Performance Measurement
Performance measurement questions ask you to design or critique a measurement system and to interpret the numbers in the case. The exam tests whether measures link to strategy, whether incentives point the right way, and whether the board can act on what is reported.
From strategy to metric
Build the chain: critical success factor, then KPI, then target, then reward. Every KPI needs a definition, an owner, a data source, a frequency, a baseline and a target - otherwise it is decoration. The balanced scorecard (Kaplan and Norton) has four perspectives - financial, customer, internal process, learning and growth - joined by cause-and-effect hypotheses such as "faster claims settlement drives retention, which drives premium growth". Four unconnected lists are not a scorecard. Fitzgerald and Moon's building blocks separate determinants (quality, flexibility, resource utilisation, innovation) from results (financial performance, competitiveness); determinants are leading indicators, results are lagging.
Financial and divisional metrics
Margin, ROCE, asset turnover, cash conversion (operating cash divided by EBITDA), working capital days and free cash flow. At divisional level, ROI is comparable but breeds dysfunctional behaviour: a division earning 24% rejects a 19% project even where group WACC is 14%. Residual income and EVA correct the absolute-value bias. Transfer pricing - market, cost-plus or negotiated - should be tested for goal congruence and tax effect.
Non-financial and sustainability measures
Customer retention, churn, complaint resolution time; staff turnover, absence and safety rates; emissions intensity, water use and community spend. The Framework's six capitals and GRI disclosures are the usual references.
Worked example
A division reports operating profit of GHS 48m, capital employed of GHS 200m, tax at 25%, WACC 14%. NOPAT is 36m; the capital charge is 28m (200m × 14%); EVA is 8m. ROI is 24% against a 14% cost of capital, so the division creates value. A new project yielding 19% also creates value but would dilute ROI - hence a bonus based on ROI should be replaced with one based on EVA or a share of group value created.
Traps that cost marks
- Metric soup: forty measures with no priorities.
- No baselines or targets, so nothing can be judged.
- Rewarding profit without a capital charge.
- Benchmarking a division against the group average ROI.
- Ignoring how a measure will be gamed once it carries a bonus.
- Reporting measures with no comment on what the board should do.