The Unbalanced Scorecard
Arguably, there has probably never been a more influential strategic measurement tool as the Balanced Scorecard, first coined by two Harvard professors, Robert Kaplan and David Norton. The purpose of the Balanced Scorecard is to provide a framework to “translate strategy into action” on four dimensions: Internal Business Process, Learning and Growth, Customer, and Financial. At the same time, there probably has never been a more misunderstood tool.
There are four areas where we will focus our discussion to make our case:
- Balanced Scorecards make purposeful decisions impossible
- Most Balanced Scorecards are not diagnostic
- Most Balanced Scorecards are correlated, not causal
- Balanced Scorecards are in reality Unbalanced Scorecards
Balanced Scorecards make purposeful decisions impossible
Balanced Scorecards support the Stakeholder Theory to the corporate objective function, which opposes the Value Maximization Theory. In other words, those who adopt a Balanced Scorecard framework seek to satisfy all stakeholders in an organization (i.e., employees, customers, shareholders, communities, governments, etc.). On the surface, it appears to be a very admirable undertaking and everyone will be happy, but what happens when you can not be all things to all people and there are competing interests? At the end of the day, the Balanced Scorecard provides no direction to management on how to make the necessary tradeoffs between potentially a dozen or more metrics across the four dimensions. Harvard Professor, Michael Jensen, has this to say, “Because the advocates of stakeholder theory refuse to specify how to make the necessary tradeoffs among these competing interests they leave managers with a theory that makes it impossible for them to make purposeful decisions. With no (real) way to keep score, stakeholder theory makes managers unaccountable for their actions. It seems clear that such a theory can be attractive to the self-interest of managers and directors.” For a copy of this article, please send us a request.
Most Balanced Scorecards are not diagnostic
Obviously, to improve organizational performance (whatever the corporate objective), one must know what action to take to affect the outcome. The metrics that are included in most Balanced Scorecards give little direction to take on problems. It’s equivalent to going to the doctor to find out that one has heart disease, but then not being told what to do about it. Let’s look at a practical example.
Traditional Balanced Scorecards Metrics
Brand Awareness Index
Training Effectiveness Score
In the above example, it becomes easy to see that while common metrics in a Balanced Scorecard can alert me to a problem, they do little to tell me what the problem is. For instance, if my market share is slipping, it can not tell me why and what I can do about it. The same can be said about the others – Brand Awareness, Productivity, and Training Effectiveness.
Most Balanced Scorecards are correlated, not causal
In addition, how do I know the metrics in the example above are really the ones that have the biggest impact on my “corporate objective” and where I should be focusing? Sure, it is easy to see that Market Share has a relationship to growth, but what if I am buying market share at a loss? Eventually, I have no cash to continue to grow. Or, what about Brand Awareness? How important is Brand Awareness anyhow? Many studies show that with the speed of adoption of social media, brand experience is much more important than awareness for most companies – to the tune of 4:1.
Metrics in most Balanced Scorecards end up being correlated (having some relationship) to, not causal (predictive) of corporate objectives. We argue that better leading indicators are those that actually predict the outcome of the corporate objective(s) an organization is trying to achieve. Again, let’s look at a practical example using the same Balanced Scorecard metrics we did before.
Below is a simple comparison from a financial service example:
|Traditional Balanced Scorecards Metrics||Predictive Leading Indicators|
|Market Competitiveness||Market Competitiveness|
|Market Share||Understands my business|
|Brand Awareness Index||Responsiveness|
|Productivity Index||Allowed to make decisions about job responsibilities|
|Training Effectiveness Score||Have tools to do my job|
* it is important to note that predictive leading indicators will vary by market, vary for each organization in that market, and are dynamic changing over time as improvement takes place.
In this case, we can see very clearly the difference in the metrics being used. Predictive Leading Indicators are determined through analytical modeling as those “levers” that have the greatest impact on the outcome (i.e., corporate objective). Predictive Leading Indicators accomplish three very important things that Balanced Scorecard Metrics do not:
- They are objective truth
- They are causal
- They are diagnostic
Balanced Scorecards are in reality … Unbalanced Scorecards
The whole concept of the Balanced Scorecard is hinged on equal importance between the four dimensions, hence, the balance. What if, in fact, this was not true? That is precisely the case. Of the four dimensions, financials, are, for the most part, outcomes. Sure, one could argue that profitability and cash have an impact on future growth, but the real issue is where does long-term, sustainable cash flow and profitability come from? There is only one place – customers. Without customers the organization ceases to exist. Without competitive advantage, the organization dies. Yes, process and employees are critical. They play a supporting role in an organization’s ability to focus on the customer and build competitive advantage. If a market is properly analyzed and understood, Leading Predictive Indicators can be identified that will create competitive advantage, growth, and cash. Regularly monitoring the market and Leading Predictive Indicators provides and organization with a roadmap for long-term, sustainable growth. In fact, this relationship between customer and financial outcomes is so strong, that a study sponsored by Michigan State University found that customer performance explained 64% of the variance in financials at the 99% confidence level. Employee and process performance had no significant impact on financials according to their study. The authors had this to say, “Using data from 169 multinational corporations, findings indicate that a specific set of knowledge activities is related to Balanced Scorecard outcomes. The hypothesized importance of customer performance is confirmed as the only Balanced Scorecard outcome significantly related to financial performance.” For a copy of this article, please send us a request.
While the Balanced Scorecard concept is intriguing, we have found that a Strategic Scorecard focused on Market-based Leading Predictive Indicators is a much more effective tool. This is a critical step for an organization to become more customer-centric. A Strategic Scorecard is built from a formal strategic planning offsite using internal and external analytical data. And as with the Balanced Scorecard, the Strategic Scorecard is cascaded through the organization to align all staff on strategic priorities. The primary differences being that the Strategic Scorecard focuses on objective truth, identifies where efforts have the greatest impact on competitive advantage, clarifies the corporate objective, makes purposeful decisions possible, and provides clear direction for performance management and accountability. So, how about you? Are you using the Value Maximization theory to achieve one primary corporate objective? Or are you using the Stakeholder Theory to try to achieve more than one corporate objective? If so, what are your corporate objectives?
To learn more about becoming Customer-centric, please visit www.speculategrowth.com or call us at 262-546-1819.