Key performance indicators (KPIs) for business are one of the most important tools that you can use to track and improve your business. KPIs provide a clear view of where your company is succeeding and where it needs improvement, giving you the information needed to make strategic decisions that will lead to success. This blog post will get you comfortable with the basics and the right framework to better assess your business.
GOOD KPIs for Business are SMART
Before we discuss various types of KPIs it is important to understand what makes a good KPI. A tool to determine the value of a specific KPI is the SMART Goals criteria that KPIs should be 1) specific 2) measurable 3) actionable 4) relevant and 5) within a certain time frame.
For example, if you want to increase your revenue by 4% in the upcoming quarter without increasing operating expenses by more than $50,000 this is a specific goal that can be measured and tracked. However, KPIs such as “increase efficiency” or “improve customer service” are not SMART goals because they lack specificity – how will you know whether or not you have improved efficiencies? Are there even ways to measure it? What would qualify as an improvement? These questions should all come up when deciding which KPI(s) to track for your business.
The area where people misstep with SMART goals is twofold because it’s part science and part art. First, just because something is actionable doesn’t mean the proper course of action is an objective fact. Additionally what is relevant can also be subjective. This is where the art comes in and requires a deep understanding of your business. The best KPIs must be able to identify the key metrics that matter most for your company’s success while also providing insight into whether or not you’re improving over time. So let’s discuss what types of KPIs you should be using and why they are important.
Lagging Indicators
Lagging indicators provide data points after the fact, measuring performance and the health of your business. These KPIs are an important part of your business but they do not directly impact change because you don’t get the data points until the results have occurred. Using lagging indicators allows you to keep an eye on the actual results to ensure that you’re meeting your targets. These KPIs give you insight into where you’ve been but not where you’re going.
The most obvious lagging KPIs are data points from financial statements, including all the relevant ratios from your business. While you should get this data monthly, it doesn’t provide real-time data points that allow you to measure them continuously. Instead, these data points should serve as confirmation that you’re on track or as alarm bells if something is wrong. Further, lagging indicators built up over time allow you to look at trends in the business to see if things are improving or deteriorating.
Leading Indicators
Once you have an idea of the lagging KPIs that are important for your business, it is time to define what leading indicators will tell you about where things are headed. These metrics predict how well a company is performing and can also be used to benchmark against competitors in order to make strategic plans moving forward based on industry averages.
Leading KPIs are most important because they help you predict what will happen. They can be deceptive, however, as it is possible that a leading KPI may not actually lead to the outcome expected and this must be monitored closely and continuously. These metrics include things such as new customer acquisition rate (which predicts future revenue), conversion rates of sales prospects turned into actual sales contracts, monthly churn rate (the percent of customers who stop using your product/service each month) among others.
Here again, it is important to make an accurate assessment of what metrics are actually relevant and what is actionable. The “why” game can be effective for this. For all the parents whose children bombard you with the question “why” followed by “why” followed by “why”, you’ll understand immediately. You keep asking “why” until you get back to the first principles. It can take a while but once you peel back the layers, you can assess things from their core.
Qualitative versus Quantitative KPIs
The best KPI strategy will measure both quantitative factors along with qualitative ones. Quantitative KPIs are pretty straightforward, such as financial data points such as revenues, costs, profits, cash flows, debt load, etc. These can be both lagging or leading (such as sales conversion rates). This is the lowest hanging fruit because quantitative KPIs are easy to measure and track over time.
Qualitative KPIs are harder to measure but often provide invaluable information. An example could be customer interviews or surveys that can quickly inform you of what’s working and what’s not with your business. Another example is exit interviews for employees who leave, to get to the heart of why they don’t want to stay. This can provide immediately actionable information. Possibly also following up with sales prospects who don’t convert is another option. To do this effectively as a performance measurement/management tool it should be consistently applied and structured way. This way, it is easier to accumulate the results and measure them over time to assess current performance but to track it over time in the most objective way possible.
Entity level versus team level KPIs for Business
Another consideration is at what level of the business each KPI should be implemented. Certain KPIs can be measured companywide, such as financial KPIs pulled from financial statement ratios. Others are at a team level, such as sales growth in one business unit. KPIs should also be considered at the individual employee level, such as billable hours.
This all seems very basic, but implementation is often more difficult because businesses don’t align their KPIs at each level. The old saying what gets measured gets managed applies here. Because you are measuring performance, employees will look for ways to improve their individual or team metrics first. These incentives may mean that employees meet the measurement targets without actually adding business value. As in the example of billable hours, many professional service firms (attorneys, accountants, etc) have billable hour targets for their employees. This creates an incentive for employees to work longer on a project, as long as the extra hours can be billed because they will look better to their boss for higher billable hours. The problem is if it took 10 hours but they could have done it in 5 hours they are hurting the business and the client as well all while “hitting their targets.”
It is of the utmost importance to appreciate strategy versus tactics to understand how to apply performance measurement at lower levels. The business owner sees the strategy and knows what drives business value. The employees just focus on day-to-day tactics and they follow the incentives you create for them. If you ask for more billable hours, they will give it to you. However, just remember that more billable hours don’t equate to a better work product or happier customers. Build your performance measurement system at lower levels to really align with your top-level strategy.
Iterate with Continuous Monitoring
Another key point is that KPIs should be continuously monitored over time for trend analysis, on as close to a real-time basis as possible. This allows you to get timely data and track trends so you can take immediate action when the data points don’t align with expectations. When that happens, first investigate to find the root cause of the underperformance and then implement changes.
For example, if you see your conversion rates drop on a landing page one month after it launched and you know that the new design increased conversions by 25% when it was tested beforehand. This should trigger immediate action to find out why the rate dropped so much and what can be done about it. Otherwise, future revenues growth will take a bigger hit than expected because of this underperformance. Possible causes could be an external change such as Google changing its algorithm or a change in customer buying behavior. It’s important to get the data as quickly as possible in order to remedy the situation.
In conclusion, designing and implementing an effective performance management system should include both leading and lagging key performance indicators, quantitative and qualitative KPIs, and KPIs at all levels of the organization. KPIs should be specific, measurable, actionable, relevant, and within a time frame. Remember it is important to align KPIs with your business strategy and objectives, so everyone in the business implements tactics day to day that supports the overall goals. It’s equally important to monitor performance trends over time, on a real-time basis to allow for timely corrective actions when necessary. Now that you have the basics, you can review your current performance management processes and identify areas for improvement.
