ARTICLES

KEY PERFORMANCE INDICATORS

What are they? And why do we need them?
Key Performance Indicators, or KPIs as they are more commonly known, became the buzzword of management textbooks more than a decade ago. Despite the fact that they have been with us a long time, many business owners don’t use them, or revert to industry “rules of thumb” instead. So, what exactly are KPIs, and why would your business need them?

KPIs - Your Vital Statistics
KPIs are simply the vital statistics of your business. Like any statistic they can be collected daily, weekly, monthly, yearly or never! They can be used effectively as tools that allow your business to optimise its performance; or the wrong statistics can be collected and then ignored! Collecting statistics alone will not improve the performance of your business, however, properly used and acted upon, they are a great tool for improvement.

The mere keeping of KPIs can jolt a business owner into action. It is not dissimilar to your doctor asking you to keep a diary of what you eat. The action of keeping a diary itself forces you to improve your eating habits and face the music! The same effect can occur with recording KPIs.

The KPIs of a business vary because all businesses are different, however, for most businesses, KPIs will focus on three issues:

• Revenue
• Profitability
• Time it takes to convert actions to revenue and profits

KPIs for Revenue
Nearly all business owners keep track of the dollars coming through the door. However, more analysis is needed than that. Your analysis should focus on what drives the revenue, rather than just the whole dollar amount. That is, the business owner needs to know how the revenue came in the door, not just that a certain amount came in. Secondly, the analysis should be converted from a series of bland numbers on a page into graphs that can be easily read. Pictures speak louder than words!

Many businesses have a customer or product base that comprises the “bread and butter” of the business, and this business is often done at a competitive or lower profit margin. The business may also have “cream” customers or products, i.e. the product or service that is sold less often and is at a higher profit margin. These “cream” services or products are often what differentiates the business from others in the same industry, and therefore allows the business to make a better profit margin on these.

Often the “cream” product line or service is what the business owner truly enjoys providing and why they entered that particular vocation in the first place. For example, for a chemist it might be providing expert advice to young mothers and selling them the correct products for their infants. For a fashion retailer, it might be providing a customer with the perfectly fitted trousers, rather than selling thousands of t-shirts. For an accountant, it might be providing advice on how to minimise capital gains tax on the sale of a business, rather than simply doing the annual tax returns.

KPIs for revenue should show the business owner how much of the revenue is the “bread and butter”, how much is the “cream” and from whence it came. So, KPIs for many businesses will be statistics collected of sales for certain products and sales to certain customers. For businesses with either a large number of product lines, or a large number of customers, or both, it is useful to scale down the statistics to the top 10 best-selling products or departments or customers.

For example, every time I shop at Rebel Sport I am asked for my postcode. Presumably Rebel use this information to see what items are sold to customers from which suburbs. I would guess the aim may be to sell many higher margin products to those customers from affluent suburbs with offspring who play lots of sport! So, Rebel probably uses the sales data sorted by postcode in conjunction with demographic profiles of those suburbs.

KPIs for Profitability
Having sorted out where, and how, your revenue is derived, it is important to know what products or services actually make you the most money. Once you know this, you can start to fine tune your business and make decisions about which products or services to expand, which to discontinue and which ones you need to produce and deliver more efficiently or cheaply.

Using the “bread and butter” and “cream” analogy again, it may be that for your business to merely exist you must provide certain “bread and butter” products and services. For example, newsagents are expected to sell newspapers, chemists are expected to dispense prescription medicines and accountants are expected to provide tax return preparation services and so on.

These products and services may not be very profitable but they are necessary for the business to exist at all. In these cases, it is important to monitor the profitability of the “bread and butter” items, so that they are provided as efficiently as possible. Having systems in place to provide these basic products or services is important. The business owner needs to be as free as possible from the “bread and butter” products to then concentrate on the “cream” items.

Before KPIs can be collected on profitability, often some background accounting work is needed. For example, if you are a caterer, then you may need to get out the stop watch and work out how long it takes to produce each menu item, so that labour costs can be calculated, as well as working out the cost of the component ingredients. A time consuming exercise in itself, but a necessary one that will reap rewards.

If you are a retailer, your point-of-sale system should record profit margins for each product sold. However, the information in the point-of-sale system will only be useful if it is reasonably accurate. This requires staff to scan in goods received properly and scan out goods sold in the correct manner. Therefore you may need to tighten these procedures before meaningful data can be extracted from your system.

KPIs for Time
Cash flow is the most critical issue for most businesses. A good cash flow comes from knowing:

• how long it takes you to get an order from a customer;
• how long it takes you to produce the goods or services;
• how long it takes you to bill the customer;
• when you will get paid for the product or service you sell;
• when you must pay your suppliers for goods bought; and
• your staff for services provided.

KPIs can be developed to measure all of these time related matters. If these time-related issues are not measured, then no action will can taken to optimise the performance of your business.

Summary

KPIs help you to focus your energies in the right way. Keeping KPIs allows you to see what really drives the revenue and profit of your business. They can also help you better understand and thus improve your cash flow. Whilst they may require a little extra accounting work, the benefits are measurable.

NEWS & TIPS INDEX | NEXT>