Non-Financial Performance Indicators (NFPIs)

As part of performance management, organisations will use a mixture of financial performance indicators and non-financial ones. This page looks at the reasons for using the latter and some of the issues involved with their use.

The drawbacks of sole reliance on financial performance measures

There are a number of problems associated with the exclusive use of financial performance indicators to monitor performance:

Short-termism

Linking rewards to financial performance may tempt managers to make decisions that will improve short-term financial performance but may have a negative impact on long-term profitability.

For example, a manager may decide to delay investment in order to boost the short-term profits of their division.

Internal focus

Financial performance measures tend to have an internal focus. In order to compete successfully it is important that external factors(such as customer satisfaction and competitors' actions) are also considered.

Manipulation of results

In order to achieve target financial performance (and hence their reward), managers may be tempted to manipulate results.

For example, costs recorded in the current year may be wrongly recorded in the next year's accounts in order to improve current year performance.

Do not convey the whole picture

The use of financial performance indicators has limited benefit to the company since they do not convey the full picture regarding the factors that drive long-term success and maximisation of shareholder wealth, e.g. customer satisfaction, ability to innovate, quality.

Put differently, financial performance is often a consequence of changes in non-financial factors. In particular, many critical success factors involve non-financial factors.

Backward looking

Financial performance measures are traditionally backward looking. This is not suitable in today's dynamic business environment.

The solution is to use both financial and non-financial performance indicators

The optimum system for performance measurement and control will include:

• Financial performance indicators (FPIs) - it is still important to monitor financial performance, e.g. using ROCE, EBITDA, EVA.
• Non-financial performance indicators (NFPIs) - these measures will reflect the long-term viability and health of the organisation

NFPIs and business performance

Introduction

There are a number of areas that are particularly important for ensuring the success of a business and where the use of NFPIs plays a key role. These include:

• the management of human resources
• product and service quality
• brand awareness and company profile.

The management of human resources

Traditionally the main performance measure for staff was cost (a FPI). However, businesses have started to view staff as a major asset and recognise that it is important to attract, motivate and retain highly qualified and experienced staff.

As a result, NFPIs are now also used to monitor and control staff. These can include the following:

• staff turnover
• absentee rates / sick days
• % of job offers accepted
• results of job satisfaction surveys
• competence surveys

Product and service quality

Problems with product or service quality can have a long-term impact on the business and they can lead to customer dissatisfaction and loss of future sales.

A product (or service) and its components should be critically and objectively compared both with competition and with customer expectation and needs, for example:

• Is it good value?
• Can it really deliver superior performance?
• How does it compare with competitor offerings?
• How will it compare with competitor offerings in the future given competitive innovations?

Product and service quality are usually based on several critical dimensions that should be identified and measured over time. Performance on all these dimensions needs to be combined to give a complete picture. For example:

• an automobile firm can have measures of defects, ability to perform to specifications, durability and ability to repair
• a bank might be concerned with waiting time, accuracy of transactions, and making the customer experience friendly and positive
• a computer manufacturer can examine relative performance specifications, and product reliability as reflected by repair data.

Brand awareness and company profile

Developing and maintaining a brand and/or a company profile can be expensive. However, it can also enhance performance. The value of a brand/company profile is based on the extent to which it has:

• high loyalty
• name awareness
• perceived quality
• other attributes such as patents or trademarks.

NFPIs may focus on areas such as customer awareness and consumer opinions.

Difficulties in using and interpreting qualitative information

Particularly at higher levels of management, non-financial information is often not in numerical terms, but qualitative, or soft, rather than quantitative. Qualitative information often represents opinions of individuals and user groups. However there are issues related to its use.

• Decisions often appear to have been made on the basis of quantitative information; however qualitative considerations often influence the final choice, even if this is not explicit.
• Conventional information systems are usually designed to carry quantitative information and are sometimes less able to convey qualitative issues. However the impact of a decreased output requirement on staff morale is something that may be critical but it is not something that an information system would automatically report.
• In both decision making and control, managers should be aware that an information system may provide a limited or distorted picture of what is actually happening. In many situations, sensitivity has to be used in interpreting the output of an information system.
• Information in the form of opinions is difficult to measure and interpret. It also requires more analysis.
• Qualitative information may be incomplete.
• Qualitative aspects are often interdependent and it can be difficult to separate the impact of different factors.
• Evaluating qualitative information is subjective, as it is not in terms of numbers - there are no objective formulae as there are with financial measures.
• The cost of collecting and improving qualitative information may be very high.
• Difficulties in measurement and interpretation mean that qualitative factors are often ignored.

Models for evaluating financial and non-financial performance

As discussed, it is important that a business appraises both financial and non-financial performance. There are four key tools available:

• Kaplan and Norton's balanced scorecard
• The performance pyramid
• Fitzgerald and Moon's building block model
• The performance prism

The benefits of these models are as follows:

• financial and non-financial performance measures are included
• they are linked in to corporate strategy
• include external as well as internal measures
• include all important factors regardless of how easy they are to measure
• show clearly the tradeoffs between different dimensions of performance
• show how measures will motivate managers and employees.

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