Read The Balanced Scorecard: Translating Strategy Into Action Online
Authors: Robert S. Kaplan,David P. Norton
Tags: #Non-Fiction, #Business
The Balanced Scorecard: Translating Strategy Into Action (6 page)
A good Balanced Scorecard should also have a mix of outcome measures and performance drivers. Outcome measures without performance drivers do not communicate how the outcomes are to be achieved. They also do not provide an early indication about whether the strategy is being implemented successfully. Conversely, performance drivers—such as cycle
times and part-per-million (PPM) defect rates—without outcome measures may enable the business unit to achieve short-term operational improvements, but will fail to reveal whether the operational improvements have been translated into expanded business with existing and new customers, and, eventually, to enhanced financial performance. A good Balanced Scorecard should have an appropriate mix of outcomes (lagging indicators) and performance drivers (leading indicators) of the business unit’s strategy.
Chapter 7
elaborates further on the theme that the Balanced Scorecard is not merely a collection of financial and nonfinancial measurements. The scorecard should be the translation of the business unit’s strategy into a linked set of measures that define both the long-term strategic objectives, as well as the mechanisms for achieving those objectives.
Is the financial objective component in a Balanced Scorecard even relevant for driving the long-term performance of the organization? As noted, some critics see many business managers’ short-term orientation arising from and inherent in attempting to achieve financial targets for measures like return-on-capital-employed, earnings-per-share, or even current share price. Several critics have advocated scrapping financial measures entirely to measure business unit performance. They argue that in today’s technologically and customer-driven global competition, financial measures provide poor guidelines for success. They urge managers to focus on improving customer satisfaction, quality, cycle times, and employee skills and motivation. According to this theory, as companies make fundamental improvements in their operations, the financial numbers will take care of themselves.
Not all companies are able to translate improvements in quality and customer satisfaction into bottom-line financial results. Take the example of one electronics company, which, during the 1987–1990 period, had made remarkable improvements in its quality and on-time delivery performance. Outgoing defect rates dropped by a factor of 10, yields doubled, and missed delivery dates dropped from 30% to 4%. Yet these breakthrough improvements in quality, productivity, and customer service failed to deliver financial benefits. During the same three-year period, this former growth company produced flat financial performance, and disappointed shareholders saw the company’s stock price drop by 70%.
But what about improvements in customer satisfaction, say from delivering zero-defect orders with perfect on-time delivery? If customers’ sales are flat or declining, they may not be able to reward their better suppliers with increased business. The company described above was already the number one supplier to many of its customers. Customers may wish to retain one or two backup suppliers so that they are not completely dependent upon a single supplier. If customers are not able or willing to give increased business to a supplier, and if the supplier is reluctant to lay off employees (not unreasonable, since the employees were the source of the improvements in quality, productivity, and customer service), the operational improvements are not easily translated into higher profitability. Improved financial results are not an automatic outcome of operational improvement programs to improve quality and reduce cycle times.
Periodic financial statements and financial measures must continue to play an essential role in reminding executives that improved quality, response times, productivity, and new products are means to an end, not the end itself. Such improvements only benefit a company when they can be translated into improved sales, reduced operating expenses, or higher asset utilization. Not all long-term strategies are profitable strategies. IBM, Digital Equipment Corporation, and General Motors in the 1980s did not lack for long-term visions. These companies made huge investments in advanced manufacturing technologies, quality, and research and development. But their guiding vision and business model for success differed from what their markets were now rewarding. They did not recognize early enough
that the failure of their financial measures to respond to their investment strategy was a powerful signal that they should reexamine the basic assumptions of their strategy. A failure to convert improved operational performance into improved financial performance should send executives back to the drawing board to rethink the company’s strategy or its implementation plans.
Companies with greatly improved operating performance must identify how to increase sales to existing customers, how to market new products with attractive capabilities, and how to market the company’s products and services to entirely new customers and market segments. Such new segments, previously inaccessible to a company, could become valued customers because of a company’s improved capabilities in lower cost, superior performance, and higher quality, delivery, and customer service.
A comprehensive system of measurement and management must specify how improvements in operations, customer service, and new products and services link to improved financial performance, through higher sales, greater operating margins, faster asset turnover, and reduced operating expenses. The Balanced Scorecard must retain a strong emphasis on financial outcomes. Ultimately, causal paths from all the measures on a scorecard should be linked to financial objectives. The scorecard obtains the benefits from keeping financial measurements as ultimate outcomes, without the myopia and distortions that come from an exclusive focus on improving short-term financial measures.
The four perspectives of the Balanced Scorecard have been found to be robust across a wide variety of companies and industries. But the four perspectives should be considered a template, not a strait jacket. No mathematical theorem exists that four perspectives are both necessary and sufficient. We have yet to see companies using fewer than these four perspectives, but, depending on industry circumstances and a business unit’s strategy, one or more additional perspectives may be needed. For example, some people have expressed concern that although the Balanced Scorecard explicitly recognizes the interests of shareholders and customers, it does not explicitly incorporate the interests of other important stakeholders, such as employees, suppliers, and the community. The employee perspective is certainly incorporated in virtually all scorecards within the learning and
growth perspective. Similarly, if strong supplier relationships are part of the strategy leading to breakthrough customer and/or financial performance, the outcome and performance driver measures for supplier relationships should be incorporated within the organization’s internal-business-process perspective. But we don’t think that all stakeholders are automatically entitled to a position on a business unit’s scorecard. The scorecard outcomes and performance drivers should measure those factors that create competitive advantage and breakthroughs for an organization.
Take the example of a chemicals company that wished to create an entirely new perspective to reflect environmental considerations. We challenged them:
Keeping the environment clean is important. Companies must comply with laws and regulations, but such compliance doesn’t seem to be the basis for competitive advantage.
The CEO and other senior executives responded immediately:
We don’t agree. Our franchise is under severe pressure in many of the communities where we operate. Our strategy is to go well beyond what current laws and regulations require so that we can be seen in every community as not only a law-abiding corporate citizen but as the outstanding corporate citizen, measured both environmentally and by creating well-paying, safe, and productive jobs. If regulations get tightened, some of our competitors may lose their franchise, but we expect to have earned the right to continue operations
.
They insisted that outstanding environmental and community performance was a central part of that company’s strategy and had to be an integral part of its scorecard.
Thus, all stakeholder interests, when they are vital for the success of the business unit’s strategy, can be incorporated in a Balanced Scorecard. Stakeholder objectives, however, should not be appended to the scorecard via an isolated set of measures that managers must keep “in control.” Other measurement and control systems can establish diagnostic and compliance requirements far more effectively than the Balanced Scorecard.
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The measures that appear on the Balanced Scorecard should be fully integrated into the chain of causal event linkages that define and tell the story of the business unit’s strategy.
Some companies operate within only a single industry. Indeed, some of the early applications of the Balanced Scorecard were for companies in particular niches of the semiconductor industry, like Advanced Micro Devices (AMD) and Analog Devices, or in a particular segment of the computer industry, like Apple Computer. These companies developed Balanced Scorecards that were also Corporate Scorecards (the term used at Analog Devices). Most corporations, however, are sufficiently diverse that constructing a corporate-level scorecard may be a difficult first task. Balanced Scorecards are best defined for strategic business units (SBUs). An ideal strategic business unit for a Balanced Scorecard conducts activities across an entire value chain: innovation, operations, marketing, distribution, selling, and service. Such an SBU has its own products and customers, marketing and distribution channels, and production facilities. And, most important, it has a well-defined strategy.
Once a Balanced Scorecard has been developed for an SBU, it becomes the basis for Balanced Scorecards for departments and functional units within the SBU. Mission and strategy statements for departments and functional units can be defined within the framework established by the business unit mission, strategy, and scorecard. Managers in departments and functional units can then develop their own scorecards that will be consistent with and help deliver the SBU mission and strategy. In this way, the SBU scorecard is cascaded down to local responsibility centers within the SBU, allowing all responsibility centers to work coherently toward the SBU objectives. The relevant question for whether a department or functional unit should have a Balanced Scorecard is whether that organizational unit has (or should have) a mission, a strategy, customers (internal or external), and internal processes that enable it to accomplish its mission and strategy. If it does, the unit is a valid candidate for a Balanced Scorecard.
If the organizational unit is defined too broadly, say beyond a strategic business unit, however, it may be difficult to define a coherent, integrated strategy. Instead, the scorecard objectives and measures may end up as an average or a blend of several different strategies. For example, originally we attempted to help an industrial gases company create a scorecard. Early on, it became clear that the company had three distinct business units, each defined by a unique distribution channel that had entirely different strategies
and customers. It proved far simpler to construct scorecards for the individual SBUs, defined by their unique distribution channels.
Often, however, even corporations containing several, somewhat independent SBUs have started by developing a Balanced Scorecard at the corporate level. Such a corporate-level scorecard establishes a common framework, a corporate template, about themes and common visions that must be implemented in the scorecards developed at the individual SBUs. The corporate scorecard also establishes how the corporation adds value beyond the value created by the collection of SBUs operating as independent units. This value-creating role of the corporation is referred to by Goold and colleagues as the “parenting advantage.”
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Chapter 8
elaborates further on integrating SBU scorecards into the broader corporate framework.