At a recent presentation the speaker commented that “the numbers don’t lie!” That statement certainly got my attention. But is it true?
While numbers themselves may not lie, they can certainly mislead – intentionally or unintentionally. A businessman once introduced himself by stating that in his previous business he had increased annual revenue by 250% in 3 years. This statement was obviously meant to impress but it made me wonder what the starting revenue was … if his starting revenue was only $50k then in three years it would have grown to $125k. That is not an accomplishment that I would necessarily brag about! But growing revenue from say $5m to $12.5m in 3 years would be more impressive.
Percentages are cunning things…
Compare an increase of 100% (say from $100k to $200k which is an increase of $100k) with a reduction of 50% (from say $200k to $100k which is also a change of $100k). Potentially sales could increase 100% in the first year and reduce by “only” 50% in the second year for revenue to be back to the starting point! Percentage increases are always more impressive than percentage reductions – that is how percentages work.
We all know that politicians manipulate numbers to their advantage, they are selective about which numbers they use and how they present them. Business owners also need to be very selective about which numbers they pay attention to.
What you can measure you can manage!
The old adage “what you can measure you can manage” is true … conversely it is very hard to manage what we don’t measure. We generally need to know our starting point to be able to determine where we want to be and our target number. What we take the time to measure usually becomes our focus.
I ran my first marathon last year. While training I recorded the number of days a week I ran, my daily and weekly distance, my average pace on hills and flats etc. Measuring and recording these things made me focus on them. By using technology I was able to accurately track my progress right up to the day of the marathon, to ensure that on the day I was fit enough to make the distance in my target time.
Indeed, technology makes it possible to accurately measure a very large number of metrics in considerable detail. This can lead to overwhelm and too much information to be useful. We must focus on the few most important business activities that drive desired results.
Key Performance Indicators
Key Performance Indicators (KPIs) measure the critical factors that need to be managed and optimised to achieve success.
The KPIs for each business (and roles within the business) will differ and critical success factors often change over time. Most businesses measure financial KPIs (which lag the activities that created them). Because non-financial KPIs do not come out of accounting systems many businesses do not have processes to identify or measure them. However non-financial KPIs are critical to business success when they measure the activities that drive the financial results.
For example, the number of proposals sent to prospective customers and proposals won are generally lead indicators while sales revenue and debtor days are lag indicators. Delving deeper, the number of proposals sent could be a lag indicator for the sales team while the number of daily cold calls would be a lead indicator.
While profit indicators are important, cash flow indicators are critical! Increasing revenue and profits when every additional sale requires extra working capital could lead to business failure. Inexperienced business owners/boards often look at the numbers and think they are doing OK when that is not the case – “we are doing well in 7 out of 10 KPIs” – back slap! Unfortunately the 3 out of the 10 may be the ones that will kill the business.
Focus on the key activities that predict/create the financial results
Traditional accounting reports are historical. Ambitious and growing businesses need to be focussed on the present and the future. Carefully selected daily and weekly KPIs (lead indicators measuring key activities) help predict the future. Knowing which KPIs to focus on, and how to measure, interpret and improve them requires financial expertise as well as a good understanding of the business and effective management skills.