Effectiveness of performance measure
- 1. Effectiveness of Performance Measure Prof. S S Budhwar Sri SIIM New Delhi.
- 2. Identify the Characteristics of an Effective Performance Measure • It is important to identify the characteristics that make a performance measure a good assessment of goal congruence. A good performance measurement system will align the goals of management with the goals of the corporation, and both parties will benefit. A lack of goal congruence in a performance measurement system can be detrimental to a business in many ways. Without proper performance measures, goal congruence is almost impossible to achieve and will likely lead to lost profits and dissatisfied employees,
- 3. A good performance measurement system should have the following characteristics: It should be based on activities over which managers have control or influence. It should be measurable. It should be timely. It should be consistent in its application. When appropriate, the actual results should be compared with the budgeted results, standards, or past performance. The measurements must not favor the manager over the goals of the entire organization. Often, managers have the ability to make decisions that favor their individual units but that may be detrimental to the overall performance of the
- 4. Effectiveness of performance measures In addition, it is very important for the information that is used in the performance measurement system be gathered, evaluated, and presented in a timely manner. In addition to being timely, performance measures need to be applied or measured consistently. When measures are changed, it is imperative that the manager being evaluated is aware of the measurement change, as this may affect his or her decision-making.
- 5. Performance measures are only useful if there is a baseline against which to compare the measured results. For example, students often evaluate how well they performed on a test by comparing their grade to the average for the test. If a student scored 65 out of 100 on a test, the initial response may be that this is a less than stellar grade unless that score is compared to the average. Suppose the average on that particular test was a 50. Obviously, in this example, the student performed above average on this test, but this could not be interpreted correctly until the score was compared to a baseline. In evaluating performance measures, a standard, baseline, or threshold is typically used as a basis against which to compare the actual results of the manager.
- 6. Long Term and Short Term Goals A company has both short- and long-term goals. Short-term goals include reducing costs of production by a certain percentage for the current year or increasing year-over-year sales by a certain percentage. Long-term goals may include expanding into new territories or adding new products. A good performance measurement system will include both short- and long-term measures in order to motivate managers to make decisions that will fulfill both the corporations and their own short- and long-term goals.
- 7. You’ve learned about the human factor that causes managers to make what is typically the best decision for themselves rather than the best decision for the overall good of the corporation, especially if the decision that benefits the corporation is not beneficial to the manager. Again, this means the performance measurement system must attempt to prevent the manager from benefitting without the corporation also benefitting. This is one of the trickiest parts of performance measurement system design.
- 8. Introduction to Return on Investment, Residual Income, and Economic Value Added as Evaluative Tools • One of the primary goals of a company is to be profitable. There are many ways a company can use profits. For example, companies can retain profits for future use, they can distribute them to shareholders in the form of dividends, or they can use the profits to pay off debts. However, none of these options actually contributes to the growth of the company. In order to stay profitable, a company must continuously evolve. A fourth option for the use of company profits is to reinvest the profits into the company in order to help it grow.
- 9. Return on Investment One way to measure how effective a company is at using its invested profits to be profitable is by measuring its return on investment (ROI), which shows the percentage of income generated by profits that were invested in capital assets. It is calculated using the following formula:
- 10. Asset turnover indicates the number of sales dollars produced by every dollar invested in capital assets—in other words, how efficiently the company is using its capital assets to generate sales. It is computed as: Using ROI represented as Sales Margin × Asset Turnover, we can get another formula for ROI. Substituting the formulas for each of these individual ratios, ROI can be expressed as:
- 11. To visualize this ROI formula in another way, we can deconstruct it into its components, as in Figure below