Special report - Performance measurement
Measuring the performance of investment in corporate activity is one of the most difficult challenges for the finance director (FD), who is often charged with ensuring value for money from these activities. Hard performance measures such as return on investment, economic value added, sales, profits etc are available, but functional activities usually have no independent objective measures.
This special report aims to offer suggestions of how these activities can be measured. Although the report does not overtly aim to help FDs to fulfil the obligations of the operating and financial review (OFR), some of the issues raised may help.
Following the introduction by Andy Neely and the two-page executive summary, the report begins with an overview of the measurement of service functions, written by Sir Andrew Likierman. My own contribution on developing a procedure for the finance function is followed by articles from experts in marketing, the corporate centre, information technology, the board and human resources. The underlying message of the report is that FDs are experts in measurement, which is often non-financial, and they need to work with other members of the management team to decide how to measure success in each particular area.
It is necessary to distinguish between measurement and management. Measurement is of course a means to an end, namely good management, and measurement in isolation is of little use. However measurement itself is difficult and often neglected in the haste to manage. Performance management is often a mask for myriad 'business solutions'. Performance measurement is at the heart of what accountants do and we are experts in measurement. But it is not easy. The growth in importance of intangibles has made measurement even harder.
Professors Ittner and Larcker at Wharton have done some impressive research into the importance of causality in performance measurement. They have demonstrated that increasingly companies are measuring non-financial measures of performance that they believe affect probability. But they do not relate these measures to the company's strategic goals or establish a connection between activities undertaken and financial outcomes achieved. Although each part of this report stands alone, the measures proposed should be part of an holistic framework, linked into the organisation's strategy and with tested causal relationships.
The financial reporting model is recognised as being insufficient to report on the whole of corporate activity. If accounting was ever a science, it is now more than ever an art form with narrative reporting an essential part of the corporate report. The measures that this report deals with provide a challenge in finding scientific solutions which are objectively robust.
Published by the Finance and Management faculty (SR9 - September 2005)
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