Key performance indicators (KPIs)

A performance indicator or key performance indicator (KPI) is a type of performance measurement. KPIs evaluate the success of an organization or of a particular activity (such as projects, programs, products and other initiatives) in which it engages.

Key performance indicators (KPIs) refer to a set of quantifiable measurements used to gauge a company’s overall long-term performance.

KPIs specifically help determine a company’s strategic, financial, and operational achievements, especially compared to those of other businesses within the same sector.

Often success is simply the repeated, periodic achievement of some levels of operational goal (e.g. zero defects, 10/10 customer satisfaction), and sometimes success is defined in terms of making progress toward strategic goals. Accordingly, choosing the right KPIs relies upon a good understanding of what is important to the organization. What is deemed important often depends on the department measuring the performance e.g. the KPIs useful to finance will differ from the KPIs assigned to sales.

Since there is a need to understand well what is important, various techniques to assess the present state of the business, and its key activities, are associated with the selection of performance indicators. These assessments often lead to the identification of potential improvements, so performance indicators are routinely associated with ‘performance improvement’ initiatives. A very common way to choose KPIs is to apply a management framework such as the balanced scorecard.

The importance of such performance indicators is evident in the typical decision-making process (e.g. in management of organisations). When a decision-maker considers several options, they must be equipped to properly analyse the status quo to predict the consequences of future actions. Should they make their analysis on the basis of faulty or incomplete information, the predictions will not be reliable and consequently the decision made might yield an unexpected result. Therefore, the proper usage of performance indicators is vital to avoid such mistakes and minimise the risk.

Categorization of indicators

Key performance indicators define a set of values against which to measure. These raw sets of values, which can be fed to systems that aggregate the data, are called indicators. There are two categories of measurements for KPIs.

• Quantitative facts presented with a specific objective numeric value measured against a standard. Usually, they are not subject to distortion, personal feelings, prejudices, or interpretations.
• Qualitative represents non-numeric conformance to a standard, or interpretation of personal feelings, tastes, opinions or experiences.

Points of measurement

Performance focuses on measuring a particular element of an activity. An activity can have four elements: input, output, control, and mechanism.[6] At a minimum, activity is required to have at least an input and an output. Something goes into the activity as an input; the activity transforms the input by changing its state, and the activity produces an output. An activity can also enable mechanisms that are typically separated into human and system mechanisms. It can also be constrained in some way by a control. Lastly, its actions can have a temporal construct of time.

• Output captures the outcome or results of an activity or group of activities.
• Input indicates the inputs required of an activity to produce an output.
• Activity indicates the transformation produced by an activity (i.e., some form of work).
• Control is an object that controls the activity’s production through compliance.
• Mechanism enables an activity to work (a performer), either human or system.
• Time indicates a temporal element of the activity.

Types of Key Performance Indicators (KPIs)

Customer Metrics

Customer-focused KPIs generally center on per-customer efficiency, customer satisfaction, and customer retention.

Customer lifetime value (CLV) represents the total amount of money that a customer is expected to spend on your products over the entire business relationship.

Customer acquisition cost (CAC), by comparison, represents the total sales and marketing cost required to land a new customer. By comparing CAC to CLV, businesses can measure the effectiveness of their customer acquisition efforts.

Financial Metrics

Key performance indicators tied to the financials typically focus on revenue and profit margins. Net profit, the most tried and true of profit-based measurements, represents the amount of revenue that remains, as profit for a given period, after accounting for all of the company’s expenses, taxes, and interest payments for the same period.

Calculated as a dollar amount, net profit must be converted into a percentage of revenue (known as “net profit margin”), to be used in comparative analysis.

For example, if the standard net profit margin for a given industry is 50%, a new business in that space knows it must work toward meeting or beating that figure if it wishes to remain competitively viable. The gross profit margin, which measures revenues after accounting for expenses directly associated with the production of goods for sale, is another common profit-based KPI.

A financial KPI that’s known as the “current ratio” focuses largely on liquidity and can be calculated by dividing a company’s current assets by its current debts.

A financially healthy company typically has sufficient cash on hand to meet its financial obligations for the current 12-month period. However, different industries rely on different amounts of debt financing, therefore a company ought to only compare its current ratio to those of other businesses within the same industry, to ascertain how its cash flow stacks up amongst its peers.

Process Performance Metrics

Process metrics aim to measure and monitor operational performance across the organization.

By dividing the number of defective products by total products produced, for example, businesses can measure the percentage of defective products. Naturally, the goal would be to get this number down as low as possible.

Throughput time represents the total amount of time it takes to run a particular process. For example, a drive-through restaurant throughput can measure how long it takes to service an average customer; from the time they make their order to the time they drive away with their food.

Uses:

Project execution

• Earned value
• Cost variance
• Schedule variance
• Estimate to complete
• Manpower spent / month
• Money spent / month
• Planned spend / month
• Planned manpower / month
• Average time to delivery
• Tasks / staff
• Project overhead / ROI
• Planned delivery date vs actual delivery date

Manufacturing

Overall equipment effectiveness is a set of broadly accepted nonfinancial metrics that reflect manufacturing success.

• OEE = availability x performance x quality
• Availability = run time / total time, by definition this is the percentage of the actual amount of production time the machine is running to the production time the machine is available.
• Performance = total count / target counter, by definition this is the percentage of total parts produced on the machine to the production rate of machine.
• Quality = good count / total count, by definition, this is the percentage of good parts out of the total parts produced on the machine.
• Cycle time ratio (CTR) = standard cycle time / real cycle time
• Capacity utilization
• Rejection rate

Accounts

• Percentage of overdue invoices
• Percentage of purchase orders raised in advance
• Number of retrospectively raised purchase orders
• Finance report error rate (measures the quality of the report)
• Average cycle time of workflow
• Number of duplicate payments

Marketing and sales

• New customer acquisition
• Demographic analysis of individuals (potential customers) applying to become customers, and the levels of approval, rejections, and pending numbers
• Status of existing customers
• Customer attrition
• Turnover (i.e., revenue) generated by segments of the customer population
• Outstanding balances held by segments of customers and terms of payment
• Collection of bad debts within customer relationships
• Profitability of customers by demographic segments and segmentation of customers by profitability