As I work with and speak to professionals all over the country it is interesting to see how they approach Key Indicators (“KI”). More specifically how they are using Key Performance Indicators (“KPI”) and Key Risk Indicators (“KRI”) to help strategically manage their business and its impact on their Strategic Objectives (“Objectives”). Let’s start with a couple working definitions.
According to TechTarget “A key performance indicator (KPI) is a business metric for evaluating factors that are crucial to the success of an organization. The purpose of using KPIs is to focus attention on the tasks and processes that management has determined are most important for making progress towards declared goals and targets.”
“A key risk indicator (KRI) is a metric for measuring the likelihood that the combined probability of an event and its consequence will exceed the organization’s risk appetite and have a profoundly negative impact on an organization’s ability to be successful.”
The commonalities between these 2 definitions is the focus on understanding how events either in the past (KPI’s) or the future (KRI’s), have or may have an impact on your ability to successfully achieve your strategic vision.
Boards Needs to Know the Past and the Future
Regardless of your industry, I’m sure your Board of Directors are increasing the pressure on you as management to provide them with enterprise-wide information necessary for them to demonstrate effective oversight of the organization. Directors are being constantly reminded of their responsibilities, all prompting them to seek pertinent information related to effectively executing those responsibilities. Developing effective KPI’s and KRI’s can help you provide this valuable strategic information to them.
Key Performance Indicators
KPI’s provide important information to your Board about how well you are meeting your Objectives. They are basically the report card for the organization to document exactly where you are in your achievement process. KPIs can provide important information to management so that they can successfully understand the elements within their organization that are underperforming and discuss ways to improve the performance so that the Objectives can be met.
Having this perspective for the Board and at the management level will also improve how you allocate resources within your organization so that you are concentrating on the things directly impacting your Objectives.
Key Risk Indicators
Boards and management are feeling the burden to be more proactive. This is leading to the development of processes that seek to identify likely changes in future risk events so the Board and management can proactively determine their probable impact to the organization. Key risk indicators are metrics used by organizations to provide an early warning of increasing risk exposures to provide additional reaction time to accept, avoid, mitigate or reduce the possible impact of the risk on their Objectives.
When this is done effectively the organization is in a better position to strategically manage a possible impact on a timelier and potentially less costly basis. This is the primary reason why KRI’s are important and you need to bring appropriate disciplines to your organization to make these determinations.
Working Together Strengthens Your Strategic Advantage
For example, let’s use an Objective that is applicable to almost all industries, Credit Losses. Credit losses could come in many forms depending on your industry, such as credit losses directly from lending to consumers or companies, losses from credit extended to manufacturers or suppliers. In either case the goal is to control these losses to an acceptable level within your organization whether that’s tied to peer or some other decision benchmark.
Let’s say you decide that an acceptable level is 2% of all outstanding credit. Developing a KPI to track this figure at least monthly is important because Credit Losses have a direct impact on your ability to grow and mature your business. Next you will determine the goal and tolerance triggers on the low and high side of your KPI. The Board and management may decide that the goal is 1.5% but they want to be alerted anytime the metric drops below 1.0% or goes above 2.0%. Having appropriate triggers is critical for the Board and management to understand where their tolerances lie and what information is valuable to have in a reporting structure.
Now a lot of organization’s stop at this point and do a great job tracking their respective KPI’s. Again, this is valuable information but you are missing a tremendous benefit if you aren’t also tying an applicable KRI to this Objective as well.
OK, we’re tracking our Credit Losses KPI, but how can we proactively have an impact on the Objective by creating a corresponding KRI?
To effectively create a KRI you need to properly link it through the organization. A properly linked KRI will bring the necessary value through early warnings. Start at the top with your Board Approved Objectives that were determined through the Strategic Planning process. Next to your Strategic Initiatives (“Initiatives”) sometimes called corporate projects, meant to drive results to the Objectives. From the Initiatives, you begin to discuss and determine the possible Risk Events (“Events”) that could impact your ability to provide the necessary results needed to drive your Objectives.
Once you have determined the Events you can begin to effectively discuss the types of KRI’s necessary to provide you ample insight into the possibility of an Event occurring. From our example:
1. Strategic Objective: Credit Losses Under 2% links to;
2. Strategic Initiative: Improved Collection Activities for Delinquency links to;
3. Risk Event: Job Loss and/or Reduction in Manufacturing links to;
4. KRI: Track Demographic Job Reports and/or Manufacturing Orders.
Lastly, you will want to determine some triggers for your KRI as well so that applicable actions and/or discussions can take place prior to an Event happening that negatively impacts your Objectives. Such as, what is the baseline for the current job market and/or manufacturing orders and at what levels do you feel it is necessary to act before those Events begin to materially impact your Objective.
Monitoring Your Key Indicators
You must bring a level of discipline to your KI monitoring. Failure to update your KI’s in a timely manner makes it difficult for the Board and management to effectively understand how well the organization is meeting its Objectives. Additionally, the possibility of Events unfolding without your knowledge until it’s too late to positively affect their potential impact will also impact your ability to achieve your Objectives.
As your KI’s trigger based upon the upper and lower bound parameters you have determined, you can be assured that you will be in the enviable position of providing quality and actionable intelligence to your Board. More importantly though, you will have helped your organization to proactively utilize this information to determine the best course of action to prevent it from negatively impacting your Initiatives and Objectives.