Page 2By Jeffrey Rothfeder | Posted 02-01-2004
Better Safe Than Sorry: Blue Rhino Corp.
Ask Billy Prim's fellow executives at Blue Rhino Corp., and they'll tell you that their CEO runs his company in a freewheeling, entrepreneurial style. Meetings are short, managers are trusted to make the right decisions and put them into motion quickly, ideas flow easily bottom to top, and red tape is kept to a minimum. And Prim wears Blue Rhino's mission on his sleeve. From civic events to meetings with would-be partners, Prim is a full-time cheerleader both for getting people to take in the outdoors, and for preaching the virtues of Winston-Salem, N.C.-based Blue Rhino, the country's largest supplier of propane gas cylinder exchange for backyard grills. Prim even purchased the Winston-Salem Warthogs, a Class-A team in baseball's Carolina League, in part to publicize the virtues of hamburgers, hot dogs and hot weather.
Just ten years old, Blue Rhino's business already extends to 28,000 retail outlets throughout the U.S., including Home Depot, Lowe's, Wal-Mart and Circle K., and its $258.2 million in revenue for fiscal 2003 (ended in July) was up 86 percent in two years. Operating income, at $24.4 million for the year, rose over 500 percent in that period. And, in perhaps the biggest surprise, the Warthogs, a perennial also-ran, swept the Carolina League playoffs last year without losing a game.
But in the summer of 2002, something happened to slow down Blue Rhino's hard-charging culture: Congress passed the Sarbanes-Oxley Act. The legislation, approved after the epidemic of high-profile corporate accounting scandals, makes top executives more accountable for their company's income statements and balance sheets. Under the bill, chief executives and chief financial officers are now required to vouch for the accuracy of quarterly and annual reports, and they face up to 20 years in jail if these financial statements turn out to have been falsified. (See "Squeeze Play," December 2002.) It's the upcoming Sarbanes-Oxley deadline, however, that's been causing the biggest headache: Beginning June 15, companies with market capitalization greater than $75 millionBlue Rhino's was about $250 million in January 2004must, at the end of their current fiscal year, issue a management report, signed by its outside auditor, attesting that they have instituted adequate controls on all financially related systems and processes to ensure that they are protected from internal fraud and sabotage.
To meet this requirement, known as Section 404, many companies are spending tens and even hundreds of thousands of dollars on new software to manage the diverse systems that handle accounting, supply chain, inventory and customer data banks. And they're instituting regulations that limit the ability of employees to input information, or change the way systems operate, without first receiving many levels of approval. At Blue Rhino, says CIO Bob Travatello, the impact of Section 404 has been dramatic, ratcheting down the company's torqued-up environment.
"Our mentality has been to beat the market," Travatello says. "If a major retailer wanted us to do something, and that would get us the business, we would do it right away. We basically looked at ourselves as a speedboat going through the water. If someone said we have to make a left turn, we were able to make a left turn on a dime. What we see happening now with Sarbanes is that we can't make that turn on a dime any more."
While that may not significantly affect market shareas Travatello notes, Blue Rhino's public competitors are bound by the same restrictionsit will certainly force Blue Rhino to tone down the aggressive attitude it takes with customers, an attitude that, so far, has been critical to its success.
The main roadblock is the number of people who have to sign off on almost every initiative, large or small. For instance, to alter a process in the financial system, programmers must obtain three separate approvalsit used to be just oneand each step of the modification must be managed by a different programmer. It could take up to three times as long to complete even the most minor change.
"We were a company that was built on trust: We trusted our employees," Travatello says. "Now with these new approval rules, employees ask, 'What, you don't trust me now?' 'Yes, we do trust you, but, unfortunately, the government doesn't.' "
To its credit, Blue Rhino's Sarbanes-Oxley compliance efforts are already far enough along to justify its doubts about the act's impact. While every public company has to comply with the new law, many of them, especially those with fiscal years ending on Dec. 31, put off tackling the regulations until the beginning of 2004, because that gives them 12 months to conform. For some companies, starting this late isn't a problem, says Rich Mogull, an analyst at Gartner Inc. "Most financial services firms can reconcile all of their accounts in 30 minutes after closing. So they're used to documenting everything they doas are other forward-thinking established companies," he says.
The same cannot be said of many older companies that have never fully automated, or even linked, their financial systems, which have too often been put together piecemeal, over decades. Likewise, many newer companiesthose that have grown through lots of acquisitions, say, or where there has been a culture of speedare finding that they, too, face a larger job than they had anticipated when they try to integrate and put adequate controls on what had been a loose set of operations.
In such cases, this task frequently falls to the CIO. While an organization could, at least theoretically, document financial operations manually, or rely on existing soft- ware to create the necessary controls, many companies are seizing on Sarbanes-Oxley as an opportunity to streamline and corral their networks, and to create better reporting mechanisms that improve efficiency throughout the organization. Business-process-management softwareprograms that oversee and integrate the operations of large separate applications, such as ERP and CRMis often chosen as a way to fulfill that goal relatively inexpensively. According to Gartner, the software companies that have the most to gain are FileNet Corp., Metastorm, Pegasystems Inc. and Staffware.
"In complying with Section 404, companies are realizing that they need other improvements in their financial systems," says Diane Wolff, president of the Blue Sage Group, a Canton, Mass.-based consultancy that advises on Sarbanes-Oxley issues. "Do they need specific software programs for revenue recognition? Do they need to update their financial systems? Do they need to link disparate financial operations so that where the data comes from, and what it means to the performance of the organization, is transparent? They're looking at how to take all of the manual financial processes based on Excel spreadsheets they've got in their different divisions and put them into an automated system. There is going to be more indirect pressure on CIOs and IT organizations to solve business problemsdata flow problemsthan to solve compliance."
Thus far, Blue Rhino's experience with Sarbanes-Oxley has soured management on the legislation. The company has had to grudgingly accept that it will have to be a more deliberate organization for the foreseeable future. Echoing the words of many other companies facing the legislation, Mark Castaneda, Blue Rhino's chief financial officer, says, "We are being punished for the ills of dishonest companies."
But even with that in stark relief, Castaneda and CIO Travatello concede that the company has made some significant gains from its efforts to meet the demands of the legislation. For one thing, it has added urgency to an inchoate financial re-engineering initiative that the company had started in 2002, even before Sarbanes-Oxley was passed.
At the time, faced with a growing retail network that included more than 50 distributorships in 46 states, company management realized that it was drowning in inventory, in large part because distributors were sending receivables and payables data to headquarters piecemeal, at the end of each month. This system, a legacy of Blue Rhino's rapid growth, during which the company simply added one information process on top of another, without any attempt to link them, required accounting staffers to plug the data into spreadsheets manually and then integrate these spreadsheets into the centralized corporate network. It could take a week or more to close the booksa long time during which inventory levels in the field were not monitored with sufficient timeliness. "We needed to close those books much more quickly and improve at least two or three days on inventory, or we couldn't operate at the speed we wanted to," says Travatello.
The company purchased Metastorm's E-work BPM software and began to use it to manage inventory on hand at the distributorsautomating the delivery of inventory information to headquarters and gaining the ability to transfer propane cylinders quickly among its distributors as demand dictated.
Then came Sarbanes-Oxley. "Sarbanes-Oxley got us going faster down the path we were already on," says Castaneda. "That got the organization in full gear."
If restructuring the inventory system was any guidethe project, which involved revamping data banks and retraining employees, took monthsCastaneda and Travatello knew they had a lot of work on their hands to meet the requirements of Section 404. So by the middle of last year, they had earmarked $400,000half from the IT budget and half from the finance- department budgetand assigned 3 information-systems staffers (out of 12 in the entire group) to tackling compliance. Already comfortable with the E-work software, they decided to use it for the Sarbanes-Oxley initiative as well.
The first step was documenting the company's direct and indirect financial operations. To do that, staffers created a template that could be filled in to depict each processthe flow of data, the movement of money, the personnel activitiesinvolved in accounting, ordering, inventory, supply-chain management and delivery. Within each of these templates, Travatello's team looked for holesplaces where there weren't sufficient safeguards to ensure that information couldn't be changed without appropriate levels of permission, for instance, or where the data wasn't immediately available to management in a clear format that highlighted any aberrations or discrepancies. And the team tore apart each process to expose potential gaps that weren't immediately obvious.
Hidden deep in a tax application, for example, they found that a certain amount of information could be accessed by computers residing in the IT department. The team asked IT managers to provide evidence of the process control that ensures no one can modify the data at the IT department level; operations that didn't meet the high standards of Sarbanes-Oxley were segregated for further gap analysis. "Every rock we turned over, we found a couple of things that jumped out at us and made us wonder why we ever decided to do it so inefficiently," says Travatello. "Why didn't we know we were doing it the wrong way?"
Given the depth of the re-examination of operations, employees unearthed processes that desperately needed to be fixed even though they weren't directly related to financial systems. One example: During the Sarbanes-Oxley exercise, Travatello discovered that when a new employee was hired at Blue Rhino, HR provided information about the new hirehis start date, position, equipment requirements and the liketo the IT group by phone or e-mail. This somewhat informal procedure often slowed down the process of getting an employee into the flow of his job quickly, because frequently it wasn't until he actually arrived at work that office staffers began to tend to his needs.
"This may not sound like a big thing, but it was a huge waste in productivity," says Travatello. "It could take a new employee days before he had his cell phone, laptop, network connection and workspace set up. The problem was right there before us, but we didn't identify it until we began to examine everything we do."
To fix the system, Travatello and his team have just installed an automated human-resources application that immediately sends details about a new hire to IT via a work-flow program. IT staffers instantly get a complete summary of what the employee will need to do his job, with deadlines for providing space, network passwords, computers, cell phones, phone numbers and other workplace requirements. With the information retained in an audit trail, staff responsibilitiesand how well they are carried outare in the open and less likely to be neglected, says Travatello.
Speed to Market
Of course, information transparency is the central tenet of Sarbanes-Oxley, so it's not completely surprising that complying with the legislation is making Blue Rhino much less opaque. Thanks in part to Sarbanes-Oxley, Blue Rhino will be a very different organization by this summer, after its auditor Ernst & Young has (the company hopes) signed off on its compliance with Section 404. When CIO Insight last spoke with Blue Rhino's management, in January, there were initiatives underway to redesign the purchasing system, a manual process in which distributors filled out order forms for propane cylinders and faxed or e-mailed them to headquarters. Often, it would be days before these orders were completed. The new system will let distributors enter their requests in online forms that will automatically be sent to central purchasing. If the order is approved, based on spending limits and other criteria, it will be instantly filled and the data pertaining to the order will be shared with accounting, inventory, supply-chain management and the company's executives. The change will cut days out of the order cycle.
A similar upgrade is planned for Blue Rhino's customer-service system. An automated work-flow application is being developed to handle requests from consumers, such as ordering and shipping replacement parts, checking on warranty information and supplying repair instructions.
In all, more than two-dozen technology efforts are underway at Blue Rhino that have grown directly out of the Sarbanes-Oxley initiativeincluding key supply chain and accounting initiatives. By automating work flow and business processes, Blue Rhino hopes to keep both the cost of sales and administration10.9 percent of revenues in fiscal 2003and personnel levels flat while annual revenues are expected to grow at a double-digit rate. That, says CEO Prim, could improve net earnings by about 25 percent a year for the next three to five years.
With so many new, streamlined systems attributable to Sarbanes-Oxley, is the act the evil force acting as a dead weight on the company's fast-growth culture that executives make it out to be? Or is it a catalyst for positive change? Despite what Blue Rhino has gained, its managers won't budge on their assessment. "Sometimes it sucks being a public company," says Travatello. "A few bad apples have forced everybody to jump through hoops. Look, complying with Sarbanes-Oxley is making us a better company, no doubt about it. But we were already in the middle of business-process re-engineering. We would've gotten to where we'll be anyway, without having to add so many layers of bureaucracy, or change the way we like to do business."
That's not true for all companies, says Gartner's Mogull. Many of them have been ignoring desperately needed streamlining for many years, he notes, "and Sarbanes-Oxley was a perfect wake-up call for them. Business-process management was the furthest thing from their minds, and frankly, they'll be struggling with it for a while because they don't have the organizations in place to take advantage of all of its potential benefits."
Good news for Billy Prim. Sarbanes-Oxley may have made his company a step or two slower. But some of his rivals may not even be at the starting gate. (In early February, as CIO Insight was going to press, Blue Rhino agreed to be acquired by Ferrellgas Partners LP, a seller of propane, for $340 million, or $17 a share, a premium of 22 percent above Blue Rhino's stock price at the time. According to Travatello, the deal will not alter Blue Rhino's Sarbanes-Oxley effort, because as a significant independent unit of the merged company, Blue Rhino will still be required to comply separately.)
A summary of SEC actions, faqs and documents relating to Sarbanes-Oxley
Comprehensive site with articles, forums and links relating to the legislation
Sarbanes-Oxley weblog discussion from Gartner Inc.