North America

You Cannot Manage What You Don’t Measure

Measure
May 23, 2012

Written by: Peter Hobb

Ratios or key performance indicators are used to measure key business activities so you can tell whether the business is heading in the direction you had planned.   

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When you start a business you may be able to manage the business effectively by taking control of everything the business does.  As the business grows however, this becomes a very ineffective way of managing.  There are not enough hours in the day to do everything that needs to be done to continue successfully growing the business.  The growth of the business is restricted to what you, as the owner, are capable of doing.  This is not healthy for the business or for the owner.  You need to delegate responsibility and control and think more strategically.  However, you need to know that the responsibilities you have delegated are being done in a manner that will successfully grow the business.  You also need good information to make the correct strategic decisions.  The use of key performance indicators will help you do this.

Key performance indicators can track your company’s daily inputs, outputs and activities, such as the average sale value for each customer, sales leads, conversion ratio of sales leads to sales, and inventory turnover.  What you measure depends on what the key drivers are for your business.  What does your business have to do absolutely correctly to ensure its success?  On the other hand if you are trying to measure too much there is a danger that you will spend time focusing on areas which are not as important to your business’ success, therefore, you will not achieve your objectives.  It is likely best that you use eight or less key performance indicators.

Understanding your business model is important when developing your key performance indicators. What products or services do you sell, who buys them, why do they buy them, and how do you make a profit on the transaction.   The two most important aspects of your business model is why do people buy from you and how do you make a profit from the transaction.   If excellent customer service is key to your success, you may want to measure customer satisfaction (this can be done by periodic customer surveys); the number of customer complaints compared to the number of items sold or predetermined goals or history, or the number and percentage of customer complaints that are resolved satisfactorily.   If product quality is important you may want to measure product defect rate, percentage of no-damage shipments to all shipments, warranty costs or order processing time.  Cash flow is important for all businesses.  Measuring the average number of days to collect accounts receivable, the number of days you take to pay your accounts payable, and the number of times your inventory turns in a year can all help you determine whether changes are necessary to improve cash flow management.

If you are not measuring you are not managing.  You are steering your business based on gut feel and hope.  This is not a recipe for long term success.  The primary purpose of key performance indicators is to give you information about your business that will help you make the best decisions about how to run it.  Additional benefits include helping your team understand what is important to the business’ success which will help ensure your employees are working together to make your business successful.  For example, setting up a system for recording customer complaints and the reasons for them immediately focuses your team’s attention on improving customer service.  The use of key performance indicators also helps to break business objectives or goals down into smaller more manageable parts.  You can set milestones or short-term targets that will be less overwhelming than the objective itself.  As the team successfully completes each short-term target the project picks up momentum and the chances for success increase.

Using key performance indicators helps you be proactive in identifying problems or potential problems before they become bigger problems and threaten the success of your business.  While it is important to measure activities it is just as important to take action based on the information you are receiving if it is required.  You need a system to ensure that you take action based on what your key performance indicators are telling you.  You also need to continually assess the usefulness of the key performance indicators you are using.  If the information is no longer useful stop gathering it.  As we all know no business remains static.  The environment is always changing and you need to change with it.  The use of key performance indicators helps you stay in front.

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Peter Hobb is a Principal of ROCG Toronto, an international professional service and consulting firm with offices throughout North America, Europe and the Asia Pacific region. ROCG is the only international firm specializing in the areas of business transition strategy, finance and operations for privately owned and emerging growth enterprises. He can be reached at peter.hobb@rocg.com.