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Key Performance Indicator print mail

“You can’t improve what you can’t measure.” This famous saying is particularly relevant to Key Performance Indicators (KPIs). The KPI element of the Performance Management System (PMS) transforms ideological concepts to metric concepts. It is also part of the link connecting actionable terms to the strategy.

 
key performance indicator
   
Purpose top^

In an ideal operational environment, business process performances are continuously subjected to reviews and improvements. Management sets performance expectations and communicates them clearly in some form, usually through precise objectives. To answer the question of whether the activities or processes reached those expected performance levels, a method of measurement must be in place in order to deliver this information. Those metrics compare the actual status to the expectation. The historic behavior of the metrics will also allow management to predict trends and future outcomes.

One of the most effective ways of monitoring internal performance is through the use of KPIs. A KPI is a quantifiable measurement of an activity or process. Such KPIs are carefully selected and defined, based on an intended purpose. Each of them must fit into the structure of the PMS.  To ensure effective measurements and improvements, they are associated with the Critical Success Factors (CSFs).  This association is the critical link in aligning actions with the company’s strategy and eventually achieving the company’s vision. KPIs can be grouped into leading and lagging metrics. The lagging KPIs report on events of the past, such as financial figures or yield reports in production. Those are the more traditional performance indicators and reaction to them cannot change the event. The other group, leading metrics, combines the leading indicators which target expected future outcomes. Examples are training hours spent on staff or preventive maintenance on equipment. Those metrics have the intent that a future outcome such as knowledge or availability of equipment is improved. An effective PMS uses a well-balanced arrangement of leading and lagging indicators.

Structure of KPI top^

KPIs are the most dynamic element of the PMS, because they translate data into business intelligence.  In order to ensure that KPIs function as intended, a specific structure must be incorporated. The following elements are suggested:

Title
Each KPI should have a short, but descriptive title. Since KPIs can reach large numbers, it is important that they are easily identified in reports and communication. The title must be concise but still have enough information that the KPI can be differentiated from other similar metrics.

Scope
The use of KPIs is very specific to a business’s activities and events. Therefore, it is essential to give a clear and detailed description of its scope. In contrast to the title explained above, the description must be as detailed as possible. The scope of the KPI is vital to avoid overlapping and conflicting measurements.

Purpose
Each KPI must be established with a clear and intentional purpose. Similar to the company’s mission, they have to explain why they exist. Too often, KPIs of pre-existing metrics are used just because they are available.  An effective PMS relies on the principle that the each element has a specific function and purpose. A KPI without purpose is only ballast to the system and drains valuable resources to maintain them.

Data Sources
KPIs draw values from operational data to convert them into useful information. It is important that data are consistently drawn from the identical source and the values are reproducible. The source is also essential for the drill-down analysis to explain certain events.

Formula
Some KPIs use one single datum, but mostly they are calculated in ratios, indexes or averages. The formula defines the KPI’s different source data and calculation methods.

Value
The value is the output of the KPI, either drawn from a single datum or calculated by a formula. This is the key information which is processed for consequent reporting in tables or graphs.

Objective
KPIs have the purpose of presenting their actual status as compared to a given objective. Therefore, the objective is a critical element, providing the desired level of the outcome. The gap between the actual value and the objective is the crucial information for decisions and consequent actions. The KPI must also define the polarity whether the actual value shall be smaller or larger than the objective.

Threshold
An effective PMS deploys a warning system that allows an escalation of reaction.  It is not efficient to alert upon the violation of a single limit only.  Such a method bears the risk that the system will respond erratically to a given situation. The KPI will have different thresholds which trigger respective alerts, ranging from causal information to significant alarm. Thresholds present a gradual interpretation about status of the measured value.

Frequency
The frequency of data collection and its transformation into information depend strongly on the nature of the measured activity or processes. Source data are established at specific intervals and can only be collected after a new value is being generated. Therefore, collection and calculation of data for each KPI has a defined frequency which can be hourly, daily, weekly or even yearly, depending upon the type of process being measured.

Unit
Values are usually quantified by a unit size.  Units are specified in monetary or physical sizes. They can also be formed as a combination of different other units.  In that case, the data are placed in a relationship to each other, and the relationship determines the outcome such as cost per hour, turnover per employee, etc.  Also, the value might possibly have no unit at all.  Examples are indexes or ratings, but they can be easily identified as such.

Responsibility
Effective use of KPI requires that a single person has ownership of each one. That person is responsible for continuous monitoring and maintenance. Lack of responsibility has the risk that critical information provided by the KPI is not acted upon. Successful use of the PMS requires that people are involved by taking responsibility.

Validity
Since the PMS has the objective of improving the company’s performance, its effectiveness must be reviewed continuously. On the level of KPIs, this review is assured by giving limited validity to the values and information gathered. After expiration of validity, the responsible person is requested to review the KPI for its continuing validity, at which point the KPI can be confirmed or adjusted as needed.

Association
In the context of PMS, KPIs must be linked to the company’s strategy, eventually becoming a part of the achievement of the company’s vision.  Therefore, they must be clearly associated with their respective CSFs.  KPIs provide the information that informs the decision on whether to take consequent action.  Thus, specific action is aligned with the respective KPI. This process eventually closes the circle of the PMS, where the company’s strategy is translated into actionable terms.

Relevance
Through association with a particular CSF, KPIs become a set of measures for that particular CSF.  Naturally, not all KPIs have precisely the same relevance as others with their group. Therefore, KPIs must be weighted according their importance.  Because such ratings are based on assumptions, they must be reviewed regularly as to whether the initial assessment is still justified. The sum of the KPIs associated with the respective CSFs must combine to form 100% of their total weight.
 

 
 
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