Keeping Your Balance

Over the last century measurement has lain at the heart of management.  Indeed, measurement has often appeared to be the central function of management.  Scientific Management, for example, involved measuring the performance of workers against pre-determined optimum times.  Managers have found different things to measure and more sophisticated means of measurement.  And, as every manager knows, what gets measured gets done.  The perennial problem for strategy has been that there is no obvious or meaningful means of measuring something so multifaceted and complex.

The most fruitful area for this mania for quantification has been finance.  Managers once simply talked of sales and profits.  But, over the years a complex array of ratios, measures, analytical tools and software packages have evolved.  Every penny a company spends or produces can be analyzed in an infinite number of ways.  Such are their powers of persuasion, that entire companies can be driven by such financial measures.  The most famous instance of this was ITT in the 1960s under the control of Harold Geneen.  Geneen took management by financial measurement to its limits, creating an elaborate system of financial reporting.  When he left the company, the deck of cards collapsed.

The obvious conclusion to be drawn from Geneen’s approach was that if you concentrated solely on financial measures, you could achieve short-term, even medium-term success, but such narrow constraining measures were unlikely to yield long-term prosperity.  The trouble was that financial ratios and performance were the easiest things to measure.  Other elements of corporate performance – such as customer loyalty or employee satisfaction – were more abstract and measurement appeared to pose more questions than answers.

At the same time as companies were considering how to measure “softer” elements of their performance, they became increasingly addicted to managerial fads and fashions.

So, organizations were faced with the dilemmas of unwieldy financial measurement systems; few reliable means of measuring other elements of their performance; and a predilection for short-lived fads whose impact is rarely measured in any way whatsoever.

The answer to these imbalances was proposed by David Norton and Robert Kaplan as the Balanced Scorecard (“a strategic management and measurement system that links strategic objectives to comprehensive indicators”).  Norton is co-founder of the consulting company, Renaissance Solutions, and Kaplan is Marvin Bower Professor of Leadership Development at Harvard Business School.  The duo developed the Balanced Scorecard concept at the beginning of the 1990s in research sponsored by KPMG.

The result was an article in the Harvard Business Review (“The balanced scorecard”, January/February 1993).  This had a simple message for managers and one which probably sounded reassuringly familiar: what you measure is what you get.  Kaplan and Norton compared running a company to flying a plane.  The pilot who relies on a single dial is unlikely to be safe.  Pilots must utilize all the information contained in their cockpit.  ‘The complexity of managing an organization today requires that managers be able to view performance in several areas simultaneously,’ said Kaplan and Norton.  ‘Moreover, by forcing senior managers to consider all the important operational measures together, the balanced scorecard can let them see whether improvement in one area may be achieved at the expense of another.’

Kaplan and Norton suggested that four elements need to be balanced.  First is the customer perspective.  Companies must ask how they are perceived by customers.  The second element is ‘internal perspective’.  Companies must ask what it is that they must excel at.  Third is the ‘innovation and learning perspective’.  Companies must ask whether they can continue to improve and create value.  Finally is the financial perspective.  How does the company look to shareholders?

According to Kaplan and Norton, by focusing energies, attention and measures on all four of these dimensions, companies become driven by their mission rather than by short-term financial performance.  Crucial to achieving this is applying measures to company strategy.  Instead of being beyond measurement, the Balanced Scorecard argues that strategy must be central to any process of measurement – ‘A good Balanced Scorecard should tell the story of your strategy’.

Identifying the essential measures for an organization is not straightforward.  One company produced 500 measures on its first examination.  This was distilled down to seven measures — 20 is par for the course.  According to Kaplan and Norton, a ‘good’ Balanced Scorecard contains three elements.  First, it establishes ’cause and effect relationships’.  Rather than being isolated figures, measures are related to each other and the network of relationships makes up the strategy.  Second, a Balanced Scorecard should have a combination of lead and lag indicators.  Lag indicators are measures, such as market share, which are common across an industry and, though important, offer no distinctive advantage.  Lead indicators are measures which are company (and strategy) specific.  Finally, an effective Balanced Scorecard is linked to financial measures.  By this, Kaplan and Norton mean that initiatives such as re-engineering or lean production need to be tied to financial measures rather than pursued indiscriminately.

In many ways, the concept of the Balanced Scorecard is brazen commonsense.  Balance is clearly preferable to imbalance.  (The counter intuitive reality is that unbalanced companies, usually driven by a single dominant individual, have often proved short-term successes.)  The Balanced Scorecard is now widely championed by a variety of companies.  Indeed, it has somewhat ironically become a management fad.  Its argument that blind faith in a single measurement or a small range of measures is dangerous is a powerful one.  However, effective measures of elements, such as management competencies or intellectual capital, remain elusive.

Resources
Robert S Kaplan and Robin Cooper, Cost and effect: Using integrated cost systems to drive profitability and performance, Harvard Business School Press, 1998

Robert S Kaplan & David P Norton, The Balanced Scorecard: Translating strategy into action, Harvard Business School Press, 1996

This was originally published in What we mean when we talk about strategy by Stuart Crainer and Des Dearlove (Infinite Ideas, 2016).