Key Performance Indicators (KPIs) – Part 1 of 2

What you can measure, you can manage.  Define the Critical Success Factors in your business and develop a meaningful set of Key Performance Indicators (KPIs) to monitor your performance.  Part one of a two part series.

Critical Success Factors

Every business, large or small, regardless of what it does, depends for its survival on getting certain things right on a regular basis. These things we call the Critical Success Factors.

These CSFs relate to the business processes and activities that really drive business results.
At the top level these are:

• Processes and activities that are important to acquiring and holding customers
• Processes and activities that determine revenue
• Processes and activities that impact on efficiency and productivity
• Processes and activities that determine team morale

To know how well your business is managing these CSFs, you need a system of measurement. In effect, Key Performance Indicators ARE these measures.  So it’s important to understand
how you can develop a set of KPIs that will allow you to monitor performance on these critical processes and activities.

What we’ll cover in this series:

• The most useful way of measuring business performance
• Deciding the right KPIs for your business
• How to construct a KPI that can be measured reliably and consistently
• Implementing KPI monitoring in your business
• Using KPI data to improve business performance

 The Uses Of Measurement

Let’s begin by considering, in general, just how measurement can be used in a business. I think numbers can be used in three ways. These are:

1. As straight measures of activity– 500 widgets produced this month, two employees left this year
2. To compare results, for instance this period’s result against last period’s – sales up 5% on same month last year and up 2% on year to date against last year
3. As an indicator of actual business performance against a preset goal (Actual results vs. Planned results) – how many sales we wanted this month and how many we actually have on the board

Now let’s consider each of these in terms of this particular definition of KPIs: KPIs are quantifiable measures of how well you are performing an activity
which is critical to the success of your business.

Measuring Activity

The first type of measure just records what happened – we produced 500 widgets. And sure, production level is a critical success factor. But measuring just for the sake of measuring doesn’t take us anywhere. If you tell me your reject rate on gizmo production is 5%, what am I to make of it? Is that good? Is it down on previous production runs? Or up? Is it better than the
guy down the road does? Is it heading towards the goal I set?

If you remember the definition of a KPI, we particularly emphasized the words ‘how well’.  Measurement can only tell us ‘how well’ when we have something to compare against. That’s where the second two ways of using measures come in.

Measuring To Compare And To Assess Goal Achievement

Measuring to determine goal achievement and to make comparisons to see how you stand
relative to others is really the only point of going to the effort of measuring. In these cases, you have set some goal to achieve, whether it is based on what you have achieved previously, or on an industry benchmark you want to match. In these cases you can use the information to assess how well you are doing in reaching a specific goal.

And depending on the figure, you’ll know if you need to fine tune your strategy or not. That’s the real point of keeping measures – to be able to monitor business performance and know where you could improve it. My point is, that before you decide to arbitrarily start measuring things, you should take a step back and think about what your goals are in each area – give
yourself a target to aim at.

We’ll return to this at the end of part two and suggest a way you can use KPI information in a reporting system that will help you continually improve your business performance, but for now, let’s return to just which measures, or KPIs, might be useful for you to track in your business.

Selecting KPIs To Monitor

There are literally hundreds of KPIs that could be used to track your business’ performance.

You may be familiar with some KPIs even though you haven’t thought of them as such. For instance, the value of production output per employee and your gross profit margin both measure some aspect critical to the success of your operations and can be considered as KPIs. But KPIs are not necessarily those things you measure in dollars. Many equally critical
activities, such as ensuring customer loyalty, can’t be measured in dollars and cents, so there are in fact many non-financial KPIs as well.

For example, thinking of the top level CSFs I mentioned, we could monitor these:

• For revenue generation – cash flow, revenue per employee or per product line, and profit margin
• For acquiring and holding customers – the number of customers, their satisfaction rating of your products, your market share
• For your team – the absentee rate, team turnover rate, your training budget
• For process efficiency – inventory turnover, wastage rate, on time delivery rate

And there are dozens of others I could have added. The key to effective measurement though, is to identify just a small number of KPIs, (say 6-8), that measure the really critical activities – and to watch them like a hawk.

So what would make a useful KPI in your situation? Some apply to almost all businesses, such as a number of financial ratios. But in deciding others that would be useful to your particular business, there are a number of things to consider. To be worthwhile monitoring, the KPI should have these characteristics:

• Reflect the goals of your business
• Be critical to the success of your business
• Be measurable
• Point to the activities you might need to alter if things start to go off track

Characteristic 1: KPIs Should Reflect The Business’ Goals

First, your business goals should determine what things you’ll look at to measure. Let me use an example.

A city mall cafe providing lunches to workers in the surrounding offices will need to serve its customers promptly and efficiently to meet its overheads and make a good profit. So they don’t encourage customers to linger.  Customer turnover is an important goal in their business plan.

However, a street front restaurant in the local shopping center may decide that high customer satisfaction will bring in the repeat and higher-spending customers it needs. In this case the goal is to encourage repeat business by eliminating any reason for customer complaint.

In each instance, the choice of KPI to monitor will need to reflect the goal of the particular establishment. To see what that KPI might be, we need to look at the critical success factors that would drive achievement of the goal.

Characteristic 2: KPIs Should Derive From Critical Success Factors

Continuing to look at the mall cafe example, where the critical success factor is customer
turnover rate, (because that’s what drives profitability in this business).  To measure that, the appropriate KPI would be number of customers per table per opening period.

On the other hand, for the more ‘relaxed dining’ establishment trying to encourage repeat business, the critical success factor is customer satisfaction, and a suitable KPI might be the number of customer complaints – which they hope to reduce to a bare minimum through
providing excellent service.

Note that in each case the KPI derived from the critical success factor particular to that business. And by the way, note that each of these businesses already had a clear business plan that dictated their business goals in the first place. It’s really important to know what your business is really about and where you want it to go before setting up KPIs – you may be
measuring irrelevant factors, ones that aren’t your real critical success factors at all.

Characteristic 3: KPIs Must Be Measurable

The third characteristic of a useful KPI is that it must be measurable. Sounds obvious, but there’s a bit more to it than meets the eye at first glance.

In fact, to get it right you ought to establish in writing
four things about each chosen KPI:

1. A name for it
2. A definition of what it involves
3. The actual method you will use to measure it
4. Your goal, or performance target for this KPI

See why that’s important – stay tuned for part two of this series.