It is not by chance when accessing the famous search engine “google”, “key performance indicators “query has over 28,600,000 references displayed in less than 0.28 seconds. Performance indicators or Key performance indicators (KPI) have different understandings and are interpreted differently by users. To set the correct expectations regarding performance indicators, a first discussion about the link between goal-performance indicator-information-indicator is a must.
Goal – formalizes company goals with regard to quantitative performance in all its possible expressions (profit, turnover, market, liquidity, sales, costs, contracts, etc.) or qualitative performance – necessary behaviors for reaching performance. The objective is either of strategic nature (formulated as the strategic goal no. 1), or most often set to perform strategic objective, at the level of annual policy. The expression of these quantitative and qualitative targets is indeed made through key performance indicators in different ways.
Performance indicators are generically defined as measurements by which the leadership, management and investors can evaluate business performance over the medium and long term and ensure comparability between different industries, in dynamics.
Indicators are usually a result in time evolution, suggesting a dynamic against a reference base, with or without a strategic purpose.
Not everything that can be measured is a performance indicator. There is information (eg. number invoices, number rejection, number employees etc.) that should not necessarily be considered as indicators of performance, and that serve sometimes only as quantification of a given situation, without comparative purpose or prediction.
Therefore, a selection of KPI (key performance indicators) is necessary, as those indicators that:
K = provides competitive advantage, linked to strategic objectives, related to the operation of the business unit directly
P = are linked directly to performance, clearly measured, quantified, with predetermined causes of influence
I = ensure comparability towards various references, oriented to future corrections and does not explain historical events
Key performance Indicators answer various questions: Where are we? Where do we want to go?, How do we do this?, They provide information on the current stage, market comparisons, future target.
Which are the first five KPI used by companies? Why?
It would be more appropriate to discuss on the main performance indicators instead of key performance indicators.
There is no universal answer to this question. Usually, the performance indicators are to be found in measuring three elements: activity, profitability and productivity.
Measuring productivity means interrelation between two sets of data; it measures the way in which one of the sets of data varies towards the other. (input vs. output). Example: material consumption at 1000 kg of finished product, the number of employees involved in a service, the number of products per an hour.
Measuring the activity shows how a value has changed versus a previous base. Example: material consumption per 1000 kg this year, as compared to previous year, number of finished products made during the period n + 1 as compared to the period n. Etc. Number of sale contracts signed during the period n + 1 as compared to period n; turnover in the period n + 1 as compared to period n, etc.
Measuring profitability shows to what extent the original value produces an expected result. For example: Net profit ratio to invested capital, marginal profit, profit to turnover, operational cost to the turnover.
Performance indicators can be: strategic indicators, providing information to the company’s management (profit to invested capital, risk vs. opportunity, profit to the assets used, turnover, market share, price actions, employee satisfaction and customer satisfaction), managing indicators, providing information to the management (resource availability, planning vs. effort, cost vs. budget), or operational indicators, providing information about individual performances (in relation with processes , activities, products, specifications, procedures, efficiency).
Choosing relevant KPI for a company takes into account numerous factors: strategic objectives (turnover, profit, costs for intensive and extensive development), timing activity (long term oriented or quick win – immediate profit), company profile (services, production, distribution), current situation on the curve of company development (growth, maturity, decline), including management style in company.
For example, according to James Henderson study (professor, Strategic Management IMD Laussane), growing companies will search mostly for key performance indicators in relation to growing of the turnover, the degree of penetration into new markets, number of active clients, developing of sales and distribution channels, employee development. Growing companies will steer the set of key performance indicators in the area of profit on invested capital, on operating and marginal profit, of economic added value. Finally, mature organizations will focus on indicators related to cash flow, the ability of paying, investment and outgoing, organic growth.
Last but not least, important steps for choosing the right performance indicators (generic and/or key) represent:
a) Clarifying the expected result: change/relative change/no change, which affects directly the expected result, value, time, analysis, participants
b) Listing prospective indicators and unanimous selection (commission, compared to other companies)
c) Evaluation of every indicator, based on multiple criteria (directly influence report with expected result, adequate set in number and indicators)
d) Selecting the best indicators in cost/efficiency report vs. reliability of information
How should an organization use KPI?
The answer is simple: First of all, a proper setting is necessary, according to the principles of KPI, mentioned above. It is necessary that indicators should be rooted in dynamics and typology of the company, as well as much judgment in monitoring and control. Last but not least it is necessary that these performance indicators should be illustrated faithfully by the company objectives cascaded till the last level and expressed in operational indicators to follow in each department/function/employee. Otherwise, the set of indicators will be an awesome picture, hardly accessible and intelligible organization-wise, a memorable photo, but completely non-functional.