I would like to argue that having a restricted set of focus performance indicators is more beneficial than having numerous performance indicators. I would like to scope my argument within oil and gas industry since I use my experienced in that type of business to support my argument.
Today business environment is changing rapidly. It can be seen from the financial time report 30 years ago. Many companies that had the highest rank don’t exist anymore. Most economy experts argued that those companies were failed to identify the trend changes in business’ environment and failed to implement its strategy to business processes. There is why most companies nowadays monitor their business progress to adapt business’ environment. The way they monitor the progress is by using management control systems with result control. They compare their result with internal requirement and other companies.
This case also happens in Pertamina, the company that I work for. Pertamina is an integrated oil and gas company. Its main business units (BU) are exploration of oil and gas field, production, refining, distribution and marketing of fuel and gas products. It also has 23 subsidiary companies that are not correlated to its main business such as Hospital, Training, and Airlines. Pertamina’s Board of Directors (BOD) performs as Board of Commissioners (BOC) for the subsidiary companies.
Pertamina set performance planning and control system to monitor progress and achievement of all Bus and Subsidiaries. Pertamina’s Business Evaluation Department guides this system to ensure that the system is working in all BU through the year. Every end of year, this department works with BOD to set Pertamina’s financial target for the next year. They set the target base on sum of all BU financial targets. Therefore all BUs and Subsidiaries calculate their financial forecast for the next year. This forecast is discussed with the BOD to get approval. During that discussion also, all BU and Subsidiaries report their financial achievement for that year to the pertamina’s BOD.
In 2008, BOD decided to expand Pertamina’s business and made it more responsive to the environment. It set clear strategy to increase profit. To make sure the strategy was implemented to all business process, it decided to use balanced scorecard system. This system emphasized that all BUs and subsidiaries business processes is directed to get more profit.
Business evaluation Department worked very closely with all BUs and subsidiaries to develop the Balanced Scorecard system. First, it aligns Pertamina strategy to get profit with pertamina’s financial strategy. After that, the strategy converted into lag financial measurements. It is resulted 8 indicators to be monitored. They were ROE, ROI, Cash Ratio, Current Ratio, Collection Period, inventory turn over, Total Asset Turn Over, and TMS to TA. These indicators were cascaded to the customer perspective. As a result, there were 20 indicators only for this perspective. Internal business indicators were developed into 123 indicators and learning and growth were 46 indicators. BOD chose 45 indicators that it would like to assigned to the BUs and subsidiaries. Therefore BU’s Head Officer and Subsidiary’s BOD had 45 performance indicators. They will get bonus/reward according to their achievement for those entire indicators’ target.
BOD was sure that the next year company will get profit from all BUs and Subsidiaries activities. Moreover, alignment process was successfully implemented in all employee performance indicators and rewards system. Financial performance up performed only because the oil price was increase. If the result was compared to index prices then it was underperformed. Therefore in year 2008 report, company’s profit target was below target. The report also showed that performance’s results in many operational areas were under target. As result most employees got bonus which was lower that last year. Many employees started questioning the performance indicators that they have. Most of them were not satisfied with their performance indicators, especially with the number of the indicators.
In this situation, I acknowledge some advantages for using many indicators. One of the advantages is that a company that uses many indicators is able to see the whole company performance progress. In order to come with the right decision, Pertamina’s BOD preferred to have all sense of business progress. These all sense of business progress can only be given if the company monitors all internal business and external trend progresses. Therefore, the BOD asked to have many indicators in the company to reflect those progresses. it also can have broad view of market trends. As example rather than only measure total product sales volume, it is better to measure sales volume in each specific product, so that company know which product has increase in demand.
Another advantage is that having many indicators will increase the probability to have counter measures. As example for a sales person the probability to measure her/his performance not only from sales’ profit but also from the sales volume and other indicators that influence her/his sales profit’s achievement. The argument is that product price or oil price has a big influence for sales’ profit. Therefore measuring only sales profit is not sufficient to indicate that person success in sales.
Last advantage is that having numerous indicators will reduce the risk for having a bad performance result. A risk avoidance employee will prefer to have numerous indicators. The reason is that numerous indicators will help to boost up other indicators that achieve low performance.
In the other hand, there are many advantages to have focus indicators. Moreover, the need to have many indicators doesn’t mean that it is necessary to make those indicators as performance measurement. Company needs to differentiate performance indicators from monitoring indicators. Pertamina could monitor many aspects that are related to its business progress as part to support decision making only.
In my opinion, it would be better if employee have performance indicators are of highest importance for them to measure the progress of their tasks / missions. These focus indicators have several advantages. These advantages will not only benefit employees but also the company.
First, focus indicator gives a clear goal for the company and gives clear directions for employee to achieve that goal. From the first Management Control System (MCS) Class, it was stated that one of the reason for a company to assign Control System is to get clear goal within the company. The goal should be clear, specific, and challenging for the employee. In Pertamina, employees always have problem every beginning of year when the BU Head Officer and Subsidiary’s BOD communicate their performance target. With 24 performances to be achieved within that year, they don’t know the company strategy for the following year. It’s not clear whether the strategy is developing new product by developing innovation, increasing revenue by entering new market or reducing cost by increasing specialty, since every year they have many things to achieve from increasing ROI, increasing revenue, increasing product development, decreasing cost and improving innovation capabilities. Christopher D. Ittner and David F. Larcker, author of Coming Up Short on Nonfinancial Performance Measurement, argued that when companies don't know what to measure, they often end up measure too much indicators. As result, these 24 indicators made employees unable to focus their effort to achieve the target. All employees tend to daily activity which doing the business as usual and hoping there will be good result within the last year. The reason is that there was no clear direction on what to achieve.
More over some indicators are contradictory. For example the Production BU Head must achieve a certain target for Total cost, in the other hand he has performance target to spend money for none directly correlated activity in business such as innovation learning and environment activities. Therefore when the total cost is forecast to exceed budget within the year, he will neglected performance target for innovation learning and environment. As result, 2008 survey showed very low capabilities to build innovative product and environment friendly process. And he got blamed from the BOD for neglecting those activities. His argument is that there isn’t clear direction for him whether he should reduce cost or increase innovation and environment friendly capability.
Therefore, the BU’s Head Officer and Subsidiary’s BOD must have focus indicator so that they have clear strategy direction to be communicated to their employees. And so that Pertamina’s employee could focus their effort to achieve the goal.
Secondly, having focus indicator will motivate employees because it reduces the complexity for linking performance and reward system. From the fourth lesson of MCS class, the Professor explained that company should assign number of performance indicators that motivate employee in getting their performance’s rewards. For example in Pertamina, to get the total performance from all indicators, managers should assign weighted level for his/her employee indicators. This is a very difficult task because s/he must compare all indicators based on the critical level, easiness to achieve and effort needed. To get objective result for the weighted, s/he must use analytical hierarchy process which is demotivating for some people because its complexity. Moreover sometimes to make it simple, many employees assign average weight for all indicators. As result, most the weight lies between 5-7% each. This weight is considered low and not very motivate for them to achieve it. Therefore using focus indicator, employees has less complex performance system. They can also easily assign higher weight for more important indicators since less comparison between indicators.
Another advantage of using focus indicators only is that the employee could remember and monitor her/his performance easily. To support my argument, the article of The Magical Number Seven, Plus or Minus Two by George A. Miller (1956), a person can only remember effectively 7 + 2 things. Therefore it is better to have focus indicators so that employee is able to keep on track of his/her performance easily without disturbing her/his activities to achieve her/his performance. On the other hand, if there are 8 financial and 16 operational indicators for an employee, there are so many reports to make. Most BU Head officers complained that they spent half month for every month only to make the financial report for the previous month. As a result less time was spent to make operational decision for the following month. Moreover, reducing employees’ effort for handling their performance’s report, Pertamina installed MySAP program which is more expensive to buy and to maintain than using manual report system.
As conclusion, a company that assign focus indicator will benefit more from having a clear goal, clear directions for employee, less complex rewards system, and less time and effort to monitor the indicators. And to get clear businesses trends and counter measure, Company can support performance system with monitoring other indicators that are not related directly to the performance rewards system.
Reference:
1. The Magical Number Seven, Plus or Minus Two: Some Limits on our Capacity for Processing Information, George A. Miller, 1956
2. The Balanced Scorecard - Measures That Drive Performance, Robert S. Kaplan and David P. Norton, 1991.
Coming Up Short on Nonfinancial Performance Measurement, Christopher D. Ittner and David F. Larcker, 2003.
