Industry standards for KPI’s at T

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Industry standards for KPI’s

at T

HE

C

OMPANY

Author

Ing. R.L. van der Meulen

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Industry standards for KPI’s Public Version

Industry standards for KPI’s at T

HE

C

OMPANY

Which Key Performance Indicators should T

HE

C

OMPANY

have

according to Fast Moving Consumer Goods industry standards

for KPI’s?

Public version

Amsterdam, November 2007 Technology Management

Faculty of Management and Organization University of Groningen

Author

Ing. Rein van der Meulen

First supervisor Dr. T.W. de Boer Second supervisor

Ir. F.B.E. van Blommestein

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Executive Summary

The research in this thesis is about which Key Performance Indicators should THE

COMPANY have according to Fast Moving Consumer Goods industry standards for KPI’s? During the research a lot of KPI lists have been found. This does not imply that an industry standard for KPI’s within the fast moving consumer goods industry exists.

This thesis started by seeking a deeper understanding of implementing corporate performance management, appropriate metrics, putting a model of balanced KPI’s into context and finally accepted that this is both an integrated and iterative process. With this foundation, managers at THE COMPANY should increase their ability to successfully drive their business towards goals.

KPI’s are the metrics which quantify corporate performance and are tools to support the manager for decision making. The manager applies this information and uses it in the way he needs it for his vision. It is important to handle the KPI as a tool, not as a solution. The human aspects of managing still remain when measuring performance by KPI’s. This is not clear for everyone who is introduced to KPI’s at THE COMPANY.

As important as KPI’s are to intelligently manage processes within an organization, they represent just the tip of the information pyramid. The key to realizing significant

performance improvement is not only measuring a few KPI’s, but in ability to examine the underlying detail from which the KPI is derived. This is only possible if KPI’s cascade through the organization and reflect the corporate strategy.

Key performance indicators exist because there is already too much data available to any business level of THE COMPANY. Selecting the correct KPI’s from that data determines the success of corporate performance management. A corporate wide data warehouse is an important condition for corporate performance dashboards/scorecards at THE COMPANY. The future integration at THE COMPANY to one worldwide SAP system within a few years is a good basis for managing performance. Reliable data and one version of the truth will then be provided by the SAP applications systems.

THE COMPANY is on its way to manage corporate performance. Aristotle said, “it is possible to fail in many ways, while succeed is possible only in one way”, but there are more than one ways to achieve CPM. Some actions have to be taken to succeed in good working corporate performance management.

THE COMPANY should focus on a set of the most important brands. It is not clear what the most important business is within THE COMPANY. Thus, it has to be clear for everyone in which brands are worth the effort.

THE COMPANY should choose a framework for measuring performance. This should be the Extended Business Value Model to balance and categorize the non-financial and financial KPI’s. After this, the board of management of THE COMPANY should define strategy and more important goals to measure progress of the corporate objectives.

THE COMPANY should start with a few KPI’s, based on the chosen model to balance the financial and non-financial aspects of the organization. These metrics should be SMART and each of them should fully pass through the Deming cycle.

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THE COMPANY should have IT and Marketing KPI’s. Information Technology is becoming very important in business to make this possible and KPI’s should be part of the

competitive advantages which IT can bring to THE COMPANY. Especially when there is one worldwide SAP application within a few years that manages all information worldwide, it is important to manage IT performance with some good indicators.

Of course, marketing KPI’s can not be absent within a Marketing & Sales company.

THE COMPANY should not underestimate the human aspects of implementing corporate performance management. Employees should understand that KPI’s are a tool to

determine performance and are not goals on themselves. It is very important to build commitment to get people committed to CPM.

Finally, the CPM project at one of the THE COMPANIES business units is a good example of how to implement performance management. This project is build from the beginning by a few experts who spend all their time to it and involved more and more people.

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Preface

During the last phase of the study Technology Management at University of Groningen it is required to write a thesis on a practical problem within an organization. The research for this thesis has been done at THE COMPANY and has been focused on industry standards for key performance indicators.

The content of this thesis is confidential. Confidential information will be replaced by THE COMPANY in the public version.

Chapter one gives an overview what THE COMPANY is doing worldwide and in specific THE COMPANY. After this introduction the problem has been defined in the next chapter. The research question is defined and also the research framework and method are presented. In the next two chapters the theoretical framework is explained. It is about performance management, key performance indicators and the relationship between these. Here lays the foundation of answering the research question “Which Key Performance Indicators

should THE COMPANY have according to Fast Moving Consumer Goods industry standards for KPI’s?”.

Chapter five made researches into FMCG industry standards for KPI’s. What THE COMPANY is actually doing in the field of performance indicators is discussed in chapter six. After this the next chapter continues with an analysis of the standards for KPI’s versus common practice at THE COMPANY.

Finally the research question and sub questions are answered, followed by the conclusion and recommendations.

I would like to thank B. for guiding me through this research at the THE COMPANY. A special thanks to S., THE COMPANIES CIO for providing me the opportunity to do this research at THE COMPANY. Last but not least I would like to thank P., my first point of contact at THE COMPANY.

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1.2. THE COMPANY ... FOUT!BLADWIJZER NIET GEDEFINIEERD. 1.2.1. Business Unit 1 ... Fout! Bladwijzer niet gedefinieerd. 1.2.2. Business Unit 2 ... Fout! Bladwijzer niet gedefinieerd. 1.2.3. Business Unit 3 ... Fout! Bladwijzer niet gedefinieerd. 2. PROBLEM DEFINITION ... 13 2.1. RESEARCH QUESTION ... 13 2.2. RESEARCH FRAMEWORK ... 14 2.2.1. Research area... 14 2.2.2. Research topic ... 14 2.2.3. Research objective ... 14

2.3. RESEARCH METHODS AND TECHNIQUES ... 14

3. THEORETICAL FRAMEWORK FOR PERFORMANCE MANAGEMENT ... 15

3.1. HISTORY ... 15

3.2. DEFINITION OF CORPORATE PERFORMANCE MANAGEMENT ... 15

3.3. CORPORATE PERFORMANCE MANAGEMENT CLOCKWORK ... 16

3.3.1. Processes ... 17 3.3.2. Methodologies ... 19 3.3.3. Technology ... 19 3.3.4. Metrics ... 21 3.4. PHASES OF DEVELOPMENT ... 21 3.5. FUTURE DEVELOPMENT ... 23 3.6. CONCLUSION ... 24

4. THEORETICAL FRAMEWORK FOR KEY PERFORMANCE INDICATORS ... 25

4.1. DEFINITION ... 25 4.2. DIMENSIONS ... 26 4.2.1. Business perspectives ... 26 4.2.2. Measurement families ... 28 4.2.3. Measurement categories ... 29 4.2.4. Overall focus ... 30 4.3. ELEMENTS ... 32 4.4. CHARACTERISTICS ... 32 4.5. CONCLUSION ... 35

5. INDUSTRY STANDARDS FOR KEY PERFORMANCE INDICATORS ... 36

5.1. FINANCIAL VERSUS NON-FINANCIAL METRICS ... 36

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5.3. DEMAND MANAGEMENT ... 38

5.3.1. Sales effectiveness ... 38

5.3.2. Market responsiveness ... 39

5.3.3. Product development effectiveness ... 39

5.4. SUPPLY MANAGEMENT ... 40

5.4.1. Supplier effectiveness ... 40

5.4.2. Operational efficiency ... 40

5.4.3. Customer responsiveness ... 40

5.5. SUPPORT SERVICES ... 41

5.5.1. Human Resources responsiveness ... 41

5.5.2. Information Technology responsiveness ... 41

5.5.3. Regulatory responsiveness ... 41 5.6. FINANCE MANAGEMENT ... 42 5.6.1. Stock exchange ... 42 5.6.2. Financial health ... 42 5.6.3. Financial control ... 42 5.7. CONCLUSION ... 43

6. KEY PERFORMANCE INDICATORS WITHIN THE COMPANY ... 44

6.1. WEB SURVEY ... 44

6.2. DEMAND MANAGEMENT ... 44

6.2.1. Marketing & Sales ... 44

6.3. SUPPLY MANAGEMENT ... 45 6.3.1. Out of Home ... 45 6.3.2. Supply Chain ... 46 6.3.3. Manufacturing ... 46 6.4. SUPPORT SERVICES ... 46 6.4.1. Human Resources ... 47 6.5. FINANCE... 47

6.6. CONTINUOUS IMPROVEMENT &LEAN PHILOSOPHY ... 47

6.7. CONCLUSION ... 49

7. INDUSTRY STANDARDS VERSUS THE COMPANY ... 50

7.1. CORPORATE PERFORMANCE MANAGEMENT ... 50

7.2. KEY PERFORMANCE INDICATORS ... 51

7.2.1. Cascading Strategy ... 51

7.2.2. Deming Cycle ... 52

7.2.3. Business perspectives ... 52

7.2.4. Overall dimensions focus ... 53

7.2.5. Elements ... 53

7.2.6. SMART Characteristics ... 53

7.2.7. Negative correlation ... 54

7.2.8. Extended Business Value Model ... 55

7.3. CONCLUSION ... 57

8. CONCLUSION ... 59

8.1. CONCLUSIONS ... 59

8.2. RECOMMENDATIONS ... 60

8.2.1. With regard to THE COMPANY ... 60

8.2.2. With regard to the KPI’s at THE COMPANY ... 62

8.2.3. With regard to this research ... 63

REFERENCES ... 64

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APPENDIX ... 68

1. ORGANIZATIONAL CHART OF THE COMPANY ………. 71

2. INDUSTRY STANDARD KPI DEFINITIONS………... 73

3. THE COMPANY KPI DEFINITIONS……… . 77

4. WEB SURVEY QUESTIONS AND RESPONSES………. 88

5. RECOMMENDATED KPI”S FOR THE COMPANY………. 105

Table of figures: Diagram 1. Stock price 1997 until 2007. ... Fout! Bladwijzer niet gedefinieerd. Diagram 2. Organizational chart THE COMPANY (source: THE COMPANY intranet, Feb.2007). ... Fout! Bladwijzer niet gedefinieerd. Diagram 3. Financial highlights THE COMPANY in million. ... 10

Diagram 4. Price history of large FMCG companies within the last ten years, compared to THE COMPANY... 10

Diagram 5. THE COMPANY’s Sales by business unit. ... 11

Diagram 6. Corporate Performance Management as a clockwork. ... 16

Diagram 7. Gap between strategic and tactical business level. ... 17

Diagram 8. From strategy to action. ... 18

Diagram 9. Framework of the most common Corporate Performance Management applications. ... 19

Diagram 10. Phases of development in Corporate Performance Management. ... 21

Diagram 11. Horizontal and vertical integration of performance management. ... 22

Diagram 12. From traditional Business Intelligence to BI for CPM. ... 23

Diagram 13. Strategic Alignment Pyramid ... 25

Diagram 14. Four dimensions of the Balanced Scorecard by Kaplan and Norton. ... 27

Diagram 15. Corporate Performance Management maturity model. ... 31

Diagram 16. Extended Business Value Model for CPM metrics. ... 38

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1. Company profile

THE COMPANY1 is a global Fast Moving Consumer Goods2 manufacturer and marketer of products for consumers throughout the world.3 Fast Moving Consumer Goods are products that have a quick turnover and relatively low cost.4 Consumers generally put less thought into the purchase of FMCG than they do for other products. Though the absolute profit made on FMCG products is relatively small, they generally sell in large numbers and so the cumulative profit on such products can be large.

- THE COMPANY -

1.1. THE COMPANY

- THE COMPANY -

With its focus on acquisitions, THE COMPANY did not devote enough attention to building its existing brands and developing synergies among them.5

- THE COMPANY -

Having well-known brands is usually positive, but many product lines can operate as mini-companies. Beside this, while the brands are well-known, many of them do not have strong positions in their respective markets.

- THE COMPANY -

1

THE COMPANY = THECOMPANY

2

Fast Moving Consumer Goods = FMCG 3

Financial report 2006, THE COMPANY

4

Wikipedia 5

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1.1.1. Financial Information

THE COMPANY stock is listed on stock exchanges.6

Many financial KPI’s7 like revenue, gross profit, operating income and net income appear in the annual report. A part of this annual report is made visible in Diagram 1.

- THE COMPANY -

Diagram 1. Financial highlights THE COMPANY.8

The diagram shows a striking decrease of operating and net income within the last three years. THE COMPANY set its priority in YEAR to increase shareholders value by an increasing dividend pay out.9 THE COMPANY didn’t act as well as other FMCG companies within the last ten years. Other FMCG companies like - THE COMPANY - show a higher stock price growth, which can be seen in Diagram 2. This diagram shows price of stock ratio in comparison with the Index from 1997 until now. - THE COMPANY - is doing much better as can be seen in the chart. This company already launched in YEAR an initiative aimed at harmonizing and simplifying business process architecture. - THE COMPANY - also adjusted its strategy in YEAR and decreased their brands.

- THE COMPANY -

Diagram 2. Price history of large FMCG companies within the last ten years, compared to THE COMPANY.10

6

Reuters, 26 February 2007 7

Key Performance Indicator = KPI 8

Financial Report 2006, THE COMPANY

9

Business Wire, November 22, 2005 10

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1.1.2. Mission

THE COMPANY wants - THE COMPANY -

The mission of THE COMPANY nowadays is - THE COMPANY -

1.1.3. Vision

These days THE COMPANY’s vision is - THE COMPANY -

1.1.4. Values

THE COMPANY also defined values for her employees to make clear how the organization wants them to act:

- THE COMPANY -

1.2. THE COMPANY

- THE COMPANY -

Diagram 3. THE COMPANY’s Sales by business unit.11

11

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- THE COMPANY -

There are many reasons for encouraging the development of brand portfolios that contain a balanced mix of strong local and global brands. This strategy is also known as going “glocal”.

Strong local brands have traditionally benefited from a high level of awareness in their countries. Consumers have developed close relationships with local brands over the years and this represents years of marketing investment.

Global brands represent many indisputable advantages. Because of their size they create barriers to entry, they benefit from having a unique worldwide image, and they generate important economies of scale that are financially attractive for international companies.12

THE COMPANY strives for this balanced mix of brands.

- THE COMPANY -

12

Prof. I. Schuiling, Global Brands versus Local Brands: are there Real Winners?, IAG Louvain

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2. Problem Definition

Large multinational organizations report traditional measures as net profit, earnings before interest and return on capital in their annual report. According to the Gartner Institute13, more than seventy percent of these key metrics are financial metrics. Many of the remaining metrics are related to dividend information or employee numbers, but non-financial metrics were hardly reported at all. The predominance of non-financial KPI’s doesn’t allow us to understand and measure how value is created in the organization.14

At THE COMPANY employees remain reserved with regards to KPI’s. The positive aspects of measuring performance for THE COMPANY is not supported organization wide. The results of a web survey which was set up by the author of this thesis during his research reflect this statement.

This research will give an insight in the different aspects of performance management and KPI’s and will give a recommendation to THE COMPANY.

2.1. Research question

At this moment THE COMPANY uses 170 Key Performance Indicators to measure

performance. Consolidation software from Hyperion Software aggregates this information. Using (FMCG) industry standards for KPI’s creates the possibility to benchmark. Which standards are in use in (FMCG) industries? Which KPI’s are in use at THE COMPANY? What is the difference? This document aims to give an answer.

After these considerations a clear research question can be defined. This is the question which has to be answered at the end of the research:

Which Key Performance Indicators should THE COMPANY have according to Fast Moving Consumer Goods industry standards for KPI’s?

To get an answer to this research question, the author of this thesis split up the research question in five sub questions. The answers to these sub questions give the information that finally leads to the right answer to the research question. The sub questions are:

1. What is Performance Management? 2. What are Key Performance Indicators?

3. Which standards are common within the fast moving consumer goods industry? 4. Which Key Performance indicators does THE COMPANY use at this moment? 5. What is the similarity and difference between fast moving consumer goods industry

standards for key performance indicators and what THE COMPANY is doing? And should THE COMPANY take action?

13

Gartner, Inc. (NYSE: IT) is a leading information technology research and advisory company 14

M. Smith, A. Apfel, R. Mitchell, The Gartner business value model: A framework for measuring

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2.2. Research framework

Before starting the research, first the boundaries should be made clear. All the sub questions are within the research framework. This paragraph describes the area in which the research has been done.

2.2.1. Research area

The research area in this thesis is Performance Management at THE COMPANY and KPI’s. 2.2.2. Research topic

The topic of the research in this thesis is KPI’s at THE COMPANY versus KPI’s according to (FMCG) industry standards.

2.2.3. Research objective

The objective of the research is to assess the KPI’s that can be used in comparison to those that are being used within THE COMPANY.

2.3. Research methods and techniques

A lot of data has to be collected to aim to give an answer to the sub questions and the research question. The research in this thesis contains the following data collection methods:

1. Literature

2. Internal documents 3. Interviews

4. Observation

Literature (1) and internal documents (2) can be taken together as existing information.15 This thesis starts with a literature review. The theory about performance management will be researched and KPI’s will be analyzed. After this, (FMCG) industry standards for KPI’s will be analyzed.

Internal documents have to be reviewed for understanding the processes within THE COMPANY and to gain insight in how performance management and KPI’s are being used today.

To obtain more knowledge about the processes within THE COMPANY interviews can assist getting a clear view. Internal interviews also help analyzing the current method of

monitoring parameters. During the research it was not possible to do interviews with a representative number of people. In order to get information from the inside a web survey was developed.

Close observation is possible because the author writes his thesis for the THE COMPANY at the head office. See appendix 1 for the organization chart of THE COMPANY.

15

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3. Theoretical framework for Performance Management

This theoretical framework lays the foundation of answering the research question. The research area is performance management, so let’s start with answering the question what performance management is.

In the next paragraph the historical development of performance management is reviewed. After this, the definition of CPM is determined and the performance management

clockwork is introduced. Finally, the different phases of CPM and future development are discussed.

3.1. History

Performance management dates back to the beginning of our era. Greek philosopher Aristotle remarked: “The way to achieve success is in first place to have a definitive, clear, practical ideal, goal and aim. Secondly it is necessary to have means to achieve that goal: wisdom, money, materials and methods. In the third place all means are to be aimed at the goal.“16

Nowadays organizations work in a more dynamic environment and have less time to achieve goals. Performance management is introduced by organizations to make it possible to achieve those goals in less time.

The theory about putting the right management controls in place was defined in the early 20th century. Metrics and performance indicators have been around for the same period of time, although often dominated by financial reports. These metrics have been made possible by the introduction of Management Information systems in the 1970’s. After the introduction of the balanced scorecard in 1992 by Kaplan and Norton performance indicators were more commonly used within organizations.17 Strategy maps to show the link between key performance indicators have been in use from mid ’90s.18

Within organizations and literature, two different acronyms for performance management are used. The META group19 and IDC Research20 introduced Business Performance Management while Gartner uses the term Corporate Performance Management.21 They couldn’t agree on the acronym but in this thesis the author refers to the last term.

3.2. Definition of Corporate Performance Management

Corporate Performance Management is the process which manages the organization by defining, aligning and executing mission, strategy and goals of the organization, in which these are made measurable with the aid of critical success factors

16

Aristoteles (382-322 B.C.), Ethica Nicomachea 17

F. Buytendijk, L. Geishecker, Corporate Performance Management: Connecting the Dots, 30 January 2004

18

M. Wilcox, M. Bourne, Performance measurement and prediction, Boston 2002 19

META Group is a leading provider of information technology research, advisory services, and strategic consulting. Nowadays the META Group is incorporated into Gartner.

20

IDC is a subsidiary of IDG, a technology media, research, and events company. 21

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and performance indicators at all levels within the organization so that employees can take action purposeful and quickly to correct critical processes within an organization.22

Under the CPM "umbrella" are the processes (1), methodologies (2), technologies (3) and metrics (4), for enterprises to measure, monitor and manage business performance at the corporate level. CPM synchronizes and aligns company strategies and business objectives through real time information and the continuous exchange of relevant and essential data. Although performance management does not require IT technology, it is virtually

impossible without it, because of the usually large amount of data.

3.3. Corporate Performance Management Clockwork

Now that the definition of CPM is clear, it can be visualized. CPM can be seen as a clockwork where the entire system only works if all parts work together. This clockwork is depicted in Diagram 4. It shows the dependency of the four different aspects that are under the CPM “umbrella”.23

Diagram 4. Corporate Performance Management as a clockwork.

According to Gartner each facet of CPM was typically implemented in a stand-alone manner until fairly recently, with little or no linkage to other aspects of performance management. For example, it was typical for balanced scorecards to be implemented with no linkage to operational planning and budgeting systems. Similarly, metrics used to control financial budgets were frequently different from those used by operational managers. But managing performance only works well when all wheels in the CPM clockwork are working together.

The next paragraphs go anti-clockwise further into the four wheels of the clockwork.

22

A.A. de Waal, Strategic Performance Management: A Managerial and Behavioural Approach, January 2007

23

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3.3.1. Processes

Performance feedback loops link strategic, tactical and operational processes with the ability to respond to dynamic market conditions. The cycle plan, do, check, act, which can be seen in Diagram 4 is called the Deming25 cycle and is very important to follow in order to continuously correct the organization’s course. Strategy formulation, planning and budgeting, forecasting and business tracking are examples of the processes in the clockwork.

Processes in most companies do not always go off well. In many companies a huge gap between strategy and execution exists.24 This is visualized in Diagram 5. Well-considered strategies are devised by executives and then thrown “over the wall” to the rest of THE COMPANY, hoping and praying that their vision will bear fruit. Usually, the only thing that resides is a Powerpoint presentation or a laminated vision card. There is a lack of a mutual flow of information and feed-back from other levels within the organization.

Diagram 5. Gap between strategic and tactical business level.

A well-structured CPM-system which adapts and improves the present system will provide the mutual flow of information which is needed for decision making at all levels.

Operational and tactical business levels are working close together most of the time. The strategic level has to be connected tightly to them. The strategic gap in Diagram 5 can be resolved by structuring a CPM-system that pays attention to all three levels in business. At each of the strategic, tactical and operational level decisions have to be made to improve corporate performance and should lead from strategy to action. These decisions, which can be seen in Diagram 6, are discussed now.

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Diagram 6. From strategy to action.

Strategic level

Here is decided in which way strategy is turned into (balanced) steering information and concrete actions. The organization has to guarantee that goals, actions and steering information of the organizational divisions are levelled.

If strategy is determined, critical success factors can be defined. Critical Success Factors are elements that are vital for a strategy to be successful. KPI’s are measures that quantify objectives and measure the critical success factors.

As one says in Dutch “Meten is weten” (“Measuring is knowing”). However, too many organizations focus on collecting and processing data. Realizing strategy doesn’t get much attention.

Strategy is only realized if the organization executes her strategic actions correctly and timely. In many organizations the cycle Plan, Do, Check, Act of Deming25 is not often fully executed. According to Geelen26 especially the phases Check and Act obstruct the power of learning within the organization. Often there is a lack of monitoring and correcting the course to organization’s goals.

Behaviour of management and employees is very important to translate strategy into action. Applying the information, action and learning possibilities determine the realization of organization’s strategy.

Tactical level

Many organizations use Excel for budgeting and prognosis. An integrated CPM application as will be discussed in § 3.3.3. can give aggregated and real information which can be

25

M. Watson, The Deming management method, 1988 26

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analysed and used for planning and allocating resources at tactical level. Business intelligence plays a vital role these days to deliver the information CPM needs. Operational level

If strategy is laid down, actions can be executed and performance can be measured at operational level. At this level decisions are made on weekly or daily basis and should be targeted for automation.

3.3.2. Methodologies

Track, measure and improve performance is possible by using different methodologies like balanced scorecard, economic value added (EVA), activity-based costing (ABC) and Six Sigma amongst others. § 4.2.1. at page 26 will discuss the first methodology, the balanced scorecard.

3.3.3. Technology

Within the four aspects in the CPM clockwork, the technology aspect contains among others a set of applications that is based on a BI infrastructure and information delivery systems to support CPM.27

Planning, Business Intelligence, Data integration, Forecasting, Scorecarding, Budgeting, Financial reporting and “What if” scenario modelling are part of CPM. In Diagram 7 the CPM framework is depicted, with latter applications.

This framework shows the layer in which CPM applications are present and what it is based on. CPM applications need data from data marts. This information is needed within the metrics aspect in the CPM clockwork and will be provided by an underlying business intelligence infrastructure. The data sources deliver these data. Finally, the CPM

applications show their information in the presentation layer.

Diagram 7. Framework of the most common Corporate Performance Management applications.

27

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The heart of the CPM framework is a set of analytic applications that process the data and deliver among others the following functionalities:

Budgeting, planning and forecasting

These applications support the development and management of budgets, plans and forecasts. They should also support an enterprise wide planning model, and must be capable of sharing data with planning applications.

Profitability modelling and optimization

This application enables users to model the impact on the profitability of different cost and resource allocation strategies. They can also enable revenue to be allocated (in addition to costs) to model packaging, bundling, pricing and channel strategies.

Scorecard

Scorecard applications can link performance indicators to a strategy map in a cause-and-effect relationship.

Financial reporting

This application enables organizations to consolidate, summarize and aggregate financial data based on different accounting standards and regulations, like US GAAP and IFRS. This CPM application framework costs a lot of time and money for implementation if it has to be built up from the beginning. However, it can be built up in different phases and many organizations already have implemented parts of the framework.

At THE COMPANY the data sources and BI infrastructure are already implemented. A data warehouse and enterprise resource planning are in use, customer relation management is being implemented and a supply chain management application is widely used. Also a simple method of management reporting exists in the presentation layer. The focus should now be on the applications that process all the data. The introduction of an enterprise wide SAP application which integrates the above functionalities facilitates performance

management will be finished within a few years. Separate applications do not make it easy to manage performance, while using integrated CPM applications and concepts can be a substantial business advantage: 28

• The internal communication on strategy improves.

• Corporate transparency increases, because of clear information and there is only one version of the truth.

• It facilitates communication with stakeholders. • It facilitates decision-making.

• Balancing short-term, middle-term, and long-term organizational control. • Value-creating investments are encouraged.

• The allocation of resources improves

• It streamlines the planning and budgeting processes.

The book Quest for balance describes case studies of corporations which introduced performance management systems. It seems29 that companies with a well-structured CPM system deal better with increased complexity, greater uncertainty and risk than those who haven’t implemented CPM methods. But it is important to realize that having a method or an application is not the only condition that leads to performance management.

28

P. Geelen, A. Stam, De stormachtige opkomst van CPM, Tijdschrift Controlling, May 2003 29

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3.3.4. Metrics

In literature the term “performance measurement” is used indifferently with performance management. To prevent confusion one has to distinguish these two.

Performance measurements are the metrics (shown in Diagram 4 at page 16), which are the necessary conditions to make CPM function.30 The performance measurements show how far the organization reached her goals by using critical success factors and

performance indicators. Hence, performance measurement is part of CPM.

Within the Metrics part of the CPM clockwork, real-time measures are captured in some kind of reporting focused on key issues and critical data for dynamic decision making (i.e. return on investment (ROI), Customer Relationship Management (CRM) analytics and Supply Chain Management (SCM) analytics). Information provides key performance indicators to measure the critical factors of success. The theory about KPI’s is discussed in chapter 4.

3.4. Phases of development

Identification of the phase in which an organization is, can be necessary to determine the direction of the implementation and steps to take. Consultancy firm Berenschot31 uses phases which can be seen in Diagram 8 to check where an organization is now and where to go.

Diagram 8. Phases of development in Corporate Performance Management.

Phase 1: Tools

During the tools phase the organization introduces a draft of CPM. In this phase new or adapted management tools are developed to support this process.

30

M.J. Lebas, Performance measurement and performance management, International Journey of Production Economics vol. 41 p.23-35, 1995.

31

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Phase 2: Process

The second phase can be recognized by an increasing attention to execution. The organization learns from best practices during the implementation and responsibilities are made more explicit.

Phase 3: System

All parts are working together in this phase. The responsibilities, competence and contribution of all internal stakeholders are clear.

Phase 4: Integration

Vertical and horizontal integration of CPM is realized in the fourth phase. Vertical integration implies a quick and effective translation from strategy to action. Alignment by top-down goal setting is realized. Each subsequent goal supports the previous in a more specific way.

If management tools are attuned to each other in substance and with respect to

processes, is called horizontal integration. This means that the management tools support the realization of strategy. Each department takes as one of their goals another

department’s goal that is influenced by each other.

The horizontal and vertical integration can be seen in Diagram 9.

Diagram 9. Horizontal and vertical integration of performance management (Source: www.12manage.com).

Phase 5: Culture

In the most advanced phase every member of the organization is focused on delivering performance management. Tools are playing an inferior role and serve as support.

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3.5. Future development

When exploring the theory about CPM, the term Business Intelligence appears frequently. Business Intelligence32 provides tools essential to the delivery of CPM applications. CPM, in turn, ties BI to a strategic business initiative. BI can address the requirements of many business applications and does not truly need CPM to be successful. CPM, on the other hand, could not exist without taking advantage of BI capabilities. BI is part of CPM, so BI is enabling technology, whereas CPM is a “business process” which is supported by BI. In the past few years CPM and BI have grown closer and closer together. More and more people think that “BI is a continuous process”33 and that they will merge together in the next few years. The difference between the “traditional BI” and the merged BI for CPM according to Gartner is shown in Diagram 10.

Diagram 10. From traditional Business Intelligence to BI for CPM.

The future for organizations is pulling all applications within an organization together in an integrated way; to use a common strategic and technical framework to drive all parts of the organization toward a common set of goals and objectives. An integration of BI and CPM as “BI for CPM” can be a boost for an easy implementation of performance management.

THE COMPANY is still far from having common data and processes. THE COMPANY can be identified in the process phase from the development phases in diagram 10 and is mid-way now. Many systems like SAP R/3, JD Edwards (Oracle), MFGPRO (Supply chain execution system) and BPICS exist side by side.

SAP is used by 54 % of THE COMPANY employees (March 2007) and this is planned to be 100 % within three years.

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Business Intelligence = BI 33

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3.6. Conclusion

This chapter was aimed to give an answer to the first research sub question “What is

Performance Management?”

Corporate Performance Management is the process which manages the organization by defining mission, strategy and goals of the organization, in which these are made

measurable with the aid of critical success factors and performance indicators at all levels within the organization so that employees can take action purposeful and quickly to correct critical processes within an organization.

CPM can be seen as a clockwork of which some aspects presented in Diagram 4 on page 16 can be identified within organizations. But the theory about managing performance only works within an organization if the four different aspects Processes (1), Methodologies (2), Technology (3) and Metrics (4) work together as clockwork. There are many ways to reach our end state, but if these four aspects do not work together, it is impossible to get there anyway.

Succeeding in CPM is possible if the organization pays attention to the next aspects. First the organization has to define its strategy, where all processes are aimed at. Every organizational level has its goals, actions and information and should be related to the overall organization’s strategy. At each of the strategic, tactical and operational level decisions have to be made. These decisions can only be on a par if overall strategy is clear and if all processes include a continuous cycle of plan, do, check and act, to continuously correct the organization’s course towards strategic goals.

In the second place, management of performance is possible by using different well applied methodologies. Methodologies like economic value added, activity based costing, six sigma and balanced scorecard are useful to track, measure and improve performance. In the third place, an organization has to attach great value to technology. Technology enables access to information which is needed within the metrics aspect in the CPM clockwork. This information is stored in a data warehouse and CPM applications are able to use this data for planning, budgeting, financial reporting, forecasting and scenario analyses. The latter two, forecasting and scenario analysis, are very important for moving towards organizational goals. If strategy is clear, forecasting and scenario analysis help an organization to look forward.

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4. Theoretical Framework for Key Performance Indicators

This chapter sets out the theoretical framework of KPI’s. In the next paragraph the definition of key performance indicators is determined. After this, several alternative dimensions which KPI’s incorporate are explored in the second paragraph. Finally the elements and characteristics are reviewed.

4.1. Definition

Key Performance Indicators are a set of values used to quantify the performance of an enterprise. E.g. inventory turnover, days sales outstanding and return on investment are all KPI’s.

KPI’s help an organization define and measure progress towards organizational goals. 34 Once an organization has analyzed its mission, identified all its stakeholders, and defined its goals, it needs a way to measure progress toward those goals. Key Performance Indicators are those measurements35, shown in the CPM-clockwork “Metrics” area in Diagram 4 at page 16 and can be seen as criteria on which management decides to intervene or not.

A KPI quantifies the performance of an activity that is critical to the success of an

organization. The quantification is visualized in a strategic alignment pyramid in Diagram 11.

The organization’s vision of the future must be supported by the how (the strategy), the what (objectives), the focus areas (critical success factors), the metrics (KPI’s) and the action plan (key action initiatives) to realize full effort. There needs to be comprehensive and consistent alignment up and down the pyramid.36

Diagram 11. Strategic Alignment Pyramid

The alignment of KPI’s with the vision, strategies and objectives of an organization is the key to realize the organizational goal. The challenge is to develop KPI’s that provide a

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D. Wade, R. Recardo, Corporate Performance Management, 2001 35

P. van Geelen, Corporate Performance Management; Sturen in een dynamische markt, 2004 36

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clear and balanced view of the business. Faced with potentially hundreds (if not

thousands) of candidate metrics, it is difficult to select those that are most meaningful. To structure this selection, a distinction should be drawn between the dimensions, elements and characteristics of KPI’s.

4.2. Dimensions

One potential approach to KPI’s is to think of individual KPI’s not just as a singular metric, but as a balanced metric that incorporates several alternative dimensions.37 These dimensions include business perspectives (1) (financial, process, customer, development), measurement families (2) (productivity, quality, cost), measurement categories (3) (direct, composite, percent) and an overall focus (4). By overlaying these various dimensions, one can create a framework for building KPI’s that captures the most critical business drivers. The next paragraphs show the four dimensions which can be used for building that framework and show the different identities which a KPI can have.

4.2.1. Business perspectives

As one could see in Diagram 4 at page 16, methodologies for CPM are among others Balanced Scorecarding, Activity-Based-Costing, Six Sigma and Value Based

Management. To show possible perspectives to look at KPI’s in this chapter the methodology of the Balanced Scorecard is chosen.

This methodology is chosen because there is a need to deliver a more structured

approach to corporate performance. The objectives at THE COMPANY are to measure and communicate strategic goals. Also the relationships between KPI’s, corporate objectives, and strategies need to be clear to the users.

The Balanced Scorecard methodology has the most common perspectives to look at organizations from different points at the same time and does not focus too much on one aspect as other methodologies do. 38 It can be used to focus the organization on

appropriate measures to accomplish defined strategies balanced between “hard” and “soft” measures to ensure sustainability.

Key Performance Indicators usually provide the measures needed to support the four different perspectives of the enterprise Balanced Scorecard, which is made visible in Diagram 12.

37

K. Bauer, The power of metrics: Key Performance Indicators; the multiple dimensions, DM Review Magazine, October 2004.

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Diagram 12. Four dimensions of the Balanced Scorecard by Kaplan and Norton.39

The organizational strategic goals which are in the middle of the scorecard are all related to the four perspectives. Each perspective should have a few KPI’s to get a balanced business perspective of the organization.

Financial

This perspective measures the economic impact of actions on growth, profitability and risk from shareholder's perspective (e.g. net income, ROI, ROA, cash flow). Managers will do whatever is necessary to provide timely and accurate data.

In most organizations the current emphasis on financials leads to an “unbalanced”

situation with regard to other perspectives. Also within THE COMPANY financial metrics are emphasized for the most part. A more balanced view is advisable.

Customer

This perspective measures the ability of an organization to provide quality goods and services that meet customer expectations (e.g. customer retention, profitability,

satisfaction, loyalty and customer service level40). In any business the realization of the importance of customer focus and customer satisfaction increases. If customers are not satisfied, they will eventually find other suppliers that will meet their needs. Even though the current financial situation may look good, poor performance from this perspective is a leading indicator of future decline.

Internal Business Processes

This perspective measures the internal business processes that create customer and shareholder satisfaction (e.g. project management, total quality management, Six Sigma, Lean). These metrics allow the managers to know how well their business is running, and whether its products and services meet customer requirements.

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R.S. Kaplan, D.P. Norton, Using the balanced scorecard as a strategic management system, Harvard Business Review p.76, January 1996.

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Learn and Growth

This perspective measures the organizational environment that fosters change, innovation, information sharing and growth (e.g. staff morale, training, knowledge sharing).

The measures include employee training and corporate cultural attitudes related to both individual and corporate self-improvement. People are the main source in a knowledge-worker organization. For knowledge knowledge-workers it is necessary to be in a continuous learning mode in the current climate of rapid technological change. Hiring new technical workers more often becomes impossible and at the same time a decline in training of existing employees shows up.

Kaplan and Norton41 emphasize that 'learning' is more than 'training'. It includes mentors and tutors within the organization, as well as that ease of communication among workers. That allows them to readily get help on a problem when it is needed.

Overall, causality provides a linkage between the four perspectives although the focus of each perspective is distinctly different.

If a company invests in learning and growth to improve employee skills for example, the results will be translated into improved internal business processes by leveraging best practices and change management programs such as Lean and TQM. These activities will then result in higher quality products and services for the customer, which in turn will drive increased sales and an improved financial basis.

4.2.2. Measurement families

The selection of the appropriate measurement family is an important consideration in the development of KPI’s.42

Different industries will have their own specific business drivers and related measures, but the following list reflects common measurement families.

Productivity

It measures how employees use their time (e.g. sales-to-assets ratio, dollar revenue from new customers, products), employee output (e.g. units/ transactions/dollars) and the uptime levels.

Quality

The ability to meet and/or exceed the requirements and expectations of the customer (e.g. customer complaints and percent returns) is measured.

Cost

How successful the management organization achieves economies of scale and scope of work with its people, staff and practices to control operational and overhead costs (e.g. cost per unit and cost of goods) is measured.

Profitability

This measures the overall effectiveness of the management organization in generating profits (e.g. profit contribution by segment/customer).

41

R.S. Kaplan, D.P. Norton, The Balanced Scorecard: Translating strategy into action, 1996 42

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Timeliness

It measures the point in time (day/week/month) when management and employee tasks are completed (on-time delivery, percentage of late orders).

Process Efficiency

How effectively the management organization incorporates quality control, Six Sigma and best practices to streamline operational processes (e.g. yield percentage, process uptime, and capacity utilization) is measured.

Cycle Time

Measures the duration of time (in hours/days/months) required by employees to complete tasks (e.g. processing time, time to service customer).

Resource Utilization

It measures how effectively the management organization leverages existing business resources such as assets and human resources.

Technology

How effectively the IT organization develops, implements and maintains information management infrastructure and applications (e.g. IT capital spending, CRM technologies implemented, web-enabled access) is measured.

Growth

The ability of the management of the organization to maintain competitive economic position is measured. (e.g. market share, customer acquisition/retention, account

penetration). Growing in a market that is growing overall is not difficult, but an organization has to outperform the market. It’s all about relative growth.

Innovation

It measures the capability of the organization to develop new products, processes and services to penetrate new markets and customer segments (e.g. new patents, new product roll-outs, R&D spend).

4.2.3. Measurement categories

Once the business perspective and the measurement family dimensions are identified, the next task is to determine what form (i.e. the category) the measure should take. Generally, an effective KPI is not a raw number43, but a ratio, index44 or weighted average, because performance has a context.

For example, let’s say a company takes 10.000 orders on Monday. This sounds great, but it is not if THE COMPANY took hundred thousand orders on the previous Monday. And not if the organization took those 10.000 orders from 1.000.000 people who was offered a present if they would place an order. Hence, a KPI generally needs context as in a ratio. A ratio can be compared easily. Comparisons across different business divisions are consistent and not just an exercise in comparing apples and pears. Benchmarking is easily possible by using standardized measures from the measurement category dimension. The

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E. Peterson, The big book of key performance indicators, 2006 44

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potential options for a measurements category include several variations such as direct, percentage, ratio, index, composite and statistical categories:

Direct

The actual raw data value as measured (e.g. sales levels). However direct data does not have a context, it can be very useful.

Composite

The addition of the weighted averages of several similar measures that result in an overall composite indicator of performance (e.g. customer satisfaction composite is mixture of results from customer surveys, service levels and product returns).

Percent

This is the comparison of the changes in performance of one value relative to the same value at a different time, geography, etc. (e.g. percentage change in sales vs. last year). Simple Ratio

The comparison of one value relative to another to provide a benchmark for comparison of performance (e.g. average sales per day).

Index

A combination of several separate measures added together that result in an overall indicator of performance (e.g. company sales growth divided by industry sales growth for a specific geography).

Statistics

These are multiple measures such as mean and variance that capture the spread and distribution of the performance measures (e.g. sales distribution by demographics, geography or channel).

In most situations, the direct data elements that need to be incorporated in a specific KPI are quite apparent up front. The real challenge lies in tranTHE COMPANYating the data elements into meaningful derived metrics that reflect the corporate strategy.

4.2.4. Overall focus

After incorporating the business perspective, measurement family and measurement category dimensions into the development of KPI’s, one needs to consider the final review. The overall focus reflects a mixture of views that further balances the development and selection of KPI’s. The following views are mentioned by Bauer45:

• Time Horizon: the short-term versus long-term focus

• Planning: the strategic versus tactical level on which the planning view is made • Indicator: the lead indicator (focused on the future) versus lag indicators (results

from the past)

• Type: qualitative indicators (with context) versus quantitative

• View: internal (focus on processes inside) versus external (focus on customers, market and environment)

• Level: process versus outcome

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• Purpose: planning versus control.

These mixtures of views are also elements that can be visualized46 in a CPM maturity model, which can be seen in Diagram 13. This model is more specific and detailed than the Berenschot model which was introduced in § 3.4. It shows in which phase

(experimentation, intermediate, mastery, visionary) of CPM an organization is. This maturity model can be used to determine and communicate the current and desired status of an organization on CPM. The measurability and possibility to affect performance are high in the upper right corner, while at the bottom of the diagram the measurability and possibility to influence outcomes are low.

Diagram 13. Corporate Performance Management maturity model.

It is important to screen the final defined KPI’s to ensure that they are not all short-term, quantitative, tangible and lag indicators, which are easiest to develop.

Tangible assets such as investments, real estate and inventories for example are a lot easier to quantify than intangible assets such as employees' skill, talent, knowledge and teamwork. Values for the latter are much more difficult to capture, but according to Bauer47 they are typically a much better indicator of THE COMPANY's future potential.

Overall, the creation of effective KPI’s requires an extensive commitment in time and resources. This effort can be streamlined by determining where the organization really is today in the CPM maturity model and incorporating the dimensions explored in this paragraph.

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P. Silvia, What you can do with KPI’s, Metrics, scorecards and dashboards to achieve better

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4.3. Elements

The success of any Corporate Performance Management program is dependent on selecting the correct KPI’s. Selection of the wrong KPI’s can result in counterproductive behaviour and suboptimal results.47 It is important to bear in mind that although all KPI’s are metrics, not all metrics are KPI’s. The key difference is that KPI’s always reflect strategic value drivers whereas metrics may represent the measurement of any business activity. Hence, Kaplan and Norton distinguish two types of metrics; diagnostic metrics and strategic metrics. 48

Management of an organization can measure hundreds or maybe thousands of values to check the expected performance. Measures can also provide the need to intervene in business processes. However, these measures do not relate to the performance drivers of the competition in business. They visualize the necessary health factors which enable the organization to function. Therefore these measures have to be kept watched over as diagnostic metrics to notice divergence quickly. For example, the level of “Throughput Espresso” is an important operating ratio. But in common, it does not make or break the success and failure of the organization, so this metric can be identified as diagnostic. Hence, diagnostic metrics indicate if everything is under control and point out if uncommon events that need attention immediately occur. Strategic metrics are the key performance indicators which point out if strategy works and typically have four elements: 49

• Measurement • Goal

• Trend

• Visual indicator.

These elements can be identified within an example of a strategic measure; A “Customer Satisfaction” KPI may measure the percentage of customers who are satisfied or very satisfied. The goal may be 80 percent. Typically, KPI goals are multipart; 80 percent and above is considered “good”, 60 to 79 percent is “bad” and below 60 percent is “ugly”. This good, bad, ugly theme is common in KPI’s indicated by up, down or level trending

symbols. The indicator may be visualized as a traffic light or up/down arrows.

This example showed the four elements a good KPI typically should have. Besides these elements, KPI’s should also meet some behaviourally characteristics.

4.4. Characteristics

KPI’s have to satisfy some conditions and should have the elements that are discussed in § 4.3. However, there are many organizations which use these four elements, but have not got there yet and still have difficulty with KPI’s.

In theory, a lot is written about the attributes of KPI’s. Some of these theories overlap each other, but some organizations have other requirements for good KPI’s. The author of this thesis extracted the most important characteristics for effective KPI’s with respect to sense, use, accuracy, attainability, timeliness and availability of the indicators. These

47

K. Bauer, KPI’s: The metrics that drive Performance Management, DM Review Magazine, September 2004.

48

R.S. Kaplan, D.P. Norton, Strategy maps: Converting intangible assets into tangible outcomes, 2004

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characteristics will be used in the survey (see § 6.1. ) and meet the five aspects that test the characteristics of a good KPI. It is called the SMART test by McNeeny.50

Specific

The questions which have to be asked to test whether a KPI is specific or not are: “Does it have a clear definition? Is it straightforward to understand? Can it be easily generated without complex calculations?”

To avoid misinterpretation a KPI has to be clear and focused. Each KPI has to be defined once49 and at any given level within an organization no more than seven51 (plus or minus two) metrics are to be used. It is better to have a few good metrics than a longer list of lower quality. Hence the credo is “less is more”.

Kaplan and Norton asked themselves how many indicators one should be involved with. Each perspective of the balanced scorecard in § 4.2.1. needs seven measures more or less. This implies that the scorecard of an organization encompasses approximately 25 measures at maximum.

Measurable

The questions which have to be asked to test whether a KPI is measurable or not are: “Is it easy to measure? Do we have or can we collect the data required? Can it be

benchmarked against other teams or outside data? Can the measurement be defined in an unambiguous way?

The organization has to select metrics based on available data. This data should not be confused with targets and have to be easy to measure.51 When KPI’s are easy to measure it is clear what is measured and don’t loose their power to grab the attention of employees. To get easy to comprehend KPI’s52 and foster collaboration the organization has to base KPI’s on standard metrics and make them multidimensional. By standardizing KPI’s comparisons to internal and external entities are made possible, irrespective the size of

THE COMPANY.

Attainable/Available/Agreed to

The questions which have to be asked to test whether a KPI is achievable or not are: “Can the team responsible for it actually influence it? Does the team understand the drivers that are behind it? Can the team take steps to mitigate the impact of drivers beyond their control?”

KPI’s have to gain trust of end users.52 They have to contain valid, consistent data and attributes that are agreed by everyone in the organization. A good KPI should lead to positive action and generates improved performance. It is important to hold people accountable for how they perform.49 The cause and effect relationship should be clear for every employee.

Users should also assess their performance by applying thresholds, targets or benchmarks to the data. In that way KPI’s can indicate the direction of performance.

50

A. McNeeney, Selecting the right Key Performance Indicators, Maintenance Technology Magazine, April 2005

51

N. Rayner, Defining the right metrics for CPM, Gartner Business Intelligence Conference, London, February 1st, 2007.

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Realistic/Relevant

The questions which have to be asked to test whether a KPI is result oriented or not are: “Is it relevant to the business as a whole? Does it support the high level targets? Is it aligned with the business unit’s strategy and objectives? “

The metrics should focus on the executive and middle management levels. The

hierarchical and functional aspects of KPI’s have to fit into the organization. Executives define the value drivers which have to be converted into measurements. Lower

management has to understand these KPI’s which have to be in line with the short- and long-term direction of the organization. Because of the natural lifecycle of a KPI, they should be reviewed and revised continuously to stay relevant.52

Timely/Time-bound

The questions which have to be asked to test whether a KPI is timely or not are: “Can it be measured at a frequency that will allow the responsible people to solve problems within the reporting cycle? When will the KPI owner measure it?”

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Public version

Executive Summary

Preface

Table of Contents

1. Company profile

2. Problem Definition

3. Theoretical framework for Performance Management

4. Theoretical Framework for Key Performance Indicators