Performance indicators

Performance

This can be defined as:

‘A task or operation seen in terms of how successfully it is performed’

(www.Oxforddictionaries.com).

Organisations differ greatly in which aspects of their behaviour and results constitute good
performance. For example their aim could be to make profits, to increase the share price, to
cure patients in a hospital, or to clear household rubbish. The concept of ‘performance’ is
very relevant to both P3 and P5. P3 looks at how organisations can make decisions that
improve their strategic performance and, of course, P5 is called ‘Advanced Performance
Management’ and is focused on how organisations evaluate their performance.

The primary required tasks are often found in the organisation’s mission statement as it is
there that the organisation’s purpose should be defined. These are called ‘primary required
tasks’ because although the primary task of a profit-seeking business is to make profits, this
rests on other subsidiary tasks such as good design, low cost per unit, quality, flexibility,
successful marketing and so on. Many of these are non-financial achievements.

Some aspects of performance are ‘nice to have’ but others will be critical success factors. For
example, the standard of an airline’s meals and entertainment systems will rank after
punctuality, reliability and safety, all of which are likely to be critical to the airline’s success.

Objectives

Objectives are simply targets that an organisation sets out to achieve. They are elements of
the mission that have been quantified and are the basis for deciding appropriate performance
measures and indicators. There is little point measuring something if you do not know
whether the result is satisfactory and cannot decide if performance needs to
change. Organisations will create a hierarchy of objectives which will include corporate
objectives which affect the organisation as a whole and unit objectives which will affect
individual business units within the organisation. Even here objectives will be categorised as
primary and secondary, for example an organisation might set itself a primary objective of
growth in profits but will then need to develop strategies to ensure this primary objective is
achieved. This is where secondary objectives are needed, for example to improve product
quality or to make more efficient use of resources.

Objectives often follow the SMART rule. They should be:

Specific: there is little point in setting an objective for a company to improve its inventory.
What does that mean? It could mean that stock-outs should be less frequent, or average stock
holdings should be lower, or the inventory will be held in better conditions to reduce wastage.

Measurable: if you can’t measure something you will be at a loss as to how to control it.
Some aspects of performance might be difficult to measure, but efforts must be made.
Customer satisfaction is important to most businesses and indications could be obtained by
arranging customer surveys, repeat business and so on.
Achievable/agreed/accepted: objectives are achieved by people and those people must accept
and agree that the objectives are achievable and important.

Relevant: relevant to the organisation and the person to whom the objectives are given. It is
important that people understand how achieving an objective will help organisational success.
If this connection isn’t clear, employees will begin to feel that the objective is simply a
cynical exercise of management power. The person to whom the objective is given must also
feel that they can affect its achievement.

Time-limited: all objectives have to be achieved within a specified time period otherwise
procrastination will rule.

Critical success factors

A critical success factor (CSF) can be defined as:

‘An area where an organisation must perform well if it is to succeed.’

Alternatively, Johnson, Scholes & Whittington defined CSFs as:

'Those product features that are particularly valued by a group of customers, and, therefore,
where the organisation must excel to outperform the competition.’

This definition is more complex than the first, but it is more useful because it makes the
organisation look towards its customers (or users) and recognises that their opinion of
excellence is more important and reliable than internally generated opinions. If an
organisation doesn’t deliver what its customers, clients, patients, citizens or students value, it
is failing.

Performance indicators and key performance indicators

Performance indicators (or performance measures) are methods used to assess performance.
For example:

In profit-seeking organisations:

 Profit
 Earnings per share
 Return on capital employed

In not-for-profit organisations:

 Exam grades (a school)

 Waiting times for hospital admission (a health service)
 Condition of roads (a local government highways department)

Particularly in profit-seeking organisations, the prime financial performance indicators allow

performance to be measured but they say little about how that performance has been
achieved. So, high profits will depend on a combination of good sales volumes, adequate
prices and sufficiently low costs. If high profits can only be achieved by a satisfactory
combination of volume, price and cost, then those factors should be measured also and will
need to be compared to standards and budgets.

Similar effects are found in not-for-profit organisations. For example, in a school, a CSF
might be that a pupil leaves with good standards of literacy. But that might depend on pupil-
teacher ratios, pupils’ attendance and the experience of the teachers. If these factors
contribute to good performance, they need to be measured and monitored.

Just as CSFs are more important than other aspects of performance, not all performance
indicators are created equal. The performance indicators that measure the most important
aspects of performance are the key performance indicators (KPIs). To a large extent, KPIs
measure how well CSFs are achieved; other performance indicators measure how well other
aspects of performance are achieved

There are a number of potential pitfalls in the design of performance indicators and
measurement systems:

 Not enough performance measures are set

Often, directors and employees will be judged on the results of performance
measures. It has been said that ‘Whatever gets measured gets done’ and employees
will tend to concentrate on achieving the required performance where it is measured.
The corollary is that ‘Whatever doesn't get measured doesn't get done’ and the danger
is that employees will ignore areas of behaviour and performance which are not
assessed.
 Too many performance indicators
This occurs especially where performance measures are not ranked by importance and
none have been identified as KPIs. Performance indicators have to be measured,
calculated and reported to management, and discrepancies must be explained or
excuses invented. Too many measures can divert time from more important tasks and
there is a danger that employees concentrate on the easier but more trivial measures
than on the more difficult but vital targets.
 The wrong performance measures
An example of this would be applying strict cost measures in an organisation where
luxury products and services are sold (a differentiation strategy). This is likely to
detract from the organisation’s strategic success.
 Too tight/too loose performance measures
Performance indicators that are too difficult to attain can lead to a loss of employee
motivation and promote dysfunctional behaviours such as gaming and the
misrepresentation of data. Performance measures that are too loose can pull down
performance. Benchmarking can help to avoid this. Internal benchmarking generally
sets measures based on previous period’s measures or set measures with respect to
other branches or divisions. However these internal benchmarks can lead to
complacency as many organisations have to compete with others and benchmarks
should be aligned to competitors’ performance.
 ‘Hit and run’ performance indicators
This means that a performance indicator is set and then it is assumed that things will
look after themselves. Performance indicators need a management framework they
are to be at all effective.
Performance measures – a practical framework

Expanding on the last point, above, to establish a performance measurement system,

something like the following is needed for each measure:

1. A meaningful title of the measure

2. What is its purpose and how does that purpose relate to strategic success?
3. What other performance measures might be affected by this one, how are they
affected and how are conflicts to be resolved?
4. Who will be held responsible for it?
5. What is the source data, who is responsible for its supply, how is it measured and how
is the measure calculated?
6. What investigations and explanations are required and who is responsible?
7. What target is set and how has that target been determined?
8. How often should the target be updated?
9. How often is the measure reported on?
10. Reporting and action?

For example, consider a passenger train company called TTTE:

1. Title of performance measure Punctuality (the percentage of trains arriving at their

destination on time).
2. Purpose of performance TTTE’s strategic objective is to provide comfortable,
measure reliable and punctual services to passengers. TTTE
competes with other train companies, cars, buses and
airlines. Punctuality is seen as a key competitive lever and
therefore must be measured.
3. Other performance measures Safety – safety checks and speed limits will take priority
affected over punctuality

Cleanliness – it might be necessary to occasionally reduce

cleaning to keep to the timetable.

Energy consumption running a train faster than normal

(though within speed limits) will cause higher fuel
consumption but punctuality takes precedence.
4. Who is held responsible? Operations director.
5. Source data, measurement The duty manager at each station is responsible for logging
and calculation of the measure. the arrivals time of each train. A five-minute margin is
allowed ie a train is logged ‘on time’ if it is no later than 5
minutes after the advertised time. Beyond five minutes the
actual time by which the train is late is logged. Results will
be calculated in percentage bands: on time, up to 15 minutes
late, >15–30 minutes late, >30 minutes – one hour late,
>one hour late, and so on.
6. Investigations and While logging late arrivals, station duty managers should
explanations also note the cause where possible. The operations director
must collate this information using statistical analysis which
 highlights persistent problems such as particular times of
the day, routes or days of the week.
7. Target and how it is The target is dictated by the railway timetable. The
determined timetable should be reviewed twice a year to look for ways
of reducing journey times to keep TTTE competitive with
improvements in competing transport.
8. Update of target The banding and any tolerances will be updated annually.
9. How often should the Weekly
measure be reported
10. Reporting and action The operations director will report performance on a
monthly basis to the board together with plans for service
improvement.

(Adapted from www.institute.nhs.uk/quality_and_service_improvement_tools/

quality_and_service_improvement_tools/performance_measures_sheet.html)

Use of performance indicators in the P3 and P5 syllabuses

Performance indicators are relevant to the following models and theories:

Mission statements: these define the important aspects of performance that sum up the
purpose of the organisation. See the article ‘Reports for performance management’ (see
'Related links').

Stakeholder analysis: recognises that different stakeholders have different views on what
constitutes good performance. Sometimes what stakeholders want is different to what the
mission statement suggests as the purpose of the organisation. This can be a particular
problem when the stakeholders are key-players.

Generic strategies: the main generic strategies to achieve competitive advantage are cost
leadership and differentiation. If a company’s success depends on being a cost leader (a CSF)
then it must carefully monitor all its costs to achieve the leadership position. The company
will therefore make use of performance indicators relating to cost and efficiency. If a
company that has chosen differentiation as its path to success then it must ensure that it is
offering enhanced products and services and must establish measures of these.

Value chain: a value chain sets out an organisation’s activities and enquires as to how the
organisation can make profits: where is value added? For example, value might be added by
promising fantastic quality. If so, that would be a CSF and a key performance indicator
would the rate occurrence of bad units.

Boston consulting group grid: this model uses relative market share and market growth to
suggest what should be done with products or subsidiaries. In P3 if a company identifies a
product as a ‘problem child’ BCG says that the appropriate action for the company is either to
divest itself of that product or to invest to grow the product towards a ‘star’ position on the
grid. This requires money to be spent on promotion, product enhancement, especially
attractive pricing and perhaps investment in new, efficient equipment. In P5 the model would
be used to establish how to manage the performance of the products and what measures
should be used depending on their position in the grid. For example, good performance for a
star would be measured by market share growth rather than profits. Return on investment
could be low until full use is made of the new equipment. Once a product reaches its ‘cash
cow’ stage performance measures will focus on revenues, costs and profits
PESTEL and Porter’s five forces: both the macro-environment and competitive
environment change continuously. Organisations have to keep these under review and react
to the changes so that performance is sustained or improved. For example, if laws were
introduced which stated that suppliers should be paid within a maximum of 60 days, then a
performance measure will be needed to encourage and monitor the attainment of this target.

Product life cycle: different performance measures are required at different stages of the life
cycle. In the early days of a product’s life, it is important to reach a successful growth
trajectory and to stay ahead of would-be copycats. At the maturity stage, where there is great
competition and the market is no longer growing, performance will depend on low costs per
unit and maintaining market share to enjoy economies of scale.

Company structure: different structures inevitably affect both performance and its
management. For example as businesses become larger many choose a divisionalised
structure to allow specialisation in different parts of the business: manufacturing/selling,
European market/Asian market/North American market, product type A/product type B.
Divisional performance measures, such as return on investment and residual income, then
become relevant

Information technology (IT): new technologies will influence performance and could help
to more effectively measure performance. However, remember that sophisticated new
technology does not guarantee better performance as costs can easily outweigh benefits. If IT
is vital to a business then downtime and query response time become relevant as might a
measure of system usability.

Human resource management: what type of people should be recruited, and how are they
to be motivated, appraised and rewarded to maximise the chance of good organisational
performance? Performance measures are needed, for example, to monitor the effectiveness of
training, job performance, job satisfaction, recruitment and retention. In addition,
considerable effort has to be given to considering how employees’ remuneration should be
linked to performance.
Fitzgerald and Moon building blocks
Section E(1) of the P5 study guide mentions three specific approaches or models:

 Balanced scorecard
 Performance pyramid
 Fitzgerald’s and Moon’s building blocks

The balanced scorecard approach is probably the best known but all seek to ensure that the
net is thrown wide when designing performance measures for organisations so that factors
such as quality, innovation, flexibility, stakeholder performance, and delivery and cycle time
are listed as being important aspects of performance. Whenever an aspect of performance is
important then a performance measure should be designed and used.

The Fitzgerald and Moon model is worth a specific mention here as it is the only model
which explicitly links performance measures to the individuals responsible for the
performance.

The model first sets out the dimensions (split into results and determinants) where key
performance indicators should be established. You will see there is a mix of financial and
non-financial, and both quantitative and qualitative:

 Results
 Financial performance
 Competitive performance
 Determinants
 Quality
 Flexibility
 Resource utilisation
 Innovation

The model then suggests standards for KPIs:

 Ownership: refers to the idea that KPIs will be taken more seriously if staff have a say
in setting targets. Staff will be more committed and will better understand why that
KPI is needed.
 Achievability: if KPIs are frequently and obviously not achievable then motivation is
harmed. Why would staff put in extra effort to try to achieve a target (and bonus) if
they believe failure is inevitable.
 Fairness: everyone should be set similarly challenging objectives and it is essential
that allowance should be made for uncontrollable events. Managers should not be
penalised for events that are completely outside everyone’s control (for example, a
natural disaster) or which is someone else’s fault.

The model then suggests how employee rewards should be set up to encourage employees to
achieve the KPI targets:

 Clarity: exactly how does performance translate into a reward?

 Motivation: the reward must be both desirable and must be perceived as achievable if
it is to be motivating.
 Controllable: achievement of the KPI giving rise to the reward should be something
the manager can influence and control.