Key performance indicators (KPIs) are powerful agents of organizational change, but creating effective KPIs is challenging; it is more art than science. Key performance indicator teams can gather user requirements and analyze correlations between metrics, but in the end, they must put the KPIs in practice and see what behaviors they drive. Then, they need to refine the metrics to ensure they reinforce, not undermine, each other.
How do we define effective metrics?
The adage "What gets measured, gets done" is true. Metrics focus employees' attention on the tasks and processes that executives deem most critical to the success of the business. Metrics are like levers that executives can pull to move the organization in new and different directions. In fact, among all the tools available to executives to change the organization and move it in a new direction, performance measures are perhaps the most powerful.
Subsequently, executives need to treat metrics with respect. As powerful agents of change, metrics can drive unparalleled improvements or plunge the organization into chaos and confusion. If the metrics do not accurately translate the company's strategy and goals into concrete actions on a daily basis, the organization will flounder. Employees will work at cross-purposes, impeding each other's progress and leaving everyone tired and frustrated with little to show for their efforts. In short, the company will be efficient but ineffective.
The art of creating metrics
Crafting sound metrics is more an art than a science. Although a metrics or key performance indicators (KPI) team may spend months collecting requirements, standardizing definitions and rules, prioritizing metrics, and soliciting feedback -- in short, following all the rules for solid metric development -- it still may not succeed. In fact, there is a danger that metrics teams will shoot for perfection and fall prey to "analysis paralysis." In reality, metrics teams can only get 80% of the way to an effective set of metrics; the last 20% comes from deploying the metrics, seeing how they affect behavior and performance, and then adjusting them accordingly.
Key Performance Indicators (KPIs)
Metrics used in performance dashboards are typically called KPIs because they measure how well the organization or individual performs against predefined goals and targets. There are two major types of KPIs: leading and lagging indicators. Leading indicators measure activities that have a significant effect on future performance, whereas lagging indicators, such as most financial metrics, measure the output of past activity.
Leading indicators are powerful measures to include in a performance dashboard, but are sometimes difficult to define. They measure key drivers of business value and are harbingers of future outcomes. To do this, leading indicators either measure activity either in its current state (i.e., number of sales meetings today) or in a future state (i.e., number of sales meetings scheduled for the next two weeks), the latter being more powerful because it gives individuals and their managers more time to influence the outcome.
Brainstorming leading indicators
Most people are so well trained at measuring outcomes instead of drivers that it takes them a while to shift their mental focus and become adept at creating effective key performance indicators. Paul Niven, consultant with The Senalosa Group, suggests using facilitated brainstorming sessions to break mental logjams. Whenever a user suggests a metric, the meeting facilitator should say, "Good, what drives the performance of that measure?" The individual or group then brainstorms new metrics, and the facilitator repeats the question. Before long the group has performed a root-cause analysis of the initial metric and generated one or more effective leading indicators.
Some measures do not necessarily fit neatly into a leading or lagging indicator category, but they are still important to capture. In most cases, these metrics signal the health of various operational initiatives or processes and are good candidates for a departmental or workgroup dashboard. Niven calls these types of key performanc indicators "diagnostic" metrics. Some examples might be net margins on key product lines, profitability of the top 10% of channels.
Wayne Eckerson is the director of research and services for The Data Warehousing Institute and author of Performance Dashboards: Measuring, Monitoring, and Managing Your Business. He can be reached at firstname.lastname@example.org.