Balanced Scorecard Basics

The balanced scorecard is a strategic planning and management system that is used extensively in
business and industry, government, and nonprofit organizations worldwide to align business activities to
the vision and strategy of the organization, improve internal and external communications, and monitor
organization performance against strategic goals. It was originated by Drs. Robert Kaplan (Harvard
Business School) and David Norton as a performance measurement framework that added strategic non-
financial performance measures to traditional financial metrics to give managers and executives a more
'balanced' view of organizational performance. While the phrase balanced scorecard was coined in the
early 1990s, the roots of the this type of approach are deep, and include the pioneering work of General
Electric on performance measurement reporting in the 1950’s and the work of French process engineers
(who created the Tableau de Bord – literally, a "dashboard" of performance measures) in the early part of
the 20th century.

The balanced scorecard has evolved from its early use as a simple performance measurement framework
to a full strategic planning and management system. The “new” balanced scorecard transforms an
organization’s strategic plan from an attractive but passive document into the "marching orders" for the
organization on a daily basis. It provides a framework that not only provides performance measurements,
but helps planners identify what should be done and measured. It enables executives to truly execute
their strategies.

This new approach to strategic management was first detailed in a series of articles and books by Drs.
Kaplan and Norton. 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. The balanced scorecard is a management system
(not only a measurement system) that enables organizations to clarify their vision and strategy and
translate them into action. It provides feedback around both the internal business processes and external
outcomes in order to continuously improve strategic performance and results. When fully deployed, the
balanced scorecard transforms strategic planning from an academic exercise into the nerve center of an
enterprise.

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 relationships 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."
Perspectives

The balanced scorecard suggests that we view the organization from four perspectives, and to develop
metrics, collect data and analyze it relative to each of these perspectives:

The Learning & Growth Perspective

This perspective includes employee training and corporate cultural attitudes related to both individual and
corporate self-improvement. In a knowledge-worker organization, people -- the only repository of
knowledge -- are the main resource. In the current climate of rapid technological change, it is becoming
necessary for knowledge workers to be in a continuous learning mode. Metrics can be put into place to
guide managers in focusing training funds where they can help the most. In any case, learning and growth
constitute the essential foundation for success of any knowledge-worker organization.

Kaplan and Norton emphasize that 'learning' is more than 'training'; it also includes things like mentors
and tutors within the organization, as well as that ease of communication among workers that allows them
to readily get help on a problem when it is needed. It also includes technological tools; what the Baldrige
criteria call "high performance work systems."

The Business Process Perspective

This perspective refers to internal business processes. Metrics based on this perspective allow the
managers to know how well their business is running, and whether its products and services conform to
customer requirements (the mission). These metrics have to be carefully designed by those who know
these processes most intimately; with our unique missions these are not something that can be developed
by outside consultants.

The Customer Perspective

Recent management philosophy has shown an increasing realization of the importance of customer focus
and customer satisfaction in any business. These are leading indicators: if customers are not satisfied,
they will eventually find other suppliers that will meet their needs. Poor performance from this perspective
is thus a leading indicator of future decline, even though the current financial picture may look good.

In developing metrics for satisfaction, customers should be analyzed in terms of kinds of customers and
the kinds of processes for which we are providing a product or service to those customer groups.

The Financial Perspective

Kaplan and Norton do not disregard the traditional need for financial data. Timely and accurate funding
data will always be a priority, and managers will do whatever necessary to provide it. In fact, often there
is more than enough handling and processing of financial data. With the implementation of a corporate
database, it is hoped that more of the processing can be centralized and automated. But the point is that
the current emphasis on financials leads to the "unbalanced" situation with regard to other perspectives.
There is perhaps a need to include additional financial-related data, such as risk assessment and cost-
benefit data, in this category.

The Balanced Scorecard

Traditional financial performance metrics provide information about a firm's past results, but are not well-suited for predicting future
performance or for implementing and controlling the firm's strategic plan. By analyzing perspectives other than the financial one,
managers can better translate the organization's strategy into actionable objectives and better measure how well the strategic plan is
executing.

The Balanced Scorecard is a management system that maps an organization's strategic objectives into performance metrics in four
perspectives: financial, internal processes, customers, and learning and growth. These perspectives provide relevant feedback as to
how well the strategic plan is executing so that adjustments can be made as necessary. The Balance Scorecard framework can be
depicted as follows:

The Balanced Scorecard (BSC) was published in 1992 by Robert Kaplan and David Norton. In addition to measuring current
performance in financial terms, the Balanced Scorecard evaluates the firm's efforts for future improvement using process, customer,
and learning and growth metrics. The term "scorecard" signifies quantified performance measures and "balanced" signifies that the
system is balanced between:

• short-term objectives and long-term objectives

• financial measures and non-financial measures
• lagging indicators and leading indicators
• internal performance and external performance perspectives

Financial Measures Are Insufficient

While financial accounting is suited to the tracking of physical assets such as manufacturing equipment and inventory, it is less
capable of providing useful reports in environments with a large intangible asset base. As intangible assets constitute an ever-
increasing proportion of a company's market value, there is an increase in the need for measures that better report such assets as loyal
customers, proprietary processes, and highly-skilled staff.

Consider the case of a company that is not profitable but that has a very large customer base. Such a firm could be an attractive
takeover target simply because the acquiring firm wants access to those customers. It is not uncommon for a company to take over a
competitor with the plan to discontinue the competing product line and convert the customer base to its own products and services.
The balance sheets of such takeover targets do not reflect the value of the customers who nonetheless are worth something to the
acquiring firm. Clearly, additional measures are needed for such intangibles.

Scorecard Measures are Limited in Number

The Balanced Scorecard is more than a collection of measures used to identify problems. It is a system that integrates a firm's strategy
with a purposely limited number of key metrics. Simply adding new metrics to the financial ones could result in hundreds of measures
and would create information overload.

To avoid this problem, the Balanced Scorecard focuses on four major areas of performance and a limited number of metrics within
those areas. The objectives within the four perspectives are carefully selected and are firm specific. To avoid information overload, the
total number of measures should be limited to somewhere between 15 and 20, or three to four measures for each of the four
perspectives. These measures are selected as the ones deemed to be critical in achieving breakthrough competitive performance; they
essentially define what is meant by "performance".

A Chain of Cause-and-Effect Relationships

Before the Balanced Scorecard, some companies already used a collection of both financial and non-financial measures of critical
performance indicators. However, a well-designed Balanced Scorecard is different from such a system in that the four BSC
perspectives form a chain of cause-and-effect relationships. For example, learning and growth lead to better business processes that
result in higher customer loyalty and thus a higher return on capital employed (ROCE).

Effectively, the cause-and-effect relationships illustrate the hypothesis behind the organization's strategy. The measures reflect a chain
of performance drivers that determine the effectiveness of the strategy implementation.

Objectives, Measures, Targets, and Initiatives

Within each of the Balanced Scorecard financial, customer, internal process, and learning perspectives, the firm must define the
following:

• Strategic objectives - what the strategy is to achieve in that perspective.

• Measures - how progress for that particular objective will be measured.
• Targets - the target value sought for each measure.
• Initiatives - what will be done to facilitate the reaching of the target.

The following sections provide examples of some objectives and measures for the four perspectives.

Financial Perspective

The financial perspective addresses the question of how shareholders view the firm and which financial goals are desired from the
shareholder's perspective. The specific goals depend on the company's stage in the business life cycle.
For example:

• Growth stage - goal is growth, such as revenue growth rate

• Sustain stage - goal is profitability, such ROE, ROCE, and EVA
• Harvest stage - goal is cash flow and reduction in capital requirements

The following table outlines some examples of financial metrics:

Objective Specific Measure

Growth Revenue growth
Profitability ROE
Cost leadership Unit cost

Customer Perspective

The customer perspective addresses the question of how the firm is viewed by its customers and how well the firm is serving its
targeted customers in order to meet the financial objectives. Generally, customers view the firm in terms of time, quality, performance,
and cost. Most customer objectives fall into one of those four categories. The following table outlines some examples of specific
customer objectives and measures:

Objective Specific Measure

New products % of sales from new products
Responsive supply On time delivery
To be preferred supplier Share of key accounts
Customer partnerships Number of cooperative efforts

Internal Process Perspective

Internal business process objectives address the question of which processes are most critical for satisfying customers and
shareholders. These are the processes in which the firm must concentrate its efforts to excel. The following table outlines some
examples of process objectives and measures:

Objective Specific Measure

Manufacturing excellence Cycle time, yield
Increase design productivity Engineering efficiency
Reduce product launch delays Actual launch date vs. plan

Learning and Growth Perspective

Learning and growth metrics address the question of how the firm must learn, improve, and innovate in order to meet its objectives.
Much of this perspective is employee-centered. The following table outlines some examples of learning and growth measures:

Objective Specific Measure

Manufacturing learning Time to new process maturity
Product focus % of products representing 80% of sales
Time to market Time compared to that of competitors

Achieving Strategic Alignment throughout the Organization

Whereas strategy is articulated in terms meaningful to top management, to be implemented it must be translated into objectives and
measures that are actionable at lower levels in the organization. The Balanced Scorecard can be cascaded to make the translation of
strategy possible.

While top level objectives may be expressed in terms of growth and profitability, these goals get translated into more concrete terms
as they progress down the organization and each manager at the next lower level develops objectives and measures that support the
next higher level. For example, increased profitability might get translated into lower unit cost, which then gets translated into better
calibration of the equipment by the workers on the shop floor. Ultimately, achievement of scorecard objectives would be rewarded by
the employee compensation system. The Balanced Scorecard can be cascaded in this manner to align the strategy throughout the
organization.
The Process of Building a Balanced Scorecard

While there are many ways to develop a Balanced Scorecard, Kaplan and Norton defined a four-step process that has been used across
a wide range of organizations.

1. Define the measurement architecture - When a company initially introduces the Balanced Scorecard, it is more
manageable to apply it on the strategic business unit level rather than the corporate level. However, interactions must be
considered in order to avoid optimizing the results of one business unit at the expense of others.
2. Specify strategic objectives - The top three or four objectives for each perspective are agreed upon. Potential measures are
identified for each objective.
3. Choose strategic measures - Measures that are closely related to the actual performance drivers are selected for evaluating
the progress made toward achieving the objectives.
4. Develop the implementation plan - Target values are assigned to the measures. An information system is developed to
link the top level metrics to lower-level operational measures. The scorecard is integrated into the management system.

Balanced Scorecard Benefits

Some of the benefits of the Balanced Scorecard system include:

• Translation of strategy into measurable parameters.

• Communication of the strategy to everybody in the firm.
• Alignment of individual goals with the firm's strategic objectives - the BSC recognizes that the selected measures influence
the behavior of employees.
• Feedback of implementation results to the strategic planning process.

Since its beginnings as a peformance measurement system, the Balanced Scorecard has evolved into a strategy implementation system
that not only measures performance but also describes, communicates, and aligns the strategy throughout the organization.

Potential Pitfalls

The following are potential pitfalls that should be avoided when implementing the Balanced Scorecard:

• Lack of a well-defined strategy: The Balanced Scorecard relies on a well-defined strategy and an understanding of the
linkages between strategic objectives and the metrics. Without this foundation, the implementation of the Balanced
Scorecard is unlikely to be successful.
• Using only lagging measures: Many managers believe that they will reap the benefits of the Balanced Scorecard by using a
wide range of non-financial measures. However, care should be taken to identify not only lagging measures that describe
past performance, but also leading measures that can be used to plan for future performance.
• Use of generic metrics: It usually is not sufficient simply to adopt the metrics used by other successful firms. Each firm
should put forth the effort to identify the measures that are appropriate for its own strategy and competitive position.

Measures are balanced

Between the outcome measures—the results
from Past efforts---and the measures that drive
future performance

BALANCED SCORECARD
4 Perspectives permit a balance between

Short term and long term objectives

Outcomes and performance drivers
Hard objectives measures and
Soft objective measures