Executive Summary
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Traditional measures of performance are of limited use to modern businesses, being rooted in evaluating past performance. They are a poor guide to true value, often missing the key factors that promote long-term worth.
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It is essential to include the leading financial and nonfinancial indicators of performance that drive long-term value. This provides broader and more sophisticated information that highlights future trends.
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Effectively managing and communicating a broader set of performance measures reduces uncertainty, ensures better relationships with stockholders and analysts, and enables improved financial performance.
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Full accountability and disclosure, combined with improved measures and new systems to drive the process throughout the organization, create greater value for stakeholders, promoting future success.
Introduction
Improved governance requires the right employees, the right culture and values, and the right systems, information, and decision-making. Unfortunately, most organizations are attempting to steer their information-age businesses using industrial-age measurements. Managers have struggled for decades with accounting systems that fail to measure many of the variables that drive long-term value. The historical lagging indicators of performance that are commonly used by accountants are of limited value in determining the value of businesses for external stakeholders, and are of little use in guiding the business internally. Financial data on profitability and return on investment are valuable measures of corporate performance, but they are lagging indicators that measure past performance. A broader set of financial measures is necessary (for example, measurement of intangible assets such as intellectual capital and research-and-development value), in addition to an expanded set relating to customers, internal processes, and organizational measures.
The metrics must include the leading financial and nonfinancial indicators of performance that are the drivers and predictors of future financial performance. For example, fines and penalties may be a leading indicator of corporate reputation, employee turnover is a leading measure of future recruitment and training costs, and product quality is a leading measure of customer satisfaction, which in turn is a leading measure of market share. Each of these factors (reputation, employee-related costs, customer satisfaction, and market share) impacts financial performance.
Improved Internal and External Reporting
Just as companies expand their performance measurement parameters, they must also expand their performance reporting models. Employees, stockholders, financial analysts, activists, customers, suppliers, government regulators, and others increasingly demand detailed information about corporate activities, and the internet has made the dissemination of that information easier and faster. No longer can managers claim they don’t have the information. The data are easy to collect, and it’s essential to have broader and more forward-looking information to effectively manage the diverse issues that managers now confront daily. Managers should collect this broader array of information on activities and impacts both inside and outside the company, and select a set of data to provide adequate disclosure to their various stakeholders. External stakeholders need a broader set of information to effectively evaluate corporate performance, and voluntary disclosure of this information is critical for corporate accountability. This accountability, both inside and outside the company, through an effective corporate communications strategy, is an essential element of effective and responsible corporate governance.
Proactively managing external disclosures should be a fundamental part of corporate communications strategy. By externally disclosing a more comprehensive set of measures, company executives are seizing the initiative to describe the company’s strategy, set expectations, increase transparency, and ensure goal alignment between the company and a broad set of stakeholders. Disclosing performance measures allows investors and other stakeholders to view the company through the eyes of management. A clear, comprehensive communications strategy is highly valued by stockholders and analysts alike.
Case Study
The Campbell Soup Company has continually improved corporate governance.
Changes undertaken in the early 1990s required a majority of directors to come from outside the organization. All directors must stand for election every year and must own at least 6,000 shares of stock within three years of election. Among other provisions, interlocking directorships are not allowed and insiders are banned from certain key committees. In 1995, the board began a rotating yearly performance evaluation of directors, board committees, and the board as a whole. In 2000, the board approved a new director compensation program to closely link director compensation to the creation of stockholder value; only 20% is paid in cash (tied to attendance at meetings). The full set of Campbell Soup’s governance standards and current performance review are disclosed in the annual proxy statement to stockholders.
The Cooperative Bank, based in the United Kingdom and with 4,000 employees, has won numerous awards for the high degree of transparency and accountability the company has exhibited. The bank has identified six partners in its quest for corporate value: stockholders, customers, staff and their families, suppliers, national and international societies, and past and future generations of cooperators. The company surveys all stakeholder groups to determine the critical elements in creating value for each, and performance targets are set on the basis of this information. In 2003, 70 targets were established in three principal areas: delivering value, social responsibility, and ecological sustainability. The Cooperative Bank 2004 Sustainability Report states that 33 targets were fully achieved, acceptable progress was made on 22, and 15 were not achieved. The bank reports progress on each target, providing data and management commentary, and establishes targets for the coming year.
Conclusion
Once a company has decided to improve corporate governance, measure a broader set of indicators of past and future success, and report internally and externally, managers must develop systems to drive these decisions through the organization. Leading companies are developing integrated, closed-loop planning, budgeting, and feedback systems to help align strategy implementation with corporate performance. While leadership at the top is critical, buy-in at the shop floor level is essential for the success of any system implementation. Metrics must be linked to strategy and must be consistent throughout the organization. Companies are increasingly stating desires to become more customer focused or more socially responsible, yet many are still basing employee rewards on meeting revenue and profit goals. If companies expect employees to be more customer focused or more socially or environmentally responsible, part of overall performance evaluations and rewards should be on the basis of customer focus or social responsibility.
Accountable managers encourage not only continuous judgment, but continuous improvement. They insist that everyone in the organization participate in decision-making. They implement a culture of constant learning and insist on building learning organizations. Accountable managers communicate constantly, setting a tone of forthright feedback and transparency.
Full accountability comes only when a company combines a strong governance structure, improved and broad measurement of relevant performance impacts, timely and full internal and external reporting, and comprehensive management systems to drive the accountability model throughout the organization. By combining these elements companies are creating value for the stakeholders whose support they need in order to prosper—customers, investors, employees, suppliers, communities, the public, regulators, and other government officials.
Making It Happen
The rewards from building the accountable organization are much like those from building the quality organization—the more committed the managers and workers and the better integrated the concept with company line operations, the greater the benefit. As a first step, managers must build accountable systems and practices within the company. Then they can build bridges to the outside. As they move toward full accountability—well-governed, measured, managed, and publicly responsive—they will position themselves to reap many benefits:
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Executing strategy: the accountable organization articulates each strategy and tactic with specific measures that align direction in ways that broader objectives cannot. The hard measures then give managers objective feedback on what the strategy execution is achieving.
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Improving decision-making: the accountable organization generates a wealth of information on performance, which in turn informs decision-making through facts, not intuition. People inside and outside the company can make more effective decisions to further company strategy and goals.
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Empowering people: the accountable organization thins the ranks of middle managers that distil and convey information and empowers decision-making authority to the front lines. As management articulates what it wants with concrete quantitative measures, workers have clear guidance of goals and objectives and how they relate to strategy.
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Accelerating learning: the accountable organization installs feedback systems that yield rapid-fire learning from people both across and outside the company. The company with the most feedback loops—internal and external—is the most successful.
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Communicating the story: the accountable organization delivers its story of value with credible financial and nonfinancial numbers. As senior managers report more numbers externally, exposing performance transparently, stockholders and analysts have less reason to undervalue their stock.
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Inspiring loyalty: the accountable organization markets its value on a basis of reliable performance measures. The no-smoke-and-mirrors approach spurs cooperation and inspires the loyalty of investors, customers, suppliers, employees, business partners, and communities.
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