The key performance indicator acronym (KPI) is used so much that it has come to be associated with any type of business measure. Everything is called a KPI, which distracts from its purpose as an important business tool. Not every measure is a KEY Performance Indicator, only those measures that are crucial to making a difference in the marketplace, your company health, and performance.
Because of this confusion around Key Performance Indicators, businesses often use the wrong measurements. Too often the organization uses KPI to measure discrete components and focuses on lagging indicators.
If the KPI does not help steer your company and plot course changes into the future, then it is not a true KPI.
A proper KPI is the following:
- KEY to your business health (lagging) or growth (leading),
- Focused on your PERFORMANCE in the marketplace,
- And an INDICATOR of your success in delivering customer value.
These analogies that I have provided align with the three key business value proposition areas of process, innovation, and customer focus. While the first two are more closely aligned to process and innovation, the last one is exclusively linked to the customer focus.
What Should a KPI or Key Performance Indicator Measure
A true KPI should represent an underlying business need that addresses your company’s position in the marketplace– not a single discrete process measure as so many businesses do today. The KPI should be directional in nature and provide guidance to broader business activities, but it is not a specific organizational performance measure. Rather, a good KPI is an index of several organizational performance measures or, more appropriately, several goals from various organizations and activities all rolled together.
Too Many Goals Are Called KPIs
Many commentators, consultants, and other professionals confuse Key Performance Indicators with more discrete goals and the metrics to support those goals. As you move further away from the top level of the KPI to address more discrete elements of operational performance, you are no longer looking at KPIs. Your company does not need a KPI for every metric. As mentioned before, the most effective KPI is an index of several metrics or several departmental goals, properly weighted to correctly address marketplace competitive pressures.
Key Performance Indicator Alignment
KPIs should align with one or more of the three value proposition areas of operational excellence, customer focus, or innovation. Underneath those KPIs, some of the specific goals, measures, or metrics to define top-level KPIs will fall into the area of competitive pressures. How well you execute against those competitive pressures to enhance your value proposition directly affects your position in the marketplace. The KPI index of various goals and measures provides a great underlying foundation for a solid ERP, SAP, or IT business case. These various goals and metrics, as well as the processes that support them, become a great foundation for your ERP, SAP, or IT business case. They are powerful for guiding IT spend and IT investment, as well as corporate direction.
The components of each of the areas of competitive pressure should focus on the three business drivers: cost, revenue, and profitability. These three areas should underlay each of the metrics that define your goals. The index of those goals and the weighting of each of those measures become the KPI or score for your business.
Key Performance Is All About Business
One way to determine if you have created an appropriate KPI is whether it is directed at your company’s value proposition (operational excellence, customer focus, or innovation), or if the KPI is focused on competitive pressures (vendor/customer power, competitors, or new products/services). You can build a solid Key Performance Indicator from an index of either of these elements. To develop skill with these measures, you may wish to define your goals first at the competitive pressure level. As time goes on and your comfort increases, you may begin to align them higher up into the value proposition area. Then, you can address each of the competitive pressures for each of the value proposition areas you wish to target.
I am a proponent of keeping the KPI at the highest level: your value proposition. In some companies however, especially businesses or industries that deal with commodities, your KPI indexes might be better aligned more directly at the landscape of competitive pressures. Either way, your value proposition and competitive pressures have a close relationship, so either will work.
KPI, Value Proposition, Competitive Pressures, and Business Goal Alignment
It is not easy! If defining KPI’s were easy, the whole area of strategy and KPI alignment would just be another commodity. As another commodity, it would not produce results your business needs to win in the marketplace. But while it’s not easy, it is possible. Like all things that take a measure of skill, the more you practice it and the more diligent you are, the better you get and the easier the exercise becomes.
To answer your question about KPIs and commodity based companies, I do think they can help. However, commodities are more difficult to gain any kind of large gains. But KPI measures can be used to drive market behavior (acquiring new customers, etc.). Although the Oil and Gas space is fairly mature from a business perspective there are still possibilities.
One area that O&G has not done a lot with recently is in the area of creating new or novel applications for their products. So one of the metrics for a KPI could be new patents or newly created market segments. In other words, look at the periphery around the commodity to see where opportunities might exist.
As for academic literature on KPIs I’m sure I have some but not handy…
Hi Bill,
thanks for your post on KPI’s. I found it very interesting especially as I am writing an MBA project on the topic. My question is…do you think that KPI’s when used accurately will help the commodities industries (oil and gas…eg Vitol, Shell, BP, Glencore) to become more efficient and profitable? or should they employ other metrics and framework in order to formulate and implement strategies.
Which academic literatures support your above posts?
Thanks and I am looking forward to hearing from you.