How to begin the process of creating and using KPIs and the business communications process
This is one approach that works. There are others. Feel free to use this if it works for you:
Background
Since a key performance indicator is used to measure your performance relative to a key performance area, you first must decide what are the areas of your business that are critical to your success.
I use process flow mapping to visualize every step(function) that must occur in the flow of your business from sales and marketing, through operations and into finance and administration.
Once this process flow map has been worked through with your key team members, group together functions that impact your customers satisfaction and be sure that each function has an owner. Once all critical functions have owners, this becomes their functional position description. These are the team members that will be accountable for the performance in each area. Visualize what things would be like if you had a team that exceeded all their customer’s needs and wants. You can ask about the quality, quantity, cost and timeliness involved with exceeding those expectations and you begin to form the key performance areas (KPA)and what the measurements for those performances would look like. These, stated in terms that are measurable, objective and contribute to the optimization of the overall process form the basis for the key performance indicators (KPI). During this process of developing KPIs for each team member’s function and the team overall, be sure to guard against local optimization at the cost of system optimization.
The most vital part of an effective use of KPIs is the communication and feedback component. The feedback should be specific and timely enough that mid course corrections can occur in the KPIs if they don’t seem to be measuring the performance that is indeed crucial to overall team success. When setting performance goals based on the KPIs, be sure to make them a stretch to meet. This will provide for an environment where each team member is running at full steam to meet and exceed expectations.
Going back to the work of Aubrey Daniels and others, be sure to provide the proper consequences to help shape behavior. Celebrate success and coach as needed.
Check out Sandy Graham’s comment on my post Calculating the true cost of your employees. It is excellent!
The value of a KPI model in avoiding bad strategy decisions
If you want to avoid bad strategy decisions a KPI model may be your solution
The fundamental problem.
There is no universal management theory able to guide a manager’s decision on a critical business issue. All business operators know that many theories can apply to the situation they confront. Their choice of theory will inevitably influence the decision they make. Even a decision that there is no relevant theory will inevitably influence their decision.
The problem gets worse. Where do you go for advice? Ask an accountant and you can be confident that you will get a financial solution. Ask a lawyer to get a legal solution. Ask a friend to get a solution that’s minimizes the risk to you? You need a way to make your own decision based on your intimate knowledge of your own business, but it has to be a way that you are confident gives you’re the best answer. Then you can check it with your advisers.
Let us examine a common situation. A downturn in sales is attributed to a downturn in demand. The revenue loss leads to a cash flow and liquidity problem. Without action, the business faces insolvency in a matter of months.
Financial theory offers two options; reduce fixed costs, variable costs, or reduce stocks by discounting. Redundancy programmes are but one way of reducing costs by matching capacity to demand to maintain gross profit %.
Marketing theories offer alternatives to increase sales, but usually require increases in expenditure and risk. Reductions in marketing spend are usually short-term expedients with long term consequences.
Employee relations theories offer alternative ways of cost reduction, with different implications for the long term future of the business. The net benefits are generally finely balanced.
I am sure you can think of many other theories that could apply to one aspect of this scenario.
I hope this illustration has demonstrated that your choice of theory will constrain your options. The interactions between the theories can be shown this way:
It is now clear that the optimal decision will be found in the small space where the three theories intersect. No single theory can produce the best answer, so how do you balance up the competing claims from theories that interact, each producing positive and negative outcomes.
The way a strategist approaches complex decisions may point the way.
A strategist will create a set of feasible scenarios. A feasible scenario for our simple illustration is one that optimizes that prospect of business survival, short and long term.
This is only possible if we consider the whole system, the business, its customers, suppliers, employees and competitors. To neglect the reactions of any group will put the business at risk.
Any decision will generate effects from different groups often at a point remote in time and place from the obvious and immediate effect. You do not want to be caught out by unintended consequences.
2. Consider how each option is likely to effect the operational units of the business. For example, how will a price reduction affect
b. Advertising costs?
c. Selling costs?
d. Market position?
e. Market share?
b. Lost time during consultation process.
c. Lost productivity due to morale effects.
d. Cost of replacing staff when business picks up again.
e. Costs of contractors and temporary staff if you get the number wrong.
offset by
f. Monthly savings on wages costs.
Using your KPI Model
Now you can use your KPI model to explore the interactions between the decisions and their effects on the different parts of your system.
2. Do not change the algorithms (except to accommodate a new input); there is no change in the relationships between the KPIs.
3. Assess the effect on the key financial ratios your model generates. Changes in Return on funds, Gross Profit % and Asset Turns are obvious points of measurement.
4. Assess the changes on other KPIs that may be important. I suggest you look for changes in:
b. Customer segment contribution
c. Customer numbers
d. Service level KPIs
e. Marketing spend
f. Overhead ratios
g. Stock turns
If you try one scenario at a time you will soon have a reasonable understanding of the combination of decisions that will work best for you; that is one that maximizes the benefits and minimizes the harm.
Look for a strategy
The optimal strategy will almost certainly require a number of business decisions.
Your business is a complex system, and there is no certainty that a decision about a single variable in the system will produce the expected result.
Let me offer an example.
After 4 months of a 12 month contract the new customer recruitment rate has declined by 10%, due to adverse consumer reaction to the change. Gross profit has declined by $500,000, and market share has dropped by 1.5%.
The Mumbai call centre is losing $10,000 per month to penalties, and is unhappy; its staff are dispirited and productivity is declining. The in-house call centre has been disbanded with significant redundancy costs. addition to the bottom line.an netA business uses an internal call centre to recruit new customers in New Zealand. A cost cutting review has found that a net saving of $250,000 pa. is available by shifting the call centre to a Mumbai based contractor. The proposal is presented to the board as a simple yes/no decision, without any supporting analysis of customer reaction. The contract specifies the success rate, and the contractor has agreed to penalties for failure to meet the performance indicators. The board accepts this one-dimensional proposal as
What next?
How does this sort of disaster occur? It has happened too often around the world in recent years for it to be an accident.
What theory, or combination of theories ruled in the board meeting?
Your instincts are right. The combination of a single financial theory about cost cutting, combined with a one dimensional Employment Relations theory about the financial costs of redundancy is the cause.
How can this type of disaster be avoided?
If the business had examined three scenarios, the usual best/most likely/worst case scenarios from a marketing perspective there is a fair chance that the risk would have been exposed.
If the business had invested effort in developing a robust KPI model it would have been able to test the complex set of flow-on decisions needed to assess the proposal. properly.
The analysis could have quantified the level of reduction in customer recruitment performance that would negate the expected savings from the cost reduction programme. The board could then have made a decision in full knowledge of the risk they were taking..
This example has demonstrated that failure to view the business as a complex system in a complex marketplace leads to errors that can be avoided by a business model that treats the whole business as a system involving interactions of theories and processes. A robust KPI model does exactly that.
The theory works; the practice works and strategies can be rigorously tested.
I recommend that you do not bet the business on a single management theory. There is no need to take that level of risk.
This post is from Michael Taplin’s Website Bizlearn. He has graciously allowed me to post it. I think you will agree that it is an excellent post on decision making!
Calculating the true cost of your employees
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Calculating the true cost of your employees!
by: Jed Black
I remember a couple of years ago, I was chilling out at a construction site in southwest Georgia with a crew of commercial plumbers at the end of a long hot day. I was on site working with the owner to help him return to maximum profitability. This company was a successful commercial contracting company that helped build new hotels and multi-family dwellings. While the rest of the country was deep in the midst of the summer recession of 2007, this company was growing by 45% annually. The owner was a natural entreprenuer. A hard working plumber that could do it all and suddenly had 70 employees, more sales than ever and less hitting the bottom line. He knew that something was broken and was smart enough to be willing to ask for help. As we sat in that south Georgia heat that afternoon and watched the owner roll out in a cloud of dust, the conversation good heartedly got back to all the money the owner was making. The men in the field thought he was rolling in dough, because after all, they got $22 an hour and the estimating team charged $35 for every hour they worked. Heck he is making $13 on each of us every hour we work! We laughed about it but the conversation gave me a keen insight to one of the things that was broken. No one really understood what the real cost of the crews was and therefore crew productivity was never thought to be an issue. I worked with the owner to identify his true fully loaded labor costs and how to utilize the proper pricing formula to bid his jobs. We also had a series of meetings with the field supers, crews and estimating teams to spell it out. Once everyone understood the true cost of labor, they understood that even a 10% increase in productivity could mean hundreds of thousands of dollars to the bottom line. I have placed the calculations for pricing and if you would like a handy dandy calculator that you can use to identify your fully loaded labor cost and what small adjustnments to productivity can have on the bottom line, email me and I will send it to you! Please use this to be sure your pricing is correct and as a tool for ongoing communication with your teams. Thanks.
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The role of assessment in building a winning team.
What is Organizational Development?
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This is an interesting poll conducted by LinkedIn
Check this poll!
http://polls.linkedin.com/poll-results/60613/wozgl
It looks at what different business people feel is their greatest challenge at this point.
Creating a functional organization Part 4
OK, so now you have reviewed your process flow map, identified functions, designated function owners and created Key Performance Factors and the Key Performance indicators for each function, what’s next. Now you need to assess the behavior based attributes that any person that owns a particular function should have. There are any number of personality assessment tests that will identify a person’s style. This is important because each person has a way of dealing with situations and other people who can contribute to or hinder their effectiveness at owning a particular function. These tests are usually some derivative of Blake and Mouton’s work or the DiSC system. For example, the DiSC system identifies four personality factors that combine to provide an assessment of how a person would be expected to react when faced with certain scenarios. A high D high I style would be most productive in a creative, results oriented position with a large degree of autonomy and few detailed reporting requirements. This person might be better suited to a CEO or sales/marketing function than to an accounting function etc. There are tons of websites where you can study this or even take an assessment such as Http://www.stewartassoc.com. Once you have identified the most effective style and skill set needed by anyone that would be placed in a function, you can write Functional Position Descriptions. These would list the functional areas of accountability, each with its own KPF and KPI. Most Functional Position Descriptions (FPDs) would have at the most 4 to 6 of these. Once you have written these FPDs you can either re-arrange your current talent pool so that each person that owns a functional area has the skill set and personality type that will contribute to the highest productivity and thus job satisfaction, or bring in new talent. Remember that using interim professionals can be a great way to assess the true needs and rewards of a position. These KPAs and KPIs form the basis for the performance evaluation and feedback system that is a crucial part of any successful company. More on this next time!
State / Territory Summaries
Creating a functional organization Part 3
I left off last time with reviewing your process flow to assure that you do not have local optimization at the expense of system optimization. Let’s look at this for a moment. Consider the functions of an order fulfillment area and production area. If you set up a function that is accountable for shipping orders as quickly as possible with a minimum of back orders and you measure the performance of that functional area with order processing time and % of shipped orders with no back ordered items you can achieve local optimization for that function. If you also have a production team that is held accountable for the number of widgets produced per hour and are measured that way, the production team will avoid set-up time etc. at the expense of not building the parts necessary to complete orders. This will also lead to local optimization for the production area. But if the overall goal is to satisfy the customer by shipping complete orders on a timely basis, then you are not meeting the requirement for system optimization. What would you recommend to this company if you were the consultant or just -in-time professional brought in on an interim basis to fix the problem?
Creating a functional organization Part 2
In my last post, I left off with the completion of the process flow map off all activities/processes that occur in the company from how they reach out for business to how the manage finance and administration. Once the map is laid out, the next step is the start at the beginning and take each activity/process and either group together activities into a function or create a function from the process. A function is a clearly defined area of accountability that can be measured and is vital to the profitability of the organization overall.
Once you have gone through all the activities and processes you identified during your process flow mapping and have created functions, you must be sure each function has an owner. The owner is the team member that holds the final accountability to Senior Management for the successful performance of that function. For example, a function might be to identify and implement marketing programs and processes that will increase our new customer base by 5% in terms of customers that are buying a minimum of (x) $/month annually. Once all functions have clear owners, and the measurement system to assure that we are getting the results we want are in place, the next step is to review the entire system again to be sure that we have not set up any situations where we are driving local optimization rather than system optimization. More next time!
Jitpro
Business information
If you are an experienced professional manager looking for an interim assignment contact me!
my website is http://www.jitpro.com
Creating a functional Organization Part 1
A functional organization is one in which all the processes which occur within the organization have been identified and analyzed. Some process are left overs from previous management. Some are there “because that’s the way we always do it” and some have actually, consciously been implemented to meet a specific objective. This procedure of starting at the Sales and Marketing end of an organization, moving through the operations part and ending with the finance and administrative end of the firm is called process flow mapping. It takes time and effort to really get granular and to cover everything, but it does form the basis for building a profitable company. I used this with over a dozen clients over the last few years and it is amazing what we find. I use a flow chart to record the input from the senior management team and at the end of this process we find gaping wholes, redundancy and processes that are clearly oriented towards local optimization at the expense of system optimization. I will pick up here in my next post. Have a great day! JMB
How to Price your products
Pricing Review.
Pricing Methodology
This is the process whereby you determine the appropriate pricing to charge your customers. It is here that you ensure that the business will be profitable by not only covering all of your costs, but including a pre-determined profit for each and every item.
Price can be summed up in the following equation:
Price = (Direct costs + Overhead allocation) / (1-Planned profit percentage.)
Thus, you must identify all direct costs for the item in question, add a percentage to cover overhead allocation, and then DIVIDE the result by the inverse of the planned profit percentage (1-planed profit percent.)
Direct Costs
Direct costs are all costs that have been generated as a result of this sale.
Examples include: all materials, Direct Labor (plus Labor Burden,) Sub-Contractors and any rental equipment that you may need to perform the job. Any sale below this point will result in a loss not only against overhead, but against real direct expenses.
Overhead
The direct costs must be increased to include a factor to cover overhead. The uplift percentage can be calculated by reviewing your P&L statements and dividing your overhead by your Cost of Goods Sold:
Overhead / COGS = Overhead absorption %
This will result in a percentage that indicates how much additional you need to recover for every dollar of direct cost (COGS) that you sell. Thus, if your overhead absorption is 25%, for every dollar of COGS, you need to recover $1.25 in order to break even.
Break Even
Once you have added an Overhead absorption % to your Direct Costs, you have the reached the break even point for the job. Any sale below this point will result in a loss of at least part of the overhead. It is sometimes appropriate to accept a sale that will cover all of your direct costs and part of your overhead, but this should be done infrequently and with the full knowledge of what you are doing. Thus:
Direct Costs + Overhead = Break Even
Planned Profit
Once you have the break even price, you must add planned profit… It is vital to understand that the calculation is a division, not a multiplication. In order to achieve a 10% profit goal, you must divide your breakeven by .9, this will furnish you with the price that will result in a 10% profit. For a 15% profit, you would divide your breakeven by .85 (1-.15.)
Price = Break even / (1-planned profit %)
Pricing Calculation
Thus the entire pricing calculation is as follows:
Direct Costs (COGS)
+ Overhead %
Break Even
/(1 – planned profit %)
Price
This formula will ensure that not only are your true costs covered, but that you know what profit you expect for each and every item. Of course you may need to adjust your profit expectations due to competition.
A look at overhead allocation
Are you sure you are covering all of your overhead in your pricing?
Is the formula you are using up to date?
Do you know what your break even price is for all of your items/jobs?
Overhead Allocation Percentage
If you answered no the above questions, you need to add an overhead allocation percentage to your pricing methodology.
Overhead allocation is the method used to ensure that all indirect costs are covered accurately on all prices and estimates. This is simply a percentage that needs to be added to your direct expenses for the item/job.
The overhead allocation percentage can be easily calculated by reviewing a Profit and Loss statement. Just divide the Overhead $’s by the Cost of Goods Sold (COGS) $’s:
Sales
COGS
Gross Margin
Overhead
Profit / Loss
Overhead Allocation % = Indirect Expense $’s / Direct $’s
Overhead (indirect costs) can be defined as all expenses that are incurred regardless of what happens to sales. Some examples are: rent, utilities, office wages, and advertising.
Cost of Goods Sold (COGS or Direct expenses) can be defined as all costs incurred as a direct result of the sale. Some examples are: Labor wages, labor burden, Materials, and Subcontractors.)
This percentage tells you how much you need to add to your direct expense (materials and labor + Subcontractors + Equipment Rental,) in order to cover your overhead costs.
Thus if you have an Overhead allocation percentage of 25%, and you are going to be selling a pen that costs you $1 in materials and labor – your break even price for that pen is $1.25. This covers all of your direct costs ($1) and the amount needed to cover your indirect costs ($.25.)
Again, the break even price for anything is:
Break Even Price = Direct expenses (COGS) + Overhead allocation %.
Summary
Using the Overhead allocation method to account for all indirect expenses when you price/quote will ensure that these costs are covered on all bids. Further, using this method, if you need to bid at a lower level, you will be aware that you are not covering your overhead on this bid, and need to make up for it on another.
News from Kiplinger Letter
The September 18th, 2009 edition of the Kiplinger Letter had some interesting observations regarding the jobs market. “Look for the temp worker market to turn the corner in the next month or two.” 822,000 jobs lost since January of 2008 has left a depleted temporary workforce and layoffs are slowing down with just 6,500 jobs lost in August. They state that firms are starting to conduct interviews again and hiring should start soon with the strongest demand for professional services, mostly in engineering, accounting, IT and healthcare. A different kind of temp hiring, online outsourcing is expected to grow 23% per year. There are about 120 sites that now help business find a wider array of talent usually on a per project basis. They go on to state that a deeper, richer talent pool is available as some folks will find they like the flexibility and stick with “freelancing” even after firms start hiring.
This management stuff is great!
I remember, way back when, I was facilitating a week long workshop, “The Essentials of Management” as an AMA certified facilitator. My class was made up of about 35 health care professionals that were entering into management positions at some of our various locations around the country. In the afternoon of the last day, we were wrapping things up, handing out attendance awards, networking etc. and one fellow came up to me and shook my hand and told me what a great workshop it was and how much he had learned. His parting comment was, “this management stuff is really great, if it just wasn’t for the people part! Go figure. 🙂
Hello world!
I am the General Manager of Just in Time Professionals. We are a division of Stewart and Associates LLC serving the Tri-Cities area of TN/VA and surrounding counties. As a former Senior Business Consultant with an international consulting firm, I hope to share business stories, tips and just plain funny things I have seen in my travels. I hope you will join in and enjoy!
Just-In-Time Professionals Blog 