermediary to partners because some financial decisions still need to be made internally. You might keep leaders of: • Internal Audit – there are firms you can outsource this work to, but companies also often handle it in-house. • Financial Systems – they’ll help you manage the tools and resources you’re using to automate and outsource other sub-functions. • FP&A, if you have it – FP&A is unlikely to be fractionalized because some of the skills required to be effective in FP&A are specific to the businesses and difficult to outsource effectively. The strategic guidance they provide is useful to keep in-house. • Treasury – if you’re dealing with large amounts of investable cash or multiple currencies, you might have someone handling your treasury management. For most lower-middle market companies, having an FTE treasury employee is overkill. |
In-house Finance Team Working In a Fractional Model
What finance and accounting processes should you look to automate? What finance and accounting jobs should you outsource?
Run an automation exercise to review where your organization is doing manual work – are you spending 25 hours per week doing reconciliation that should be automated? While automating some processes might be expensive up front, it can provide immense long-term benefits in terms of saving you human capital. Even small administrative tasks can become prohibitively costly to handle manually as your organization scales.
| Third-party Outsourcing Options | ||||
| Tools | • Accounts Payable/Accounts Receivable – using machine learning or scanning an invoice to apply and approve it automatically in NetSuite. • Payroll processing – do not calculate payroll manually at this point. Automating payroll through tools is best practice. • Treasury management – with complicated treasury management situations, third-party technologies can plug in and manage it much more effectively than anyone can by downloading reports and determining cash strategies. • Time and expense reporting – documenting and tracking the hours worked and expenses incurred by employees can be automated. • FP&A – many use Excel, but many tools facilitate building an FP&A model, linking it to your ERP, and running scenario analysis based on real-time actuals. • ERP – like NetSuite or SAP, these are at the core of your finance function—properly implementing and using an ERP is crucial for you and your fractional finance partner. • Banking integrations – linking banking systems and services with other financial software or platforms to enable seamless data exchange and streamlined financial operations is crucial. | |||
| Service Providers | • Audit – you get reporting out of the system that shows segregation of duties, compliance, and change management, so you lessen the dependencies. • Professional Employer Organization (PEO) – there’s a whole business model around outsourced HR. They’ll become co-employers for your organization and handle everything from benefits to payroll, to workman’s comp. They handle all of the compliance and everything. • Fractional CFO – if you don’t have a need for a full-time CFO, you can pay for a fractional CFO to lead your finance team. • Technical Accounting – technical accountants bring specialized skills and knowledge to analyze, and report a company’s financial data. • Filing Sales & Use & Excise Taxes – specialized tax consulting firms and professional accountants can offer you expertise in managing complex tax regulations and ensuring compliance. | |||
How can finance and accounting teams begin to use AI to automate their work?
AI can reduce human decision-making involvement – assuming that AI continues on its current trajectory, it has the chance to automate increasingly complex tasks up and down the chain of accounting. It could enable you to do things like:
- Automate invoice approval – you might send 20,000 invoices a month, and if one person spends five minutes on each of those, it adds up. This is a task you can train AI to handle right now.
- Automate vendor approval – if you hire a new vendor, many companies have an approval process involving many people. Everyone has to sign off to prevent fraud. These are little nuisances but become burdensome with volume, which AI can automate.
- Replace human-led audits – the way an audit typically works is by randomizing your transactions, picking a sample of them, and then reviewing them for any improprieties. An AI model can automate this and make it more comprehensive by reviewing all of your transactions.
At some point, people will build their own models to automate their finance tasks – right now it might not make sense to create your own AI to automate tasks in the finance function, but it will likely eventually get so cheap to train and maintain that organizations will create their own custom models.
Leveraging An Outsourcing Partner
What is an outsourcing partner best positioned to help you with?
Lower value tasks, especially:
- Platform automation – firms who specialize in your accounting platform (e.g. NetSuite or QuickBooks), should know it very well and can automate tasks a lot easier than a generalist can.
- Accounting – note, outsourced accounting is different from a typical accounting firm. You get the most leverage from a combination of accounting and technology.
- Activities that aren’t core to the business – for example, a tax function or audit. The more perfunctory it seems, the more ripe it is for outsourcing. In contrast, FP&A work is core to the business, because the CEO might want to swivel their chair and talk to their analyst.
What are the key questions, performance metrics, and service level agreements (SLAs) to look for when evaluating a fractional finance team partner?
Evaluate deliverables like:
- What will our time to close be? – how long is it going to take the firm to close the books every month? It should take single-digit business days to get them closed.
- What is your response time on questions? – these questions should not be put in a ticket queue. Look for online access to your core team chat. If a partner can’t answer a question from your team in ten days, that’s not acceptable. You shouldn’t have to fill out a ticket to get an ad-hoc question answered.
- How do you handle compliance activities? – most of our clients have an audit or review requirement. We have SLAs to ensure they can meet their deadlines to their auditors, banks, or investors. These timeframes typically have to be customized.
- Can you deliver a 13-week cash flow forecast? – ask them to give you something of value weekly. Think about the things you need and want from your finance function and ask your partner to provide them.
Evaluate the fractional finance team for traits like:
- Understanding of the accounting process – expertise in your accounting platform is really important. Those without experience in the platform won’t be able to optimize the process.
- Low internal turnover – this is a killer. Even if they have redundancy, turnover at an outsourcing partner can be a serious headache. None of their support will make a difference if they have 30% employee turnover. Some outsource providers’ mindset is to churn and burn. You don’t want to get involved even if it’s lower cost.
- Team member accounting experience – understanding the composition of the team is important. Most of their team should have CPAs and have experience working in public accounting. Experienced accountants will look at your financials with a more critical eye, and that helps keep you out of trouble.
Note: Do not be dependent on any individual – if you’re overly reliant on an individual in your partner relationship, then you create too much key person risk at a third party and in an employee relationship you don’t necessarily control. Make sure you have a team to rely on and that your resources are established.
Sample SLAs from ScaleNorth
Working with A Fractional Finance Team
How do you prepare for big finance events (raising money, undergoing an audit, etc.) with a fractional finance team?
Understand that significant financial events will happen and you need to plan for them – you want to work with partners who understand that someday you may want to raise debt, acquire someone, or exit. These events are much smoother if your finance resources work with an eye towards handling these eventualities.
Make prep part of your standard operation procedure – you can start building all of those reconciliations and documentation as part of your monthly close procedure. So when the banks come to you with the list of everything you need, you can put it in the data room. Good regular accounting hygiene ensures that dealing with banks and significant events will not require a herculean effort.
What should automation and outsourcing free up time for your finance function to do?
Your team should be digging into KPIs – your finance and accounting team should have increased time to spend on finding ways to affect the numbers that are most strategically important to your business.
Your team should leverage the numbers accounting produces to make the right decisions – how can finance use insights from your outsourced and automated accounting to help the executives make smart decisions?
You may have to reskill some areas on your team – you can’t just take an AP clerk and make them a financial analyst. It happens, but it’s not common. You can take accounting resources and redirect them towards proactive resources. Accounting is scorekeeping and you want to outsource this and instead think of finance as the function that can help you figure out the right plays to make on the field.
How should a fractional finance partner effectively report back to the CFO, company leadership, and into investors?
Your partner should present you with a closing package – this is presented to whoever the key person or persons are. It communicates details around close and should have some notes about trends and issues. The cadence of the closing is important. It’s really your monthly checkpoint for closing the books and about how things are going overall operationally.
Accounting should not be an island unto themselves – they’re highly dependent on the efficiency and accuracy of whatever the operations of that business are. In most ERP systems, things are tightly integrated. So if you make a goof in operations and someone needs to clean it up on the accounting side.
There should be an ongoing dialogue with your partner and with operations leaders – establish a cadence with operations so that you can note where and if you’re noticing mistakes in the operations data. The more mistakes that are made up-front, the more you’re going to pay for finance.
What does success look like for a fractional finance team? How should you measure your team’s performance?
Establishing a baseline of finance performance:
- Overcoming whatever “crisis” you faced before transitioning – companies often turn to a fractional model when facing major obstacles in their own finance operations, (e.g. an inability to close the books or to pass an audit). Overcoming whatever problems you are facing can indicate the first steps in a successful transition.
- Closing the books on time – this is table stakes for success in any finance and accounting function.
Leveraging partners efficiently:
- Is it like your partners were never there? – it counts as a success if the partner is doing things so smoothly that the books are getting closed, bills are getting paid, time and expense entries are being processed, and it’s all happening without issues or errors.
- Is the marginal cost of the finance function growing at a lower rate than revenue? – if it is, that’s a win. Because if the marginal cost is maintained or decreases based on revenue growth, that will lead to a more sustainable business. Often, growth of the company requires the accounting function to expand. With automation, you can streamline work and processes to become more efficient and decrease costs.
Increasing finance’s strategic contribution from finance:
- Are you getting valuable insights from finance? – this is a fractional finance function’s end goal. Does your organization have the insights it needs to make the right decisions? Are you getting quality data in support of decisions? How accurate are the forecasts FP&A is providing?
- Is the work of your internal finance team contributing to growth? – or is it scorekeeping for the rest of the organization’s activities? The manual work in your finance function should contribute to decisions in your core business.
Overall
What are the most important things to get right?
It’s okay to look a little dumb and be honest with your partner – you have to be completely open about all of the problems you’re having. If your partner understands the full landscape, they’ll be more effective in trying to uncover issues and remediate them.
Build mutual trust – if you get to a point where you don’t trust the work that your finance partners are doing, evaluate those relationships. Go in with an eye towards building trust, and work with a partner who can earn your organization’s trust. If you have concerns about trust, deal with that issue head-on, because whoever you outsource finance to has your checkpoint.
What are common pitfalls?
Don’t go into it thinking everything will be fixed overnight – it’s not realistic. If it took you a while to get into these problems, it’s going to take a while to get out of them. Have a little bit of patience. You can’t wave a wand and automate and outsource your problems away if you haven’t closed your books in two years.
Not considering partner timezone – you need your partner working in the same (or a similar) time zone as you, in order to build strong communication. Some fractional finance teams have offshore resources working in dramatically different hours, and that can end up very clunky. Ask your partner if they monitor chat and text channels for quick questions and responses. Can the team get on a virtual face to face call when issues come up?
