What is a Key Performance Indicator (KPI)?
By Kevin Dwyer
A Key Performance Indicator (KPI) is neither a Goal, nor a Key Result Area (KRA), nor a Target, nor a Result nor a Critical Success Factor. And yet these terms are often used interchangeably with a KPI.
A KPI defines itself, to a large extent, by its name; it is a performance indicator, i.e. the performance of the process it is measuring should be clearly indicated by the KPI.
This should clarify that the purpose of a KPI is not, for example, to measure the risk of a process, nor its age, nor its length, but its performance.
Further, a KPI should be key, not just any casual measure of a process (or a business as a whole); this can be taken as the KPI being closely correlated with the objectives of the process being measured.
An important and often overlooked aspect of a KPI not contained within its name is that it measures a continuous or discrete but repeated process.
Typical continuous processes include manufacture (toothpaste production, widget manufacture) and service where the dimensions are large (credit management for large public utilities, help desk for large IT installations).
Sometimes services which look to be custom when considered at an individual level (your neighbour's knee surgery operation) can also be considered as almost continuous when considered at a coarse enough level of granularity (knee surgery in Australia in the ‘90s).
Typical discrete, repetitive processes include service (PC installation, car sales and hotel check-in).
All of this ought to be self-evident, but it is common to see. For example, Target Completion Dates or Product Specifications (or both) labelled as KPIs.
Where the intention is to measure once-off performance of a project, or as part of a business plan, a specification or target date (or both) will suffice; labelling it a KPI is both unnecessary and confusing.
Moreover, developing only one off measures as a proxy for real KPIs puts a business at risk.
The implication of using one off performance measures in lieu of key performance indicators is that many organisations do not know how well they are performing. That is, until, a significant universal lagging KPI such as profitability or lost time injury frequency ratio reaches unacceptable levels.
Lag, Current and Lead
Timing of KPIs, relative to achievement of corporate goals, is fundamental in choosing good candidate KPIs. Financial results, such as last quarter's revenue, are typically lagged by 2+ months. Annual results, especially fiscal year results, can be much more delayed.
With such lags, the problem arises as to what action might be appropriate to alter the direction of the department's performance, when the KPIs are measuring results in the past.
A correction may be inappropriate when the current performance has already significantly altered from that measured some time ago and may result in overcorrection.
Lag indicators should rarely be considered as a KPI as the benefit of KPI is to adjust processes and behaviour to get better performance.
KPIs measuring current performance are more useful. Examples include today's bookings, sales or production level. As always, care must be taken not to allow instant results to result in instant reactions which, in turn, reinforce the original problem.
Other KPIs are of the leading type; their measures are predictive of desired results at the next higher level.
An example of such a leading indicator for market share is customer satisfaction with the organisation's products and service. It is important to note though, that customer satisfaction survey output is a lagging indicator of customer service.
The primary difficulty with leading KPIs is to be sure that they are strongly correlated with the required corporate goals; modelling and understanding of key business drivers is necessary.
The corollary, of course, is that taking the time and effort to determine the key business drivers will result in a useful KPI rather than a number which is reported on monthly but caused no action to happen even when it strays outside its range of limits.
More than the nature and the design, a KPI must be understood by all staff. Further, all staff must know the corrective action to be applied. The corrective action must impact the KPI.
For example, completing plant production runs to schedule for a manufacturing plant impacts lead time which impacts stock levels, purchasing levels, in-full delivery, employee satisfaction and customer satisfaction. The deviation from production schedule of production is a leading indicator of a wide range of performance indicators.
Understanding that deviation from production schedule is key enables all people in the plant to apply corrective action to keep to the schedule. The resultant improvement in lead time improves many other dependent indicators including productivity.
Choosing an indicator like productivity as key only has an impact on costs and few people would understand what to do other than work faster or spend capital on automation.
KPIs in most organisations are actually targets, key project dates, key result areas or tasks. As a result, performance is not actually managed.
Having well thought through KPIs and acting on them with the confidence that action will cause a change in performance is well worth the investment in time and corporate brain-power it takes to develop, select and test Key Performance Indicators.
Kevin Dwyer is the founder of Change Factory. Change Factory helps organisations who do do not like their business outcomes to get better outcomes by changing people's behaviour. Businesses we help have greater clarity of purpose and ability to achieve their desired business outcomes. To learn more or see more articles visit http://www.changefactory.com.au or email kevin.dwyer@changefactory.com.au ©2006 Change Factory