Comparing Balanced Scorecard(BSC) with Traditional Performance Measurement

Traditional Performance Measurement Systems

Traditional Performance measurement system tracks only the financial performance of the organization relating to profit earned from selling to the capital required. They focus solely on financial measures based on internal accounting reports such as profitability, revenue, cash flows, earnings per share (EPS), return on assets (ROA),economic value added, etc. These measures are known as lag indicators as they only reflect the past data and represent historical performance (Kaplan and Norton 1992, 1996). Even-though such quantitative performance metrics can control and improve the internal performance of the organization, they can result in incorrect decision-making in the long-term.

First, relying solely on financial metrics can motivate managers to make decisions that sacrifice long-term value creation for the benefit of short term performance (Anthony & Govindarajan, 2007; Porter, 1996). For example; cost reduction can increase profit in the short-run, but only at the expense of loss of quality, loss of expertise and/or loss of customer base which all have long-term impacts. The traditional performance measurement systems were designed and appropriate to be used in the industrial age, a case of 50 years ago where the majority of companies were mass-production based having tangible assets like plant, property, equipment. In such cased financial performance based on past historical data was sufficient for decision making purposes. However, the modern business environment has moved from mass-production based industrial era to knowledge based era. This transformation has brought about a shift from relying solely on measuring tangible assets towards the valuing of intangible assets such as customer relationship, human capital, intellectual capital,etc. So, in today's competitive environment, sole reliance on the financial measures is inappropriate as these quantitative measures do not measure intangible assets, do not address the issue of competitive rivalry, are too aggregate, not timely and are backward looking to help managers to root cause performance problem and initiate timely corrective actions .

Secondly, traditional performance measures are not linked to the organizational strategy. Strategy is relates to the long-term goals of the organization, the scope of the organization’s activities, the allocation and matching of organizational activities to its resource capabilities and business needs, and consideration of the organization’s stakeholders' values and expectations (Anthony & Govindarajan, 2007 ; Porter, 1996). Traditional performance systems focus on short-term financial performance, resulting in a disconnect between organizations' long-term strategy and its short-term actions. Organizations must measure performance in ways that not only replicate past positive performance, but also encourage positive future results. Today's business environment is characterized by intense competitive rivalry and as a result businesses have to be flexible and adaptable to gain and sustain a competitive advantage (Porter, 1996). Organization must excel in other critical areas such as product or service quality, organizational flexibility, customers relationships, relationships with suppliers, relationships with employees, processes and technology know-hows, and innovation in order to survive in the current competitive environment. Therefore, modern organization must invest in intangible assets that create future value such as Customer relationship, employee development and intellectual capital. These intangible assets drive value creation, are linked to the long term growth of the company and have become a major source of competitive advantage (Kaplan and Norton, 1996). Therefore, it is critical that these intangible assets are measured as they are leading indicators of organizational performance. However, traditional performance systems do not measure such non-financial performance. By focusing only on lag indicators and ignoring lead indicators, managers tend to have the problem of shortsightedness at the expense of long term benefits.

Therefore, traditional performance measures which predominately focusses on financial performance measures are not appropriate in this dynamic and changing environment. Focussing just on financial-measures is inadequate because one-type of performance metric, cannot realistically capture the entire organization's performance. Organizations need to link performance measurement to strategy, and therefore, the performance measurement system must include both financial and non-financial measures in order to get a complete snapshot of organizational performance to succeed in the modern dynamic environment. A performance measurement system that aligns performance measurement to strategy by linking short-term actions with long-term goals such as customer relationships, employee and organizational capabilities are critical for success.

Balanced Scorecard

The Balanced Scorecard (BSC) is a performance measurement system that addresses the weaknesses of the traditional performance measurement systems. It has added strategic non-financial performance metrics to traditional financial metrics, thus, providing a ‘balanced’ view of an organizational performance (Anthony & Govindarajan, 2007; Kaplan and Norton 1992;1996). BSC reflects changes in the modern competitive environment by taking into account the intangible assets that have became a major source of competitive advantage (Kaplan and Norton, 1996).

BSC is an integrated strategic management system that aligns business activities to the strategy of the organization by linking performance measurement with the company’s strategic objectives. It provides a framework to translate the organization's strategy into specific quantifiable performance objectives that can be measured (Kaplan & Norton,1996).The performance objectives are measured using the four inter-connected perspectives, i.e., the financial perspective, customer perspective, learning and growth perspective and internal business processes perspective (Kaplan and Norton, 1996).

• Financial Perspective
  The financial perspective focuses primarily on the financial objectives of the organization. It deals with the tracking and monitoring of financial success and how the company look to the shareholders (Kaplan and Norton, 1996). The typical financial measures are the profitability, revenue, Return on Investments, Return on Capital Employed ,cash flows, and sales growth.
• Customer Perspective
  The Customer Perspective perspective deals with how the customers see the company (Kaplan and Norton, 1992). This perspective focuses primarily on customer satisfaction since customer satisfaction and retention is linked to the long term growth and survival of the company. This perspective helps in the long-term planning of the company. The goal is to measure the value delivered to the customers by meeting customer demands and needs. Measures selected for this perspective include customer satisfaction rate, customer retention rate, delivery performance, quality performance, existing market share, and percentage sales to new customers, and so forth.

• Learning and Growth Perspective
  Learning and Growth Perspective focuses primarily on intangible drivers of future growth such as human capital and operational capital . This perspective deals with objectives such as the capability of the company to continue to grow, improve and create value (Kaplan and Norton, 1992). In the modern dynamic and intensely competitive business environment, the organization must constantly change, adapt, learn, improve and innovate to create future value and survival. Measures selected for this perspective include Job satisfaction, employee turnover, employee training, and development,the rate of innovation, etc.

• Internal Business Processes Perspective
  Internal Process Perspective focuses primarily into the area of internal operational objectives that the company must achieve at in order to survive (Kaplan and Norton, 1992). This internal focus perspective gives an understanding of how well the organization is operating and helps to determine which activities are meeting the real needs of the customers. Organization will have to excel in the key processes necessary to deliver the customer’s need such as producing value adding products or services, improving internal resource and asset utilization.The measures that are used to assess Internal Business Processes Perspective include efficiency levels, value analysis of unit costs, and process alignment.

BSC analyzes the company performance from the above four perspectives where performance metrics are designed, collected and analyzed relative to each of these four perspectives. The measurements of the four perspectives have inter-dependent relationship between them (Kaplan and Norton, 1996). The learning and growth perspectives leads to delivering high quality internal business processes as employees would have developed right competencies. By having good internal business processes, the company would be able to meet their customer’s needs and will gain market share and customer loyalty for future business. The higher customer’s satisfaction can lead to improvement in the company’s financial performance. This highlights that the objectives in the four perspectives are inter-linked. Therefore, if an organization can excel in all the perspectives of the BSC scorecard, the organization would have a better long-term financial success (Kaplan and Norton,1992).

Thus, the BSC measures organization performance by balancing between financial and non-financial measures. Progress is measured with traditional financial measures, such as profit and loss, along with contemporary non-financial measures such as customer satisfaction, employee retention, brand equity, intellectual capital and market share. BSC includes both lag indicators and lead indicators in the four perspectives and links the strategic objectives of an organization to the day-to-day actions of managers

Conclusion

In conclusion, organizations need to link performance measurement to strategy. Strategic decisions occur at many levels of managerial activity. Therefore, it is crucial that the organization’s performance measurement system must be linked to the objectives of business units, functional units, groups and individuals (Kaplan and Norton ,1996). The traditional performance measurement systems are said to be no longer appropriate in this dynamic and changing environment, as they do not reflect the organization strategy, nor the uncertainty in the competitive environmental, nor addresses organization improvement and capabilities. Organizations need to link performance measurement to strategy, and must measure performance such that they encourage both, positive future results and replicate past positive performance .

Balanced scorecard is an integrated strategic management system, which has overcome the limitations of the traditional performance measurement systems. The BSC provides a balanced view of the company’s overall performance by aligning organizational activities with the company's strategy and vision. The main advantage of the balanced scorecard methodology is that it created the basis for forward-thinking performance measurement by linking “what the organizations wants to achieve” (financial and customer objectives) with “ How the organizations can achieve this” (internal process and learning and growth objectives). In order to successfully execute organization vision and strategy organizations must monitor and control that all business units, functional units, groups and individuals are all pursuing strategic goals. BSC links strategy to operational activities and creates a strategy focused organization. It monitors different business processes to determine which metrics are most effective in measuring performance and provides feedback to internal business & external business process in order to continuously track and improve strategic performance and results. Performance issues are discovered early, giving managers opportunity to take corrective action, identify the company’s value drivers and ensure correct strategies have been adopted. Thus, the BSC aids managers to shift from a reactive management approach to a proactive management approach. By linking strategy to operational objectives to organization strategy, BSC enforces managers to look at the long-term view of the organization, promoting managers to think about the future and not focus on the past. This is in contrast to the drawbacks of the traditional performance measurement systems, which are too aggregate, not timely and are backward looking to help managers to root cause performance problem and initiate timely corrective actions.