In a look behind his feature for the winter 2022 Pennsylvania CPA Journal, Mike De Stefano, chief financial officer for RKL in Lancaster, Pa., discusses how CFOs can better engage colleagues on financial details via a management discussion and analysis, or MD&A, report. He explores the sorts of illuminating information that should go into an MD&A: financial, nonfinancial, and more.

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By Bill Hayes, Pennsylvania CPA Journal Managing Editor

Podcast Transcript

In his feature for the winter 2022 Pennsylvania CPA Journal, Mike De Stefano, chief financial officer for RKL in Lancaster, discusses how CFOs can better engage colleagues on financial goings-on through a detailed management discussion and analysis, or MD&A, report. Today, he joins us to go into even further detail on aspects, such as what sorts of information should go into an MD&A, non-financial aspects that should be included, primary benefits for the department that puts it together, and more.

Before we get into this sort of deep-dive discussion, for context, can you tell us what a management discussion and analysis, or MD&A, report is?

[De Stefano] An MD&A can actually be a lot of things, but primarily it serves as a deeper dive and an expansion of the financial and operational performance of an organization. Being in the finance department, we put that together to help our colleagues understand what's going on, so that they can make better decisions from a future-oriented perspective.

When an industry CPA is seeking to convey the financial story of an organization to its stakeholders, its managers, where is it that an MD&A can be useful? How does it break through for people who maybe aren't as versed in the numbers as financial personnel?

[De Stefano] Let's first tackle who can it be useful for. It's important to understand the target audience because that can tailor how an MD&A looks. Sometimes they're used externally, and obviously we want to be careful of any information we give to the outside world and it has to be factual rather than potentially theoretical. Your internal stakeholders often can be the senior management team and those with operational leads within the company.

I think the second part of your question was how can it help break through maybe for those that aren't as versed in the numerical world. What I've found over the years of doing MD&As is that it really does help break down a financial statement packet into a narrative that tells the story of how the company did and maybe some of the challenges that it's facing. It can take maybe a hundred-page financial packet and then start to tell a story in more plain language. It's not just numbers that you're relying on. You can give more context, and that's where I see value from some of the other stakeholders in this process is that it's not just a report out of numbers and this is how we did, and here's the bottom line. It's a deep dive into the story behind those numbers.

Now it probably depends a little bit on which stakeholders you're talking to, but what sort of information should go into an MD&A, and how important is it when you're developing one to understand what sort of information your stakeholders want to know?

[De Stefano] When I started out, and I learned how to prepare MD&As, there's a little bit of guesswork involved into what the stakeholders want, because this is a report that may not have existed before. So, you sit there and say, "Well, what should be a good starting spot?" As I've been doing these for five, six years now, the starting spot is usually the financial statement. You take key metrics inside of the financial statement and you use that to drive the narrative throughout the MD&A. Along the way, what you find is that it's not all just dollars and cents, there are other factors that come into play, which is maybe production units, how things compare to budget, what employee headcount may look like. Some of the changes that you're anticipating to try and prepare the organization for. So, while an MD&A may start out as a historical document, it certainly morphs into something that is a tool that helps with prospective decisions as well.

Once you've "completed" an MD&A, how important is it to not see it as the end product, but to add additional info as it becomes available?

[De Stefano] I think it's really important to view it as a constant work in progress. My experience has been that when you roll this out, it starts to show the other users of the report different ways to look at the financial data. Where it really becomes dynamic is when those people that you're delivering the MD&A to start asking for different color and commentary in other areas. At that point, the content is being driven by not just a finance department, but by those in the organization. That's always been one of the best parts of doing an MD&A is making that breakthrough to whether it be people on the operation side or sales side and really starting to educate them about the business and how certain decisions can impact a greater part of the business than maybe just what they're seeing it through. Like that different lens, that's the real breakthrough for me is when you can start to show others in the organization the bigger picture, maybe through lenses that aren't always their own.

Where should an industry CPAs start when they're working on an MD&A? Is there a foundation they should build from to ensure that comprehensive report?

[De Stefano] This might be a good place to remind people that it's okay to borrow other people's methodology and approach. When I learned how to do them, it was through a consultant that the sponsor at the company I'd been working for at the time had provided to us. One of his primary objectives was to help us develop an MD&A. He certainly had a long history of experience that became apparent very early on, and he helped me walk through how we were going to break down the financial statement for those that weren't actively putting together the numbers, and then that spilled into the operational results. He basically showed me the narrative of how you can follow a blueprint of things that should be in there. Yes, you should absolutely talk about financial performance and key performance indicators inside of there, but I never would have imagined sort of going into some of the maybe HR realm in terms of head count and how we're tackling various issues.

The COVID pandemic has certainly provided lots of meaty portions into an MD&A over the last year, but from a starting standpoint, when I came into the role at RKL, and we did not have an MD&A in place at the time, I borrowed from what I learned from my prior role. I may have even reached out to a colleague to say, "Hey, do you think you could send me that original outline," and then used that as the template to go through it. Absent having something like that, or access to a report, I'd say start with your financial statement, and hit the key items that follow the same flow of P&L.

Talk about sales, production, gross margin, and then the operational expenses that are material. As you start rolling this out, the constituents will start to tell you where they want more information from. Once you get the ball rolling, it definitely gives you unsolicited feedback that helps you build a better MD&A for the future.

You mentioned there a couple things really: that the MD&A doesn't have to be all numbers, and you referenced a little bit about some of the human resources information. A little bit of a jumping-off point for this question, are there non-financial aspects that should, or could, be included in an MD&A, and, if so, what are some of those relevant areas to be explored?

[De Stefano] Absolutely. I think financial or non-financial aspects should be incorporated into an MD&A. If it's all about numbers and only about what's in the financial statements, one could sit there and say, "Well, this is already in the financial statements. What's the real value that I'm taking from this when you've already reported everything out through a financial statement perspective." Well, what a financial statement might not tell you is what is your seasonality inside of a business? What does your line of credit look like? What is the availability on the line of credit? What is your upcoming cashflow expenditures that you may not have highlighted on a historical financial statement, but are going to be meaningful to the business as you move into the next quarter or cycle?

Obviously, we talked about some of the HR impacts that are out there, whether it's the impact of closing a facility, and what that could mean on relocating employees or moving employees around, new skill sets you might be facing and struggling to find. Look at the current job market we're in and how difficult it can be to find certain types of labor to round out your workforce.

You could also get into some technology aspects if you're going through upgrades, or a lot of things I read today say cyber insurance should be front and center. You can work these things into an MD&A throughout the course of the document that break apart the financial numbers. I mentioned it before: it starts to tell a story maybe from a little bit of a switch over from a historic to maybe more of a prospective look at things as to, "Hey, here's what we've done historically, the financial statements will tell you that. Here's the impact of what we've seen through this point in time on our financial results and a look forward. Now you're starting to get into some real powerful territory right there.

If an MD&A report is done right, ultimately, what do you see as the primary benefits for the department that put it together, for the CFO that puts it together, or the organization receiving the information? What are those benefits that are going to be visited upon the business?

[De Stefano] There's some real positive benefits that come out of here. For the department that puts it together, and I'd encourage anybody who's considering doing an MD&A to make it more than just about one person assembling it, the byproduct of involving team members is that you're broadening their knowledge. Not only of the process of preparing an MD&A, but along the way, they start to understand the business better because they're helping you craft the document that explains the business. You can't do that without understanding the business and doing the digging in to ask why? Why did this happen? The numbers say this, but why? There's that absolute benefit to the finance department and assembling, and it's really become more than just the finance department, because you need aspects of the business from HR, from marketing, to build into it. It becomes a collaborative approach within the administrative functions.

Then from the CFO, that's delivering this: When you can make that breakthrough to non-CPAs, non-accountants, the breakthrough is you you're building credibility with them because now you're able to talk a language that they understand, and you're helping them see the bigger picture, and how the pieces fit together so that they can make better decisions to impact the organization rather than doing it in a vacuum. With just assumptions that maybe are a broad stroke, and sometimes broad strokes can really cover up areas that are important, but not given any real thought because, "Oh, you know, sales are down because of the pandemic." Well, is that really the only reason? Then, when you can explore that, now you have operations and sales working together with finance. It becomes even a bigger collaboration and the credibility that you can get because you would take the time to understand their side of the business as well.