Hi,
Organizations are gaining experience with analytical management tools developed in the late '80s and early '90s. Activity-based costing, process management, and benchmark performance measurement provide the basis for the integration of information into planning and management control systems. This is made possible today by the advancing technology of computers and communications. However, people have been measuring performance for as long as they have striven to accomplish new goals.
Management accountants, specifically, have had the responsibility for tracking the definitive measurement by which the performance of senior managers is ultimately judged and compensation awarded—money. Accordingly, our profession has focused almost exclusively on financial measures. For years, management accountants have worked with the expectation that people in other organizational functions are both knowledgeable about their work and also fully understand how they contribute to the strategic direction of the organization. Generally, it was reasonable for us to assume that functions act in the best interests of the organization to meet financial goals. It turns out, however, that this assumption was highly optimistic.
In reality, most functions act in a way that is limited by the scope of their specialization. In other words, although sales, marketing, and other operational functions may be very good at what they do, most functions possess only a general understanding of how they contribute to the overall organizational goals, and frequently they tend to maximize performance around their goals. Functional goals are often influenced by the personal agendas of the function's senior managers, while individual employees just do their job, thus sub-optimizing the organization's performance overall. Take a moment to reflect before you read on and ask yourself if this is true in your organization.
With today's focus on competing aggressively for market share, satisfying customers, ensuring quality, and maintaining healthy relationships with employees, regulators, and suppliers, managing performance requires a lot of information. Furthermore, that information must be designed and distributed to people in a way that will influence the best possible behavior. Managing performance is, therefore, highly dependent on the availability of a well-designed performance measurement system that provides a clear linkage between strategy and human behavior.
Most organizations have conducted business with managers located in functional structures where layers of people concern themselves with measurements of functional performance. Over the past 10 years, most organizations have removed those layers of management and have placed more emphasis on individual performance. In an environment with fewer managers, functional organizational structures exist to coordinate individuals with a shared-activity orientation (skill base) to supply resources and activities to cross-functional processes. Processes are the sequence of cross-functional activities performed by people and machines that combine valuable resources to convert inputs into outputs. It is processes that provide the linkage between organizational level goals and the work performed by people.
Processes can be measured effectively. Measurements may be applied to many aspects and attributes of processes, and the critical few are time, quality, cost (financial), and scale. These measures act hierarchically within all organizations at three levels of performance: at the organizational level, at the process level, and at the individual level. This combination of measuring different attributes of the organization within a hierarchical structure is called an integrated performance measurement framework (PMF). The most important aspect of this for management accountants is that performance in all dimensions and functions can be directly traced to financial goals and results, and vice versa. Therefore, if the purpose of all commercial organizations is to increase wealth, the establishment of a tightly integrated PMF is highly desirable.
Measurement in the process-driven organization
Organizational level measures
Measurement of economic profit using shareholder value-added (SVA), or such derivatives as economic value-added (EVA), and market value-added (MVA), establishes a single top-level goal for organizational performance. Central to this measure is the generation of economic profit (i.e., those profits generated after taking into account revenue, operating costs, and an assumed cost of capital invested). In commercial enterprises, economic profit is used as the ultimate performance measurement against which all activities are evaluated to assist in decision making among competing alternatives, to measure the performance of all existing operations, and executive compensation. The high-level measurement would be different for non-commercial organizations, but all other aspects of the PMF apply equally.
Management's goals are to achieve, through operational activities, certain levels of increase in shareholder value. These must be planned and executed through the translation of strategic direction and goals into operational actions, at the business unit, process, and individual levels. Through this approach, management starts to align organizational activity and resource allocation with strategic goals.
Increases in profit are generated by the effective and efficient use of operating resources at any level of revenue. If management has established cost reduction as an operational goal for the business units, then the implementation of this goal must be defined and measured. This will assure the achievement of the organization's improvement goals. The key is: who is going to do what, by when, to make this happen? This is where traditional planning and operational deployment begin to fall apart.
An integrated performance measures framework (or system) establishes direct linkages between the top-level measures (such as SVA) and the cascade of action plans throughout the entire organization. These collectively add up to the achievement of the established goals. Individual performance and team activities can then be measured and compensated based on their ability to achieve the part of the overall plan that links with and supports their business unit objectives.
Establishing a measurement system, based on economic profit alone, is not adequate for organizational direction. An integrated performance measurement framework also encompasses those actions that are undertaken to achieve the needs of other stakeholders such as customers, employees, suppliers, alliance partners, and regulators. These actions would complement the SVA goal but require different operational measures. For example, actions to develop and launch a new product being demanded by customers may be a key operational goal through which revenue growth is achieved. Factors that may be critical to achieving market penetration and overall success might be; a high level of customer satisfaction in the new product and an on-time achievement of the development process. In this situation, both activities should be measured.
Customer measures and employee measures are keys to driving financial performance and should be incorporated into the measurement framework. For example, changes in work methods (e.g., the adoption of a new team approach) will require support and commitment by the employees. This is a measurable goal that should be incorporated as a driver in achieving the anticipated reductions in operating costs through improved work methods. In summary, total organizational level measures are established around both the needs of stakeholders and strategic goals, which are often described as critical success factors. These high-level goals are referred to as organizational level measures (M0) in our framework.
Process measures
Performance of the organization is completely dependent on the performances of its processes. In fact, in any organization, its performance is equal to the sum of the performance of its processes. Processes are measured as a complete structure, e.g., the repair process produces 2,000 complete repair procedures, each within five hours of the customer call, at a total cost of $2 million a year while 99.5 percent of customers are completely satisfied with the entire interaction with our organization. These high-level process measures are referred to as level one measures (M1).
Processes are decomposed into sub-processes, with similar measures that contribute to level one performance. Sub-process measures are referred to as level two measures (M2). The sum of the M2s equals the M1s. For example, the repair process—dispatch call sub-process—handles 2,500 phone calls a year, dispatches 2,000 service procedures within 15 minutes of receipt of each call, picks up 95 percent of customer calls on the first ring, satisfies customers with the personal interactions 95 percent of the time, and incurs a total sub-process cost of $250,000 a year. As you examine these sub-process measures, it is possible to see how individual people fit in, e.g., their performance and their cost.
Implementation steps
* Complete stakeholder, strategic, and operational needs analysis and goal identification addressed in terms of the critical dimensions; time, quality, and cost.
* Implement activity-based costing and activity-based budgeting applications to define activity and cost driver relationships. This will yield an understanding of profitability by product (service) and cost of activities, transactions, and processes as well as the cost of quality.
* Develop a structured benchmarking methodology and access to qualified benchmarking partners in order to establish realistic goals.
* Identify organizational and strategic outputs. Develop measures and goals for each critical attribute based on stakeholder requirements and strategic/operational imperatives.
* Analyze significant processes, their outputs and attributes that are needed to support process performance requirements. Develop and align measures and goals for each process.
* Break out process steps, their outputs and measurement attributes that are needed to support sub-process performance. Develop aligned measures and goals.
* Identify function output by process step and trace to individual role/responsibility. Within each function, develop a supportive human performance system for key individuals in the organization.
* Review the existing compensation and reward system and recommend an approach for alignment with new performance measurements.
* Senior managers assigned as process owners with a clear mandate and accountability for all aspects of performance of their process.
Performance management -- operational PMF
The goal of performance measurement frameworks is to provide an information infrastructure to motivate and encourage the organization to move closer to attaining its strategic goals. In the past, performance feedback has been cumbersome due to the paper and perceptual methods employed by most organizations. Today, things are changing because data can be easily captured from the computer databases that record every transaction of our organizational processes.
A feature of PMF is the use of software tools to extract, organize, communicate, and display performance immediately and comprehensively. With the software tools available—data repositories, modeling databases, and presentation systems—managers can expect workers to have entered commentary on performance variances and trends into the database before the managers review the results. The role of staff groups changes because they are no longer needed to filter information as this type of technology facilitates direct communication between workers and management.
Having these capabilities changes the way in which organizations function. Managers have more