A key performance indicator (KPI) is a metric that is generated to monitor significant elements of your business. The increasing use of cloud based accounting systems is streamlining the collection of data and enhanced add-ons makes this information available via dashboard reports and other reporting capabilities.
The most effective use of KPIs promotes cross-functional areas within a business to monitor results, adopt timely changes and provide an element of accountability for results. This is not merely an accounting function; the use of KPIs should mandate a holistic company approach that will engage business owners, management, operations, human resources, accounting and other functional areas.
The integration of cross-functional areas under a holistic company approach will add value when setting expectations for the future. In a fast changing disruptive business environment simply looking in the rear-view mirror at past historical results will not provide the best map for the future. In addition, industry benchmarks and forecasts will further enhance the integration of KPIs by providing comparisons to your competition and indicators as to how changing economic conditions will have an impact on your business.
There are four common elements among companies that have effectively implemented KPIs:
• Engagement of an empowered team involving cross functional areas
• Assurance the data being utilized is complete and accurate
• Design of a plan that prevents information overload
• Execution of a strategy that translates knowledge into practical solutions
The focus for many companies has been on maintaining or growing the gross sales volume. Yet upon the implementation of KPIs, many companies have realized that they were working harder but yielding a lower bottom line than expected. Utilising KPIs can facilitate the analysis of revenue by customer, items by customer, gross profit percentage by customer, returns by customers and revenue by product line. In addition, this process may further identify customer concentrations and mitigate credit risks.
Inventory management techniques are a key component of supplier KPIs —understanding the costs associated with carrying excess inventory versus the lost opportunities involved with having low inventory levels. KPIs relating to suppliers should address product concentrations, supplier backlogs (promise versus actual), return orders processed and price per unit. In addition, this process may take into account payment terms, in-bound freight charges and order cycle times. The process of understanding your supplier’s tendencies may identify unexpected results and expose opportunities for future improvements.
In a flat economy, personnel discussions often involve talk of ‘rightsizing’ or implementing reduced working hours. However, KPIs can provide valuable insight into the workload of a company’s staff and can enhance personnel decisions by taking into account data such as the average hourly rate, revenue per employee, allocation of head count by department, return orders by employee and employee order ratios. These KPIs provide the opportunity to assess production and departmental efficiencies which assist in the implementation of change. This process further validates the ‘rightsizing’ concept, if necessary.
The design of financial KPIs should be assessed on a quantitative and qualitative level, with both the balance sheet and income statement in mind. Credit risk is on the radar of most companies and encompasses accounts receivable aging analysis, collection periods and average days outstanding. Other key financial indicators include current and quick ratios, inventory turnover, debt to equity, return on assets, return on equity and gross profit percentage.
The most important word in the KPI acronym is key. Information overload can result from too much data, which in turn can lead to difficulty understanding issues and making decisions. Establishing a key set of performance indicators will provide a company the opportunity to more effectively monitor performance, make decisions and implement change in an ever-evolving business environment.