Understand Before You Make Adjustments
Many organizations have more management information than ever before.
Dashboards display revenue, margins, costs, customer behavior, productivity, and dozens of other KPIs in near real time. Yet more information does not automatically lead to better management.
The crucial difference lies between measuring and understanding.
Performance management therefore does not begin with the question of which KPIs can be displayed, but with the question of what information management needs to assess whether the company is moving in the desired direction.
Performance is more than just financial results
Financial results are ultimately the most important measure of economic performance, but they often lag behind the events that cause them.
A decline in revenue only becomes financially apparent after commercial performance has already deteriorated. An increase in personnel costs may be the result of capacity decisions made months earlier.
That is why performance management must link financial and operational information.
Revenue and margin remain important, but can be supplemented with order intake, volume, customer retention, or price trends. Labor costs can be analyzed in conjunction with FTEs, productivity, and utilization rates.
The goal is not to collect as many KPIs as possible.
The goal is to understand which drivers ultimately determine financial performance.
Leading and lagging indicators
In this context, the distinction between leading and lagging indicators is useful.
Lagging indicators describe a result that has already been achieved. Revenue, EBITDA, and cash flow are typical examples.
Leading indicators aim to highlight a trend before it becomes apparent.
For example, order intake can be a leading indicator for revenue. The sales pipeline can provide insight into future orders. Employee turnover can influence future capacity.
A good performance management model includes both.
Lagging indicators show whether the final result has been achieved. Leading indicators provide earlier clues about the direction in which the result is heading.
This makes it possible to make adjustments before the full financial impact becomes apparent.
Fewer KPIs, Better KPIs
A common problem is KPI inflation.
Every department adds metrics that seem useful. Over time, a dashboard ends up containing dozens of metrics, and almost every number is labeled a KPI.
As a result, the concept loses its meaning.
A Key Performance Indicator should actually say something about a critical factor for achieving objectives.
The selection process must therefore start with strategy and the business model.
Which economic drivers determine success? Where do the greatest risks lie? Where can management actually exert influence?
Furthermore, a KPI must have a clear definition, an owner, and a desired range.
Without those elements, it’s mostly just a statistic.
Comparison creates meaning
A number on its own says little.
A 28 percent margin can be good or bad depending on historical performance, budget, forecast, competition, or product mix.
Performance management therefore almost always revolves around comparison.
Actual versus budget shows how actual results compare to the original plan. Actual versus forecast compares results to the most recent projection. Year-on-year comparisons can reveal structural trends.
But even these comparisons are just the beginning.
When revenue is five percent below budget, the cause must be investigated.
Variance analysis: from difference to cause
A robust variance analysis breaks down differences into their economic causes.
For revenue, for example, volume, price, and mix can be distinguished.
For material costs, volume, purchase price, and efficiency may be relevant. For labor costs, staffing levels, salaries, and external hiring can be analyzed.
This allows for an important distinction between a financial variance and an operational cause.
Suppose revenue is €1 million below budget.
Without further analysis, it is unclear what management should do.
If it turns out that volume is contributing a negative €1.5 million but higher prices are offsetting €0.5 million of that, a very different discussion arises.
Then, a targeted investigation can be conducted into why volume is lagging.
Performance management should therefore not stop at the question, “What is the deviation?”
The relevant question is: Why is it deviating?
Not every variance requires action
Finance organizations sometimes tend to treat every negative variance as a problem.
This can lead to mechanical management.
Actual performance is always the result of multiple factors. For example, a cost overrun may have been intentionally accepted to capitalize on a business opportunity. A lower margin may be related to a strategic customer or product launch.
Therefore, for every deviation, it must be assessed whether it is economically relevant and whether taking action is warranted.
Some variances are temporary. Others are structural.
Some are manageable. Others result from external circumstances.
A seasoned controller makes that distinction before making recommendations.
Materiality and Exception Management
When everything receives attention, ultimately nothing receives enough attention.
Performance management must therefore focus on materiality and exceptions.
Not every minor deviation warrants discussion in a management meeting. Attention should be focused on developments that are material, could become structural, or put key assumptions under pressure.
This also means that dashboards and reports must not only display information but also help set priorities.
Where are deviations outside the target ranges? Which KPI has been deteriorating for several consecutive periods? Which trend deviates significantly from the forecast?
Technology can handle much of the preparatory work here.
But determining materiality remains a professional judgment call.
Reporting as a Tool
Management reporting is often viewed as a separate end product.
From a performance management perspective, that is actually too narrow an approach.
A report is a tool to support the right management discussion.
The success of a report is therefore not determined by how much information it contains, but by whether it quickly makes clear what has changed significantly, why that happened, what the expected impact is, and where a decision is needed.
A sixty-page report can be comprehensive and yet offer little value.
A dashboard with five well-chosen KPIs and a sharp analysis can be much more effective.
Moreover, senior management rarely needs just numbers. Context and interpretation are essential.
From Explaining to Looking Ahead
Performance management should not become exclusively a backward-looking process.
The analysis of actual results must be linked to the forecast.
When a structural deviation arises, the next question is what this means for the rest of the year.
If margins are lower in the first three months due to a sustained price trend, that information must be reflected in the forecast.
This ensures that performance management and forecasting are directly aligned.
Actuals are not an endpoint. They provide new information used to adjust the forecast.
This transforms the traditional monthly reporting cycle into a continuous learning process.
Behavior and Accountability
Performance management also has an organizational dimension.
KPIs influence behavior.
When managers are driven solely by revenue, margins can come under pressure. When only costs are measured, investments that create value in the long term may be postponed.
The selection of metrics must therefore be done carefully.
A good set of metrics not only measures output but also takes into account the various dimensions of value creation.
In addition, it must be clear who owns a result and who is responsible for taking action.
Finance can analyze performance, but business management must retain ownership of operational measures.
The business controller supports, questions, and challenges.
The controller as architect of the management discussion
The greatest value added by business control lies not in producing the report, but in improving the discussion that follows.
A strong controller can distinguish between signal and noise, between temporary and structural issues, and between symptoms and causes.
He or she identifies relevant connections and places figures in the context of strategy, planning, and forecasting.
This transforms the contribution of finance.
Not:
“The gross margin is 1.8 percentage points below budget.”
But:
“The gross margin is 1.8 percentage points lower. About two-thirds of that is due to a less favorable product mix. Based on the current order backlog, that effect is likely to persist into the next quarter. Without price or mix adjustments, the annual margin will come in about one percentage point below the forecast.”
This analysis is useful for management.
It links results, causes, expectations, and possible actions.
That is the essence of performance management.
The goal is not to measure more or report faster as an end in itself, but to understand what the performance data reveals before deciding how the organization should adjust its course.