Peter Drucker, the father of modern business management, is credited with saying, “What’s measured improves.”
In business, it’s not uncommon to hear the term key performance indicator, or KPI. A key performance indicator is a measurable value that demonstrates how effectively a company is achieving its objectives.
High-level KPIs focus on overall business performance, while lower-level KPIs may focus on divisional results, such as sales, production or finance. KPIs typically can be categorized as either lagging or leading. Lagging KPIs measure performance or actual outputs in the past, such as revenue and profit. Leading KPIs measure expected future performance based on inputs, such as sales pipeline and backlog. Every business needs a basic set of KPIs. Great organizations develop KPI-driven cultures where performance accountability cascades down to the front lines and is measured at all levels from the field up.
KPI versus TMI
The first set of KPIs to identify and master are those associated with selling and producing your products and services. Let’s call these operational KPIs. All operational KPIs are developed around and from a comprehensive operating budget. An organization’s operating budget should drive sales and profitability targets and drive operational actions going forward.
The operating budget itself is a combination of leading indicators that are needed to project revenue, expenses and profit for a period in the future. Leading KPIs are metrics that reveal an organization’s likelihood of meeting its future outputs, including:
- Sales — pipeline reporting and close rate analysis.
- Revenue — sold work that needs to be performed.
- Profit — management of expenses in order to control profitability.
Examining leading indicators gives managers visibility into the future. They utilize data to identify future opportunities or challenges that eventually will impact business performance. For instance, production managers can utilize “hours backlog” to prepare for manpower needs and or adjustments. Typically, we need to look ahead on a monthly or quarterly basis.
Lagging KPIs are basically a look back at performance over a specific period. Lagging KPIs typically include:
- Sales pipeline — new leads, proposals and closings by sales rep.
- Revenue — work that has been produced and earned in a past period.
- Profit — actual profitability at the job level and in aggregate for a past period.
The key is to use lagging KPIs to make smarter future decisions.
Effective KPIs tell a story either about the future or the past. Good managers learn to see the story in the numbers and change future inputs to keep the organization on track.
KPI-driven cultures assign accountability for performance down to the people that have the most ability to drive results. Take labor management as an example. An organization that anticipates future manpower needs based on backlogged production hours must ensure the manager developing the schedules and dispatching crews has access to the information and is passing it on to the crews. On the lagging side, the teams need a measure of labor efficiency percentage (budgeted hours divided by actual hours) to look back at actual field level labor performance.
Don’t leave success to chance. Organizations that utilize KPIs effectively are much more likely to reach business goals.