Business strategies for business owners: Key performance indicators

How to find the most important numbers on your financial reports and make them meaningful


The actions or things that we can do to improve our inventory turns is called drivers. In and of themselves, KPIs won't do much to improve our business. Understanding and taking actions to improve the drivers in our business will result in improving KPI numbers which makes our businesses better.

A side conversation into the concept of open book management

I often have conversations with business owners about implementing a KPI program in their company. We often get hung up in sharing numbers with the employees in the company I'm speaking with. If we want to improve the financial operations of our companies, we need to be prepared to share certain financial information with our employees.

If we're going to identify key performance indicators in our company and then notice what drives those numbers, we need to share this information with the people who work in our organizations.

Sharing information about what actions we want to take, measuring those actions and posting results from new actions is called open book management. Opening certain financial reporting and the measurements to everyone in our company will often spell the difference between excellent and mediocre financial performance.

If you're not willing to share all of your financial numbers with your employees, start small and see how working on one key performance area with shared drivers helps your business. If you see a positive result (and we think you will) expand the program to other KPI's you may want to see improved.

KPI Examples

Let's say that your business averages a cash balance of $100,000 at the end of every month. You also find that even though you average $100,000 in cash you often find yourself in a position where your checking account is overdrawn and you actually have a negative cash balance. When this happens your bookkeeping department gets tense, you slow payments to suppliers and you're not able to negotiate favorable terms or prices with your suppliers.

One of our KPI goals might be to improve our cash position where the worst that we ever end the month with is $100,000 and we want to improve our average ending cash balances to $250,000. We have now designed a goal for a key performance indicator.

The next step we have is to figure out what are the things that we do that influence what our drives our cash balance. These things are called drivers. For our sample company, some of the drivers they have are:

  • Gross profit
  • Labor costs per unit sold
  • Average receivables and days those receivables are open
  • Amount of money required every month for note payments
  • Average amount of inventory on hand and how long it takes to sell that inventory

We have five different drivers that we've identified that influence how much cash we'll have at the end of the month. We've decided that we can only work on two of them over the next six months.

Because there are five drivers which we have identified, we need to choose which of the two would have the largest effect on cash and which two would be the easiest to design operational changes that will help improve our cash position. With good luck the ones that are the easiest to implement would also be the ones that would have a large effect on cash.

Up to this point we've not had to share any of this information with anyone in our company. We could design changes we want made and then demand that our employees implement those changes. Or we could communicate what our goals for cash improvement are and get input from our employees on which of the five would give us the best return for effort.

Choosing the later brings our employees into the conversation about what makes our business better. I've always believed that our employees are experts at their job. Asking for their opinion about specific actions we can take often produce results that are much better than those I ever could come up with by myself.

Conclusion

Embarking on a program to focus on key performance areas will help make your business better. Just identifying the key performance areas of your company is a good start. Identifying the drivers for those key performance areas helps you achieve a higher-level success. Letting your employees participate in the process moves you from being a top-down company to one where all are expected to participate.