Strategic Management BALANCED SCORECARD

Diffusion of a New Idea “The Balanced Scorecard: Measures that Drive Performance” (Robert S. Kaplan and David P. Norton, Harvard Business Review, February 1992) About 35% of Fortune 2000 firms have adopted a balanced scorecard, 55% of those firms are very satisfied with it. (R. D. Banker, C. Konstans and S. Janakiraman; January 2000) IHW 2005 Balanced Scorecard

Balanced Score Card A new approach to strategic management was developed in the early 1990's by Drs.  Robert Kaplan (Harvard Business School) and David Norton (Balanced Scorecard Collaborative).   They named this system the 'balanced scorecard'.  Recognizing some of the weaknesses and vagueness of previous management approaches, the balanced scorecard approach provides a clear prescription as to what companies should measure in order to 'balance' the financial perspective. IHW 2005 Balanced Scorecard

Balanced Score Card Kaplan and Norton describe the innovation of the balanced scorecard as follows: “The balanced scorecard retains traditional financial measures. But financial measures tell the story of past events, an adequate story for industrial age companies for which investments in long-term capabilities and customer relation-ships were not critical for success. These financial measures are inadequate, however, for guiding and evaluating the journey that information age companies must make to create future value through investment in customers, suppliers, employees, processes, technology, and innovation." IHW 2005 Balanced Scorecard

Evaluation Methods Balanced Scorecard – Four Perspectives Financial Perspective How should we appear to our shareholders? Internal Business Perspective At what business practice must we excel? Customer Perspective How should we appear to our customers? Vision And Strategy Learning and Innovation Perspective How should we sustain our ability to change and improve? IHW 2005 Balanced Scorecard

Internal Process Perspective Financial Perspective Balanced Scorecard Internal Process Perspective What business processes are the value drivers? Learning & Growth Perspective Are we able to sustain innovation, change and improvement Customer Perspective How do we look to our customers? Financial Perspective How do we look to our shareholders? Vision & Strategy IHW 2005 Balanced Scorecard

Balanced Scorecard for a Retailer Internal Process Perspective Service quality Product quality Inventory management Learning & Growth Perspective Information systems Employee satisfaction Employee training Customer Perspective Customer satisfaction Customer retention Market share Financial Perspective EVA (Residual Income) Profit per square foot Vision & Strategy IHW 2005 Balanced Scorecard

Balance in the Scorecard Balance between financial, customer, internal process and learning perspectives Balance between financial and non-financial measures Balance between short-term and long-term objectives Balance between hard, objective measures and softer, more subjective measures Balance between different stakeholders  Balance between strategic and diagnostic measures IHW 2005 Balanced Scorecard

Horizontal Balanced Scorecard Investors Financial Perspective Lenders Financial Perspective Customers Customer Perspective Employees Internal Perspective Suppliers Process Perspective Balance between different stakeholders. IHW 2005 Balanced Scorecard

Vertical Balanced Scorecard Financial Objectives Customer Objectives Internal Process Objectives Learning and Growth Objectives IHW 2005 Balanced Scorecard

BALANCED SCORECARD DESIGN Identify strategic objectives for each perspective. An objective is a statement of strategic intent. An objective states how a strategy will be made operational. Application will allow strategic objectives to be aligned with at least one perspective. Associate measures with strategic objectives. A measure is a performance metric that will reflect progress against an objective. A measure must be quantifiable. Leading measures are predictors of future performance, while lagging measures are outcomes. Measure has to be linked with an objective. Assign targets to measures. A target is a quantifiable goal for each measure with a specified time frame. Link strategic objectives in cause and effect relationships (Theme). Objectives are linked to one another through cause and effect relationships. Application should be able to represent the linkages graphically and should able to edit/change as appropriate. List strategic initiatives. Strategic initiatives are action programs that drive performance. The application should allow for setting of strategic initiatives to be linked to at least one objective. View the strategy from four perspectives (Financial, Customer, Internal and Learning). A perspective is a component into which the strategy is decomposed to drive implementation. Other perspective may be added to the typical set or replace based on specific strategic need.

Balanced Score Card IHW 2005 Balanced Scorecard

A Balanced Scorecard “Is a performance measurement system that translates an organization’s strategy into clear objectives, measures, targets, and initiatives.” (Kaplan and Norton, Harvard Business Review, 1996) ”A method for the organization to systematically develop a comprehensive link between its strategy and a coherent set of performance measures.” “A method for the organization to systematically develop a comprehensive system of planning and control”. (Kaplan and Norton, Harvard Business Review, 1992) IHW 2005 Balanced Scorecard

Balanced Scorecard The balanced scorecard (BSC) provides a framework for selecting multiple performance measures focused on critical aspects of business (Kaplan and Norton 1992). The essence of the BSC is the articulation of linkages between performance measures and strategic objectives (Kaplan and Norton 1996). 2

Translating Strategy Into Initiatives For each perspective: Performance Measures Key Success Factors Initiatives Targets IHW 2005 Balanced Scorecard

A Strategic Scorecard Should include leading indicators Leading indicators: Drivers of long term value Lagging indicators: Feedback measures on current performance Should include outcome measures as well as measures of the drivers of those outcomes Should link all measures with the overall strategy IHW 2005 Balanced Scorecard

Diagnostic vs Strategic Measures Diagnostic measures Monitor whether the business remains “in control” Signal when unusual events occur that require immediate attention Necessary, but not sufficient, for achieving long term goals Strategic measures Articulate a strategy designed for competitive excellence Evaluate strategies based on new information about competitors, customers, markets, technologies & suppliers IHW 2005 Balanced Scorecard

Financial Perspective Customizing Measures for the Growth Stage Sales growth rate Sales in new markets Sales to new customers Sales from new products Investment in product development Investment in information technology Investment in employee skills Investment in new distribution channels IHW 2005 Balanced Scorecard

Financial Perspective Customizing Measures for the Sustain Stage Return on capital employed Economic Value Added (EVA) Operating income/Gross margin Discounted cash flows Asset utilization rates Cost reduction rates Cost benchmarked against competitors Customer and product line profitability IHW 2005 Balanced Scorecard

Financial Perspective Customizing Measures for the Harvest Stage Current cash flows Payback period Spending ratios Throughput ratios Product line profitability Negative cash flow customers IHW 2005 Balanced Scorecard

Customer Perspective: Strategic Outcome Measures Financial Objectives Customer Outcomes Market Share Customer Profitability Account Share Customer Acquisition Customer Retention Customer Satisfaction Internal Process Outcome Drivers IHW 2005 Balanced Scorecard

Customer Perspective: Unique Value Proposition Acquisition Customer Retention Customer Satisfaction Product/Service Attributes Image Relationship + + Value = Convenient Trusted Responsive Uniqueness Functionality Quality Price Time Brand Equity IHW 2005 Balanced Scorecard

The Internal Perspective Generic Service Value Chain Model Post-Sale Service Cycle Operations Cycle Innovation Cycle Satisfy Customer Needs Identify Customer Needs Create the Service Offering Identify the Market Produce the Services Deliver the Services Service the Customer Efficiency Effectiveness IHW 2005 Balanced Scorecard

Learning and Growth Perspective Objectives Capability Measures Employee Skills Real-time availability Accuracy Pervasiveness Long Term Success Information Systems Satisfaction Retention Training Capabilities Alignment of incentives with key success factors Improvement in key customer and internal processes Organizational Processes IHW 2005 Balanced Scorecard

So, A Balanced Scorecard… Is much more than a collection of indicators of key success factors. Is a flight simulator, not a dashboard of instrument dials. Integrates performance measures with a unique strategy. Incorporates cause-and-effect relationships, including leads, lags and feedback loops. IHW 2005 Balanced Scorecard

Linking the Balanced Scorecard to Strategy A Strategy Is a Set of Hypotheses About Cause and Effect Return on Capital Employed Financial Customer Customer Loyalty Customer On-time Delivery Internal Process Process Quality Process Cycle Time Learning & Growth Employee Skills IHW 2005 Balanced Scorecard

Link to Financial Objectives Balanced scorecard retains a strong emphasis on financial outcome measures. Ultimately, causal paths from all performance measures should be linked to financial objectives. Failure to link improvement programs (e.g. TQM, cycle time reduction, reengineering, and employee empowerment) results inevitably in organizations becoming disillusioned about lack of tangible payoffs. IHW 2005 Balanced Scorecard

The Balanced Scorecard for The Women’s Store Employed in the Experiment   Measure Target Actual Percent Better than Target Financial: 1. Sales margins 60% 67.02% 11.70% 2. Sales growth per store 15% 16.75% 11.67% 3. Inventory turnover 6 6.59 9.83% 4. Debt-to-assets ratio < 20% 18.07% 9.65% Customer: 1. Price relative to competitors’ price +7% 7.79% 11.29% 2. Customer satisfaction rating 80% 88.44% 10.55% 3. Sales per square foot of retail space $30,000 $33,090 10.30% 4. Number of credit card customers per store 8,000 8,911 11.39% Internal Process: 1. Brand recognition rating 87.60% 9.50% 2. Number of stock-outs < 3 times 2.66 11.33% 3. “Mystery Shopper” audit rating 85% 93.47% 9.96% 4. Time to process customer returns < 4 min. 3.54 11.50% Learning and Growth: 1. Employee satisfaction 87.96% 9.95% 2. Employee suggestions per year 2.5 times 2.74 9.60% 3. Store computerization 66.24% 10.40% 4. Hours of training invested in brand managers each year 80 hours 89.10 11.38%

Metropolitan Bank’s Strategy “We must increase our income and revenue by broadening the services sold to a targeted group of customers.” “We cannot continue only receiving deposits and processing checks. Competitive pressure implies that we develop and sell new services such as mutual funds, credit cards and financial advice.” IHW 2005 Balanced Scorecard

Metropolitan Bank: Cause and Effect Financial Perspective Increase Return to Stockholders Broaden Revenue Mix Customer Perspective Increase Customer Satisfaction With Our Products Internal Process Perspective Understand Customer Needs Develop New Products Cross-Sell Products Instill a Selling Culture Learning Perspective Develop Selling Skills Align Personal Goals Access to Strategic Information IHW 2005 Balanced Scorecard

Metropolitan Bank’s Balanced Scorecard IHW 2005 Balanced Scorecard

Why Do We Need a Balanced Scorecard? To Implement Business Strategy! “Business Strategy is now the single most important issue… and will remain so for the next five years” Business Week “Less than 10% of strategies effectively formulated are effectively executed” Fortune IHW 2005 Balanced Scorecard

Scorecard Structure Scorecard is very context-specific Industry and competitive factors Life-cycle of business unit Business strategy It is important to validate cause-effect relationships for each individual business. IHW 2005 Balanced Scorecard

To Implement a Balanced Scorecard The organization must Define and develop measures for its primary strategic objectives. Understand how different business processes contribute to its strategic objectives. Identify the drivers of performance on strategic objectives. Develop a set of measures to monitor drivers of strategic objectives. Communicate its beliefs about how processes create results. IHW 2005 Balanced Scorecard