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Key Performance Indicators

by Duncan Williamson
March 2007

Key Performance Indicators or KPIs are becoming more and more important these days.
There is no annual report worth its salt that doesnt have its own full set of KPIs either.
However, what are KPIs and where do they come from?

The first thing to appreciate is that a KPI can be a straight forward financial ratio or it can be
something much less well know or less financio centric than that.

Definition of Key Performance Indicators

KPIs are financial and non financial values used to quantify objectives that are intended to
reflect the strategic performance of an organization.

Key Management Ratios

In the FT Prentice Hall Key Management series of books there is one called Key Management
Ratios by Ciaran Walsh. The contents page of that book includes the following:

1. Operating Performance
i measures of performance
ii operating performance
2. Corporate Liquidity
i cash flow cycle
ii liquidity
iii financial strength
iv cash flow
3. Determinants of Corporate Value
i corporate valuation
ii financial leverage and corporate valuation
iii growth
4. Management Decision Making
i cost, volume and price relationships
ii investment ratios
iii shareholder value added
iv acquisition analysis

Here is a sample of the ratios in the Walsh book, taken just by flicking through the book,
almost at random:

return on equity
sales total assets
sales fixed assets
P/E ratio
market/book ratio
growth equilibrium
relative contributions
return on invested capital
of capital weighted average cost
cost fixed and variable

split
return on total equity
return on equity

Key Performance Indicators
where appropriate Duncan Williamson March 2007
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How many of Walshs ratios can be classified as KPIs and does my sample show anything
ct
ios
ill dominate the world of the accountant and the financial manager. This is in spite of the
nts and other managers to use them!
) shows us a series of KPIs for the Banking, Petroleum and Retail
dustries: you might use some or all of these KPIs already. If not, they should surely be food
t for you.
unusual about the ratios Walsh has chosen to include in the book?

All of Walshs ratios can also be said to be KPIs; but whats missing is the non financial aspe
of them. There are very few non financial ratios in the Walsh book. Moreover, financial rat
st
extent of the movement towards teaching accounta

Examples for Banking, Petroleum and Retail

The table that follows, taken from a PriceWaterhouseCoopers (2006a) report on KPIs (see
references at the end
in
for though

Banking Petroleum Retail
Customer retention Capital expenditure Capital expenditure
Customer penetration Exploration success rate Store portfolio changes
Asset quality Refinery utilisation Expected return on new stores
Capital adequacy Refinery capacity Customer satisfaction
Assets under management Volume of proven and probable reserves Same store/like for like sales
Loan loss Reserve replacement costs Sales per square foot/me

tre
onsider the industries, trades and professions you are working with and see how your KPIs
n KPIs if you dont currently have any.
I eyed

mpanies
selected were chosen using a random sampler tool on a complete list (excluding investment
UK listed companies sorted by market cap. The sample comprised:

28
e
KPIs are often not clearly identified or it is left to the reader to determine what they are
strategic objectives
The overwhelming majority of KPIs are financial
questions and pointers that we must consider
rts
C
compare. Develop your ow

Any Other Thoughts?

n another report, PWC (2006b) might shock you with the following findings. PWC surv
A total of 12 4 companies annual reviews and reports were analysed. The co
trusts) of

FTSE 100 16
Mid cap
Small cap 80

This is what PWC found:

50% had an EPS measur
28% disclosed return on capital employed
11% disclosed turnover

As far as KPIs are concerned, they also found:

KPIs are provided by only one fifth of companies

Very few companies link the KPIs they report to their


The PWC (2006a) report does two further things for us:

it leads us through a series of
it provides lots of good, practical examples from real annual repo

Key Performance Indicators
where appropriate Duncan Williamson March 2007
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Lets look at each of these in turn

Key Questions and Pointers for Key Performance Indicators

How many KPI s? Giving the reader multiple performance measures without explaining
which ones are key to managing their business does not aid transparency the choice of
which ones are key is unique to each company and its strategy; it is therefore impossible to
specify how many KPIs a company should have. However, our experience suggests that
between four and ten measures are likely to be key for most types of company.

Segmental or group KPIs? Management need to consider how KPIs are collated and
reported internally: whether they make sense when aggregated and reported at a group
level, or would be more usefully reported at business segment level. In some instances it may
be more appropriate to report separately KPIs for each business segment if the process of
aggregation renders the output meaningless. For example it is clearly more informative to
report a retail business segment separately rather than combining it with a personal financial
services segment.

Reporting Key Performance Indicators

A model for effective communication We have developed the guidance below from t
ASB's Reporting Statement and our own extensive knowledge from nearly a decade of
research into how companies communicate effectively with their investors.

Link to strategy The prim
he
ary reason for including performance indicators in corporate
porting is to enable readers to assess the strategies adopted by the company and their
ce versa,
re
potential to succeed. KPIs presented in isolation from strategies and objectives, or vi
cannot fulfil this requirement and will fail to provide the reader with the level of
understanding they need.

Definition and calculation Given the rapidly increasing usage of industry specific
terminology, clear definitions of performance indicators add greatly to the reader's
nderstanding of exactly what is being measured and allows comparisons between companies u
within an industry. In the absence of standards for the measurement of many industry
specific indicators and with many companies also applying their own indicators, an
explanation of the components of a metric and how it is calculated is vital.

Purpose It is important for management to explain why they believe a performance indicator
ment of
entify the sources of the data used in
lculating performance indicators and any limitations on that data. Any assumptions made in
of
is relevant. In many instances this will be because it measures progress towards achieving a
specific strategic objective. The rationale for why certain quantified measures are considered
"other performance indicators" should also be communicated.

Source, assumptions and limitations To enable readers to make their own assess
the reliability of the information, it is important to id
ca
measuring performance should be explained so of that readers can reach an informed view
judgements made by management. An indication of the level, if any, of independent
assurance of the data ring would also be valuable.

Future targets Some performance indicators are best suited to a quantification of future
targets. Expectations and aims for other indicators may be better explained in commentary.
Either way, a forward looking orientation is essential for readers to assess the potential for
strategies to succeed, and to give them a basis against which to assess future performance.

Key Performance Indicators
where appropriate Duncan Williamson March 2007
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The Examples

In this section, I present extracts from the PWC report of the KPIs they have found from a
wide variety of companies and their reports. I might not necessarily have found the best
examples as far as you are concerned; but their main purpose is to get you to consider
alternatives to the ones you might have been using.







Key Performance Indicators
where appropriate Duncan Williamson March 2007
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Key Performance Indicators
where appropriate Duncan Williamson March 2007
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Conclusions

It is becoming vital even in the SME sector for accountants and other managers to appreciate
the nature and meaning of the KPIs appropriate to themselves and their clients. In this
summary I have simply tried to share a series of examples, questions and pointers that I feel
are helpful as aids to better reporting and decision making.

References

Ciaran Walsh (2002)
Key Management Ratios 3/e
FT Prentice Hall

PriceWaterhouseCoopers (2006a)
Guide to key performance indicators: communicating the measures that matter

PriceWaterhouseCoopers (2006b)
Show me more than the money: an assessment of how prepared companies are for the
business review

See these PWC reports in full at
http://www.ofr.pwc.com/uk/tls/ofr/ofr.nsf/folders/Practical%20guides?Open
Key Performance Indicators
where appropriate Duncan Williamson March 2007
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