FSN: Non- financial KPIs – why are they so difficult to measure and report?

Non- financial KPIs – why are they so difficult to measure and report?

3rd March 2008
The wisdom of relying solely on historic accounting methods and systems is increasingly open to doubt as companies seek more dependable ways of predicting and measuring value creation. Radical changes in legislation combined with an over-reliance on traditional financial measures are paving the way for a more balanced approach based on a mixture of financial and non-financial metrics. Furthermore global businesses find themselves having to respond to a more demanding public, investors, media and other special interest groups. Gary Simon , FSN's managing editor asks why is it so difficult to measure and report non-financial KPIs?

Whilst Boards appear to recognise the immense value of non-financial indicators in predicting future performance there is a gap between the rhetoric and delivery with the result that many have been slow to implement the required changes. Doubts over the appropriate measures to disclose, coupled with concerns over the reliability of data, and a wide range of cultural issues have all acted as a brake on progress.

CFO Europe Research Services part of the Economist Group, launched a sponsored research project with Oracle which reported in December 2007. “The Story behind the number s” summarises the views of senior finance executives in Europe about their ability to provide analysis and insight in financial reporting. The report seems to confirm that the ability to provide insight and analysis is failing to keep pace with demand. (You can download a copy of the report from Oracle here)

Two-thirds of respondents expect the amount of time they spend on providing analysis and insight to stakeholders to increase during the next two years. Specifically, they will be expected to provide forward-looking analysis of future risks, a balance between financial and non-financial KPIs, and competitor insight. However, when it comes to the ability to deliver such analysis, only a third rate themselves as “good” at forward-looking analysis of company and sector, a fifth good at future risks, a quarter good at balance between financial and nonfinancial KPIs, and just over a tenth at competitor insight.

The findings are strikingly similar to earlier research carried out by Deloitte. In their 2007 report entitled “In the Dark - What many Boards and executives still don't know about the health of their companies”, the accounting firm found that large corporates' experience in developing, gathering and publishing non-financial indicators is underdeveloped. According to their survey, companies record high levels of satisfaction with their financial data but have a low level of confidence in their non-financial data. Deloitte found that around 70 percent regard their financial data as excellent but this falls dramatically for non-financial metrics. For example, only 19 percent rated their “customer satisfaction” metrics as excellent and poor results were also recorded in the areas of “innovation” (12 percent) and “employee commitment” (9 percent). Lack of confidence in underlying systems and processes for data capture and reporting is dampening enthusiasm for non-financial measures.

It is a position confirmed by the CFO Europe/Oracle survey which says that the biggest barrier to providing more insight and analysis is the time it takes to gather and consolidate non-financial operational data. The number one challenge to improving analysis and insight in reporting is, according to 40% of respondents, “too much time spent consolidating numbers from across the organisation.” Almost 40% say it currently takes finance “a lot more time and effort” to retrieve operational data compared with financial data. A further third say it takes a little more time and effort.

Nevertheless, the infrastructure necessary to support non-financial reporting is similar in all major respects to traditional financial reporting - with the addition of more data sources. This means that companies should be able to incorporate non-financial measures into their existing performance management regimes. So what is going wrong?

Part of the issue is that the use of non-financial indicators and other operational information as a part of statutory and regular management reporting is a developing science. Whilst most companies have experimented with ‘statistical' or memorandum numbers and ratios, few have committed to them in a major way and still fewer have exposed them to public scrutiny.

Understanding exactly what to report against a constantly changing landscape presents a real challenge. Ask most companies and the chances are that you will find they are overwhelmed with Key Performance Indicators. With the power of modern analytical applications it is possible to measure almost anything and as a result many companies suffer from a surfeit of performance measures.

Many companies appear to be caught in a ‘chicken and egg situation'. Doubts about the usefulness of non-financial metrics become a key concern for Boards of Management when deciding which KPIs to publish but a lack of track record in using and publishing non-financial data simply fuels the doubts. The position is not helped by the lack of publicly available guidance and accounting standards in support of non-financial KPIs.

Another factor colouring the position is that benchmarks for financial metrics are very well established but benchmarks around non-financial performance are in their infancy. In many cases, such as environmental reporting and HR (human resources) reporting there is little consensus around what metrics should be published and how they should be measured. Even where non-financial metrics are prepared on the same basis, simple comparisons can be misleading. Finally there are notable data quality issues around the use of non-financial or operational data.

Lack of Board commitment is another factor holding back progress. One of the challenges of non-financial metrics is that responsibility for gathering, monitoring and reporting is not regarded as a top priority by Boards of Management. Whilst most acknowledge the crucial importance of intangibles in driving business success this is not matched by reporting practices. In the main, responsibility for managing non-financial information is usually delegated to senior mangers. In sharp contrast financial metrics usually enjoy full Board sponsorship.

Can technology help overcome some of the barriers? Clearly, technology on its own cannot resolve some of the deep seated cultural issues that act as a brake on progress. But in an environment where Boards increasingly appreciate the contribution of non-financial metrics then technology can act as a major enabler, helping to overcome the inherent challenges of complex and geographically dispersed organisations and improving confidence in the underlying data.

Reporting requirements are being stretched simultaneously in three dimensions. Regulation is adding significantly to the complexity of reporting, the breadth of information that has to be captured and the frequency with which it has to be reported. However, the sound application of technology can help mange the complexity, marshal varied information sources and accelerate reporting timescales through the introduction of more dependable processes.

Technically, the inclusion of non-financial indicators represents the same challenges and pitfalls as regular financial information and the same building blocks are required for developing a coherent solution. For example, t he ability to leverage multiple data sources using ETL (Extract, Transform and Load technology), the ability to manage meta data (structural information) in one place, tight integration between applications and the ability to leverage portal technology to meet the information needs of wide variety of different stakeholders.

Using the same infrastructure, tools and processes for financial and non financial reporting allows organisations to propagate consistent measures throughout the organisation so that all business managers understand the drivers that influence value creation and can take local decisions in the full knowledge that their actions are in sympathy with corporate goals and objectives. This so called “strategic alignment” is even more compelling when financial and non-financial indicators are brought together. For enlightened companies that grasp the nettle there are significant rewards. Forward looking measures allow them to take pre-emptive action, improve their performance and encourage strategic alignment throughout the organisation, with the result that many enjoy a better standing in the market place.

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