A Guide to Understanding Key Performance Indicatorsposted on 20-3-17-Tue 11:40
Every organization should have a way to measure how well it is reaching set targets. Unfortunately, many businesses and organizations do not understand what key performance indicators (KPI) are, and what their role is in making better decisions.
If you want to find out more about KPIs and their role in spurring an organization to where it wants to be, this guide contains all you need.
What are KPIs?
KPIs are measurable factors that highlight how efficiently and effectively an organization is achieving its objectives. They give a clear picture of the current performance levels of the segments of an organization.
In an organization, there are usually two types of performance indicators; high-level and low-level indicators. The high-level indicators may focus on the business' overall function. In contrast, the low-level ones may focus on how individual departments like finance, supply chain, and manufacturing are reaching their goals. Nevertheless, KPIs can also be used to gauge employee performance levels with respect to their objectives.
Differences between KPI, Metrics, and Measure
KPIs, metrics, and measures are three words that are used interchangeably. However, they don't mean the same thing.
While a KPI tells you if you've reached your target, a metric is a numeric measure that determines the level of a process. On the other hand, a measure is a value that can be added. They can also be seen as quantifiable actions that may impact key performance indicators.
Here's an example to explain the difference between a KPI, metric, and a measure:
Imagine you work for an IT company. If the objective is to increase profit by 10%, then one of the KPIs to achieve this could be the number of software downloads from its site. A metric, in this example, could be the number of social shares, while the measure might be the number of times users click a link.
When are KPIs useless?
There's no doubt that KPIs are useful to any organization. However, here are some situations when they are useless:
1. The KPI has no goal that it relates to:
Before implementing and tracking any KPI, the right thing to do is to go back to the 'why.' This means asking questions like, 'why is this regarded as a KPI, and how does the indicator affect my organization's advancement?'
If these questions are not answered clearly and spontaneously, then the indicator is probably of no good.
2. The KPI has several definitions:
With the clear use of a KPI in mind, the next question to ask is, what exactly does it mean? This ensures that everyone on your team is on the same page as regards the KPI's definition.
3. The KPI cannot be tracked or measured:
If you cannot measure a KPI, then there's no way to ascertain whether a business is on the right track or not. For example, imagine a marketing company seeks to increase the number of visitors to a website. Using the mood of customers as a KPI may not do the company much good because such value is difficult to measure.
Types of KPIs
The five main types of KPIs are;
1. Business KPIs: These are pointers to how well a business is doing in meeting its preset objectives. Business KPIs also help to identify areas of stagnancy and may include:
- Acquisition rate
- Customer growth rate
- Rate of churn
2. Sales KPIs: Sales KPIs are used by sales experts to ensure they are meeting their key goals. Some of them include:
- Monthly Sales
- Lead conversion ratio
- Revenue per sales representative
3. Marketing KPIs: These indicators show how the marketing department of an organization is faring. They include:
- Marketing leads
- Website traffic for each brand
- Promoter score
4. Financial KPIs: Financial KPIs show how a company is doing in terms of the profit made and asset acquired. They include:
- Net income
- Budget variance
- Cash flow
5. Project Management KPIs : These are indicators that managers and supervisors of projects use to determine their progress status. Some of them include:
- Efficiency of resource use
- Earned value
Developing the right KPIs for a business
If you want to drive positive changes in your organization, then you should consider following these steps:
1. Have a strategy
There are lots of KPIs to select from, so if you don't have a strategy, anyone that pops up will seem like the perfect one for your organization or business. Therefore, the starting point in developing the right KPI is in having a strategy to work with. An excellent way to go about this is to clearly state what your organization or business' objectives are on a one-page document and work around them.
2. Find unanswered questions from your strategy
Once you develop a strategy, the next stage is to find questions that will narrow your final choice of KPI for your business. For example, if a business's strategy is to increase the overall production in a manufacturing company, one of the questions you could ask is, 'Which manufacturing lines produce the most, and what configurations of machines will help produce more output?'
The indicator you eventually go for must not only relate to your strategy but also raise questions that stem from it.
3. Identify the information required
At this stage, you need information or data that'll help provide the answers to the questions you have. This step has to be done thoroughly so that every piece of information or data gotten can answer the questions that have been raised in the previous step.
4. Compare with the current data
Answers to the questions that pop up from your strategy are your targets. At this stage, you'll need to compare your existing data with these targets. You should also be able to spot the things you need to implement or change.
At this stage, the KPIs that your business needs may be easy to extract. However, there's still a lot of work to be done. Stay with us.
5. Identify supporting data
Working with only the data from your company is risky. There may be industry information, trend statistics, or other supporting data that may show that your KPI isn't useful. So, at this stage, find them and make sure they match with those of the organization or business.
6. Determine how the KPI should be measured and how often
Knowing what to measure answers one half of the puzzle. The other half that remains unanswered is how to go about the measurement and how frequently it should be done. Finding the right measurement method and frequency depends on the business or organization that needs the data. For example, measuring the churn rate in a year's second quarter is of no good if a business or organization needs insights in the third quarter.
7. Assign someone to track and measure the KPI
A member of the team needs to be given ownership of providing measurements and reports for KPIs. If this function is too large to be handled by a single person, it can be split among members. In either case, the role of each person must be clearly defined.
8. Communicate the KPI with stakeholders
Communication is key in stakeholder management. So, everyone, including employees, must be carried along. However, sharing KPIs with stakeholders is not the same as communicating them, which is a mistake many businesses and organizations make.
To communicate the KPI effectively, stakeholders need context to make sense of the indicators. Therefore, you have to break it down. This implies not only explaining why a KPI is used but also the reason it was chosen over the others. Listening to the feedback from your stakeholders will highlight whether the objectives of the business or organization have been communicated. They might also know how to improve the KPI.
9. Review the KPIs to ensure they are functioning properly
The essence of a KPI is to help businesses and organizations make better decisions. Therefore, you'll need to review them regularly to ensure they are as relevant as when the business first started using them. In most organizations, the norm is to review the KPIs at the end of a business cycle and see whether they have functioned as they should.
10. Change the KPI to suit the business's needs
When a KPI isn't updated, it may cease to be useful to the business. Take, for example, a bank opens a new branch in another country. The competition in that region may be different from that in the headquarters. So, it makes no sense for the workers to be chasing targets that have not been adjusted to suit their environment.
What is a SMART KPI?
The usefulness and relevance of a KPI can be examined using the SMART acronym. SMART is a mnemonic that stands for Specific, Measurable, Achievable, Relevant, and Time-Bound.
Specific: This means if you want to drive changes in a business or organization, the goals and objectives you set for your KPI must be specific and clear. Highly-specific goals have a higher chance of being achieved than their generic counterparts. They must also be quantifiable.
For example, having an objective of increasing sales by 15% is specific, and more likely to get achieved than a goal only to increase sales.
Measurable: As we mentioned earlier, KPIs should be measurable so that you can identify when the business or organization has achieved set goals.
Attainable: Your KPI's goals should be realistic and realizable. An objective is considered attainable if a business can reach the target in a short while. Therefore, long-term goals are unrealizable unless the short-term ones are attainable. For example, an objective to get two new customers to a fishery business every day is attainable. It is in line with the long-term objective of topping the customer base by 14% every year.
Relevant: Goals must be relevant and important to businesses. For example, increasing online engagement on social media sites by 30% for a company that manufactures replaceable gums is attainable and measurable. However, the goal is not relevant to the company since most of its customers (the elderly) are not active on social media.
Time-frame: Measures to achieve a goal shouldn't go on forever, and there must be a sense of urgency attached to meeting targets.
Are performance indicators still relevant?
Over the years, different people have had negative connotations about KPIs, and nowadays, lots of companies see monitoring them as an effort in futility. The primary reason for this is the lack of communication and understanding of what objectives they are to achieve.
Nevertheless, KPIs are vital in any organization's planning phase. They are used to keep leaders informed of the position of a business or organization in achieving objectives. They also help to identify key issues with a process, before further investigation of the root-cause is made.
The role of key performance indicators in employee engagement
Writing and developing a KPI might be a good choice for anyone who wants to take a business to the next level. However, KPIs are also useful in employee engagement.
Here's how they'll help you organize your team.
1. Performance indicators make sure everyone is moving in the same direction
A problem that many leaders face in an organization is how to bring members, usually from different departments or levels, to work to achieve the same goal. While marketing employees are concerned with how employees accept the product, the technical workers are focused on following the latest technological trends in the world and infusing them into the business process. In a situation where there are specific functions each person is to carry out, adopting KPIs helps in highlighting how everything fits eventually.
2. KPIs are excellent ways to communicate an organization's end-result
Workers may get so engrossed with work that they fail to understand the 'why' of the entire process. When this happens, frustration kicks in, and at a later state, disengagement. KPIs will reveal the purpose of the work, and the result the organization is driving towards at the end of the day.
Why is it essential to select the right KPI?
Picking the right KPI is what ensures the growth of a business. If a company selects, tracks, and executes projects to meet a KPI that isn't relevant to its advancement, then what is the point?
So, for leaders and department heads to make better judgments and improve the performance of an organization, the right KPI must be selected.
How are KPIs reported?
For KPIs to be useful to an organization, they must also be reported properly. While creating KPIs that show the snapshot of an organization at a particular time is important, there's also work to be done in reporting them accurately.
A KPI report is a presentation that shows the objectives of a company against its indicators. It could take several forms, which include dashboards, spreadsheets, or PowerPoint slides, and these reports are usually communicated at intervals.
For example, if a company decides to track the churn rate of customers, several factors could impact its value. So, a company could track the number of website issues every day and report them at 9 am to stakeholders.
In some situations, it makes more sense to report at all levels. That is, KPIs for each segment in a business. For example, if the aggregation of KPIs in a business renders the report meaningless, then reporting at levels could be preferable.
A comprehensive key performance indicator report should include:
1. A link to business strategy: Isolating KPIs from their objectives or strategies makes it a lot harder to see whether the requirements are fulfilled or not. To the reader, a report that does not address what is to be achieved is just a breakdown of business metrics. Therefore, the first thing to include in a report is what the target is and how the KPI relates to it.
2. Definitions: Given that performance indicators are used in different ways by businesses, you should define relevant terminologies at the start if you want to develop a comprehensive report. This helps the reader to understand what is measured and how it applies to the business.
Furthermore, if calculations and standards within the industry apply to the KPI, they must be highlighted and explained.
3. Sources, Assumptions, and possible limitations: People expect performance indicators to be reliable, and in reality, some assumptions may be made when measuring or tracking them. The assumptions, limitations, and sources of the indicators should be explained so that each stakeholder can assess it and better understand why they have been chosen.
4. Future and current targets: Performance indicators exist to meet a future goal. So, forward-looking at the targets in the report helps stakeholders assess the likelihood of meeting the targets when compared to the present values measured.
5. Trend data: While the future and the current state is essential to an organization, it is also important to explain what a trend in data implies. For example, not all increasing measures are a sign of positives in a business. Trend data show a better picture of what has improved or deterred in the business.
Many companies have begun using key performance indicators; however, in the wrong way. When not properly understood, measuring, tracking, and using these indicators may not be helpful to the business.
In this comprehensive guide, we have included everything you need to know about writing, developing, and reporting KPIs. If you want to spark massive changes in your business and realize key objectives, this guide may be an excellent place to start.
FAQs about KPIs
1. How many KPIs does an organization need?
The number of performance indicators required in a company varies, and it depends on the number of objectives the business has. However, there's a standard framework that'll help you assess what is required in an organization.
While there is no hard and fast rule, an organization should have at least two or three KPIs for each objective. A minimum of two KPIs is required so that there are leading and lagging indicators that'll help future forecast and current data, respectively.
2. What are Lagging and Leading KPIs?
Leading and lagging KPIs often come to mind in the strategic planning phase of an organization. A leading KPI is an indicator of organizational objectives before it follows a particular trend or pattern. Although they are used to forecast future events in a company, they are not always correct. Leading KPIs are easy to influence, but measuring them can prove a hard nut to crack.
Lagging KPIs are indicators of an organization's current performance. They are easier to track and measure but are tougher to influence. So, while the annual sales in a company is a lagging KPI, the % growth in sales after the commencement of some strategy is a leading KPI.
3. Who determines KPIs?
In an organization, anyone can determine KPIs. However, within a business, departmental KPIs are established by leaders to ensure the team is on the same page as regards the targets that are to be met.
Apart from these KPIs, there are also overall indicators set by executive teams and the board. The sum of departmental KPIs should point towards these top indicators.
4. What is a KPI Dashboard?
Dashboards are tools used in communicating KPIs. They are a great way to provide the information and are usually automatically updated in businesses. The upside to this is that the data is always relevant, and is accessible whenever it is needed.
Top-notch KPI dashboards are customizable, allowing stakeholders to organize the KPIs that are important to them. The three types of dashboards are;
1. Strategic dashboards: This is the dashboard for managers and executives. They do not provide detailed information, but enough to make judgments on the next course of action in a business. Strategic dashboards should be simple to understand.
2. Analytical dashboard: These dashboards usually contain more information than all other types. They should be able to compare data over time and other variables.
3. Operational dashboards : These KPI dashboards monitor real-time operations, and serve as a guide to users. An example of operational dashboards is the human-machine interface in manufacturing companies.