One of the first steps that an organization takes is to define what it wants to achieve. These achievements are often expressed in the form of objectives, with primary objectives that focus on financials (tangibles) and the secondary objectives that focus on non-financials (intangibles). Corporate Performance needs to take into account the performance of both tangibles and intangibles.
For many years it has been recognised that "Intangibles, difficult to measure resources, are driving the creation of wealth in many organisations."1 Intangibles (non-financials) give an indication of the future growth potential of an organisation, its ability to change and ability to achieve its goals. In the past organisations have been unable to measure and quantify the intangibles and link them to either revenue generation, cash flow or costs. The result of this is that the intangibles have been treated as peripheral rather than core to organisational sustainability. Still today, 2004, many of the performance systems are extensions of accounting and count only what can be counted!
Intangibles form the basis of any product or service provision provided by a business, a business unit, or a program. For example, the sale of a product or service requires a competent marketing and salesforce. i.e. The sale of a tangible product requires the intangibles to sell it. As organizations become more aware of importance of intangibles and the value they contribute to the bottom line, the measurement and management of intangibles becomes vital. The management of intangibles needs decision relevant information, and this is dependent on reliable measurement.
Our clients tell us that our "rigorous process produces reliable measures and provides a solid basis for value modelling."2Our approach to measuring business value focuses on:
|Importance:||The identification of the intangibles that are the most important to the organization. Different perspectives from various teams or stakeholders are captured.|
|Performance:||The measurement of the performance of intangibles.|
|Business Value:||The combined measurement of the performance of intangibles and tangibles.|
|Cost Effectiveness:||The measurement of cost effectiveness.|
|Value Contribution:||The quantification of the value contribution of intangibles in terms of cash flow, revenues and costs of the organization.|
|Insights for Organisational Improvement:||The identification of key areas for change and improvement that will have the greatest impact to returns.|
Reflecting the business or program's objectives, our comprehensive value measurement system constructs a hierarchical system. The breadth of this system should reflect all the independent variables required to achieve these objectives. This hierarchy is illustrated in Figure 1.
Figure 1: Value Measurement System
The performance of the intangibles is combined at each level of the hierarchy, into a single indicator of combined intangible performance, indicating current or future maximum business achievement.
This method of combination is based on accepted measurement rules and theories that have been used by mathematicians and measurement specialists for decades: "Many objects cannot be scaled so as to combine additively. Rather, some other combination rule is appropriate."3 It is widely accepted that value cannot be added or aggregated hierarchically reliably and accurately. For example, how do you add performance and safety, or reputation and cash flow? These values need to be measured and combined reliably.
To develop a performance measurement system for intangibles, the organization must determine performance indicators for their objectives that incorporate quality and not just quantity. For example, an organization's objectives may include "Achieve a High Reputation". The problem is how to measure reputation. Alternatives include measures such as Corporate Citizenship and community partnership projects, Professionalism and customer complaints, Brand Awareness and customer mind-share, Public Profile and papers presented and published, Corporate Governance and audit committee members. These measures are combined hierarchically into a single indicator of intangible performance (where 1 = Achievement of Objectives).
The performance of intangibles must then be combined with the performance of tangibles to derive Corporate Performance. This determines overall how well the organization has achieved its objectives. Only then can the ratio of intangible and tangible performance be determined. Then value contribution of intangibles can be quantified in financial terms. This is illustrated in Figure 2.
Figure 2: Corporate Performance and Value Contribution
Insights for organisational change and improvement in the areas that will have the greatest impact to returns can be readily identified from the sensitivity analysis and the summary comparison graphs.
Figure 3: Sensitivity Analysis for an Objective
Figure 4: Insights for Organisational Improvement
This rigorous and systematic approach to corporate performance measurement leads to more effective decision making. While the process is not easy, it is necessary for managing and improving an organizations performance in today's environment.
There are challenges in the ongoing maintenance of a corporate performance measurement system. The system needs to evolve with the business and requires people who are competent in performance measurement and management information.
However, when you face the challenge of being able to quantify and demonstrate corporate performance and the value contribution to the current or future financials of the business, whether it be in considering outsourcing or in-sourcing, service level agreements, business combinations, corporate governance, new investments, new ventures or business sustainability we recommend that you select a system that measures and combines intangibles and tangibles. All these situations require an in-depth understanding of value contribution far beyond the limitations of only financial information.
This framework was developed using IVMTM. Building4Business Pty Ltd is the Australasian provider of IVMTM services.
1. Sloan Management Review Spring 1997.
2. World renowned mining organisation.
3. D.H.Krantz, R, Duncan Luce, Patrick Suppes, Amos Tversky, "Foundations of Measurement: Vol 1 - Additive and Polynomial Representations", Academic Press 1971, page 316.