Why Bother Using Balanced Scorecards?
May 06, 2010

We started Ventana Research to focus on performance management, its ability to promote business success and the technologies necessary to support performance management efforts. Scorecards are an important communications device in any performance management initiative. They are a way of encapsulating the most important information the reader of the scorecard needs to know. Scorecards must include key performance indicators and – ideally – exclude everything else so the user’s focus is on those key indicators (even though it should be possible to drill down and around to get to underlying data).  

The idea of a balanced scorecard emerged in the mid-1980s when abusiness executive at a semiconductor devices companyjust outside Boston became dissatisfied with the fixation on financial measures in the company’s monthly review meetings. He reckoned that this was like driving a car looking only at the rear view mirror and missed covering critical non-financial performance measures that affected the company’s near- and long-term success. A little while later a couple of Harvard Business School professors came out to take a look and, suitably inspired, published a book.  

The balanced scorecard was an important conceptual step forward in performance management because it recognizes that there are multiple drivers of business success beyond financial results that a company must manage to achieve its strategic objectives. In the classic version this includes customer service and satisfaction outcomes, core process performance, the ability of company to execute to its objectives (“learning and growth”) and financial performance.  

In the 1980s and 1990s one of the challenges practitioners faced in implementing balanced scorecards was the difficulty of obtaining and extracting non-financial performance data that could be used in assessing performance to objectives. (Peter Drucker’s “management by objectives” approach ran into this same issue decades earlier). In fact, one reason for the emphasis on accounting measures at that time was these typically were the most common, easiest to obtain and reasonably accurate and objective. This was especially true the further down you went in trying to measure business unit, group and individual levels of performance.  

Over the past 15 years, however, corporations have implemented a wide range of IT systems to support execution of core business functions such as ERP, customer relationship management, supply chain and logistics and shop floor management. Along with better and more comprehensive enterprise data collection corporations also have benefited from the consumer revolt in the 1990s that forced IT vendors to adopt open standards. This and the technologies and techniques developed that enable organizations to gather data, analyze and report on it make balanced scorecards far more feasible than before.  

There’s another, subtler benefit from using a balanced scorecard approach. Since resources are never infinite, running a business involves making an endless series of trade-offs, both strategic (Do we go for market share, profitability or something in between?) and tactical ones (How should we usesales incentives to optimize customer profitability?). “Balanced” reflects an understanding that measuring performance using a single metric (or even just two) can distort a manager’s decision making process, leading them to avoid using common sense.  Used properly, scorecards can help guide managers to make trade-offs in a way that aligns their day-to-day decisions with the strategic objectives of the company. Used improperly, even with multiple performance metrics, they can reinforce a natural tendency to do what’s right for a department or business unit, not for the company as a whole.  

More recently people have started to see the need to incorporate risk measures into a balanced scorecard. This is part of a broader trend tomanaging risk more effectively. Whether this a category that’s separate from the traditional process, customer, execution and financial buckets or risk items incorporated into each of the four may be a matter of debate but since risk is inherent in business decisions, it’s important that it be an explicit part of performance measurement. Otherwise, risk has no value and managers gain little or nothing from making explicit, optimal trade-offs.  

The use of balanced scorecards has improved over the past decades in part because many information and technology impediments that were present in their initial stages have been addressed. It’s also a reflection of ongoing refinements in applying high-level concepts to the management of human beings – no easy task. Yet scorecards still face many practical challenges, usually related to the difficulty of managing people, structuring the trade-offs in the scorecards metrics and using scorecards as an intelligent communications tool. Technology can help – but it won’t always solve every problem.  

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Regards,  

Robert D. Kugel CFA - SVP Research  


 

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