Often overlooked in essays on leadership is the role of the organization's measurement and management system. Effective leaders, however, know that measurement and management systems play a critical role in communication; in establishing the culture and values of the organization; and in aligning diverse units, employees, and constituencies. In this chapter, we describe how effective leaders customize their organization's measurement and management system to partner with their employees for strategy implementation. We also discuss how the new measurement and management system goes beyond intra-organizational partnerships, facilitating alignment and partnership with external constituents: customers, suppliers, and communities.
The Balanced Scorecard: From Measurement To Management
We introduced the Balanced Scorecard (BSC) in 1992.1 The BSC measures organizational performance using financial and non-financial measurements in four perspectives: financial, customer, internal process, and learning and growth. The approach quickly evolved into a new system for describing and managing strategy.2 Many of the organizations that adopted this new approach soon enjoyed breakthrough improvements in performance.3
We created the Balanced Scorecard because financial measurements had become insufficient for contemporary organizations. Strategies for creating value had shifted from managing tangible assets to knowledge-based strategies that created and deployed an organization's intangible assets, including customer relationships; innovative products and services; high-quality and responsive operating processes; skills and knowledge of the workforce; the information technology that supports the workforce and links the firm to its customers and suppliers; and the organizational climate that encourages innovation, problem-solving, and improvement. Yet, words were insufficient for describing and communicating such strategies. Statements such as "Delight the customer," "Offer superior service," or "Invest in our people" had very different meanings to different people. The power of measurement was to take the ambiguity out of words so that everyone had a clear, coherent picture of exactly what the strategy is.
Partnering With Employees
Several forces highlight the importance of partnering with employees. Employees want to know that they are working for an organization that is contributing value to the world, that society benefits from the mission and strategy of their organization and its products and services. They need to understand how the success of the organization benefits not only its shareholders, but also its customers, suppliers, and the communities in which it operates. Employees also want to know where they fit within the organization and how they can contribute to helping it achieve its mission and objectives. Furthermore, leaders now recognize that their strategies, however brilliantly they may be formulated, will be successful only if everyone in the organization understands the strategy and helps to implement it.
The Balanced Scorecard provides a simple, clear message about organizational strategy that all employees can understand and internalize in their everyday operations. With such understanding, employees can link improvements in their daily processes to achievement of high-level strategic objectives.
The Balanced Scorecard framework describes strategy with strategic objectives, measures, targets, and initiatives. (See Figure 2-1.) Strategic objectives and measures can be imbedded in a general framework or template, which we call a "strategy map," that complements the Balanced Scorecard with a simple, succinct visualization of the hypotheses and interrelationships that are at the heart of strategy.4 (See Figure 2-2.) The strategy map enables leaders to communicate clearly to employees the nature of the organization's business and how the organization intends to succeed and outperform competitors. It articulates the critical elements for a company's growth strategy 5:
- Objectives for growth in shareholder value
- Targeted customers through whom profitable growth would occur
- Value propositions that lead customers to do more business and at higher margins with the company
- Innovation and excellence in products, services, and processes
- The capabilities and alignment of employees and systems that enhance important internal processes and customer relationships to generate and sustain growth
The strategy map and accompanying scorecard provide a powerful communication vehicle about the organization's vision and strategy. Rather than use measurement to control employees, leaders use strategy maps and Balanced Scorecards to communicate a vision for the future, often embodying new ideas and approaches that promote growth. Employees can become inspired with their understanding of how their organization creates value and intends to be a healthy, growing entity.
For example, at Duke Children's Hospital Dr. Jon Meliones had to cope with the open warfare on the one hand and caregivers—physicians and nurses—on the other.6 Administrators kept emphasizing, "Cut costs, save money." Caregivers replied, "We're not good at cutting costs; we cure children and save lives. That is our mission." Staff members were demoralized, financial performance was terrible, and improvement programs kept failing. Meliones created a leadership team with representatives from each of the three employee groups to redefine the mission and to develop a Balanced Scorecard that incorporated two apparently conflicting objectives—lower costs, improve patient care. Meliones, the leader, continued to encounter conflict and resistance, but he kept repeating the balanced mantra, "No money, no mission," emphasizing the need to achieve harmony among these seemingly incompatible objectives. During the next three years, employees worked constructively together; they transformed large operating losses into positive operating margins, while achieving levels of patient care and satisfaction that were ranked best in their category.
Having constructed the high-level strategy map and scorecard, leaders cascade the strategy down to decentralized divisions, business units, and support functions. Rather than dictating the company-level measures down to the operating units, leaders encourage the operating units to define their own strategy—based on local market conditions, competition, operating technologies, and resources—to deliver on the high-level strategic themes. The business-unit managers choose local measures that influence, but are not necessarily identical to the corporate scorecard measures.
The most remarkable transformations and partnerships occur in support functions and shared services, such as human resources, information technology, finance, and purchasing departments. The process transforms these from functionally oriented cost centers into strategic partners with the line-operating units and the company. This alignment is often accomplished with a service agreement that defines the menu of services to be provided—including functionality, quality level, and cost—between each support department and the business units.
The Balanced Scorecard provides a simple, clear message about organizational strategy that all employees can understand and internalize.
—Robert S. Kaplan and David P. Norton
When this process is complete, the employees in all organizational units, whether a line-business unit or a staff function, understand how their unit contributes to overall organizational success. This process aligns the decentralized units to a strategic partnership with each other and the corporate parent to deliver an integrated strategy. Corporate-level synergies emerge in which the whole exceeds the sum of the individual parts.
For these scorecards to be effective, however, everyone in the organization must understand the strategies for their unit, division, and the overall corporation. CEOs understand that they cannot implement strategies by themselves. They need contributions—actions and ideas—from everyone. Individuals far from corporate and regional headquarters create considerable value by finding new and improved ways of doing business. This is not top-down direction. This is top-down communication, helping employees to learn how they can contribute to successful strategy implementation.
Leaders use many different channels to communicate the strategic message. The strategy map and Balanced Scorecard are communicated in newsletters, brochures, bulletin boards, speeches, videos, training, education programs, and the company intranet. The personal behavior of executives reinforces the message.
Employees become truly empowered by understanding what the organization wishes to accomplish, and how they can contribute to these accomplishments. This understanding generates intrinsic motivation. People now know that their work can make a difference to the organization. Employees come to work with energy, creativity, and initiative, searching to find new and better ways by which they can help the organization succeed. New information, ideas, and actions, aligned with organizational objectives, emanate from the organization's frontlines and back offices.
This new partnership with employees is reinforced with personal and team objectives linked to unit and corporate achievement, and, typically, with a new incentive plan that enables all employees to benefit financially as targets for strategic measures are achieved and economic value is created.
A final component occurs when the company implements the learning and growth objectives to upgrade the skills and capabilities of its employees. Employee skills and capabilities enhance internal processes and customer value propositions that are at the heart of the strategy. The strategy map reveals the strategic chain of cause-and-effect relationships that eventually links investment in employee skills to improved financial performance. As the senior executive of a major bank declared:
Partnering With Customers
The customer perspective is at the heart of the organization's strategy. Almost all companies want to grow revenues and reduce costs, so the objectives in the Balanced Scorecard's financial perspective are fairly generic across organizations. What differentiates the companies is how they define their customers and the value proposition for targeted customers. Often, this process leads to new strategic partnerships with targeted customers.
For example, Rockwater, an undersea construction company in the Halliburton organization, competed mainly on price, a typical practice in the construction industry. As it began to build its initial Balanced Scorecard, Rockwater managers took the somewhat unusual step of actually going out to talk to its existing and potential customers, the large integrated oil and gas companies. Rockwater learned that most of its customers did choose the lowest price bidder from among their qualified suppliers. Rockwater identified several important customers, however, who actually preferred suppliers capable of establishing a long-term relationship based on value added, rather than offering the lowest price on individual projects. Rockwater decided to implement a new strategy—to become the number one supplier to customers wanting a value-adding relationship. For Rockwater to become a strategic partner with its targeted customers required the development of several entirely new processes. The nature of the partnership was captured and communicated with measures in its Balanced Scorecard customer perspective (see Figure 2-3) and several new internal business objectives.
Mobil U.S. Marketing and Refining, like Rockwater, moved to a new "customer intimacy" strategy that would offer a superior buying experience for consumers. Mobil's market research had revealed that only 20 percent of consumers purchased gasoline on the basis of price alone. About 60 percent of consumers would be willing to pay a premium price if offered a superior buying experience, including immediate access to a gasoline pump, a convenient and rapid payment mechanism, a superior onsite convenience store, clean restrooms, and friendly employees. Mobil decided to focus its marketing efforts on building long-term relationships with such consumers. It developed loyalty programs, based on a new SpeedpassTM payment mechanism (an employee innovation stimulated by communicating the customer value proposition to all employees through the Balanced Scorecard). Customer measures for the strategy included share of market among consumers in the targeted segments and a mystery shopper score to capture whether the desired value proposition was being consistently delivered in Mobil's 6,500 retail outlets.
Yet, Mobil had to forge a partnership with another set of customers. Like companies in many industries, Mobil's immediate customers were independent wholesalers and retailers. Franchised retailers purchased gasoline and lubricant products from Mobil and sold these products to consumers in Mobil-branded stations. If end-use consumers were to receive a great buying experience, then the independent dealers had to deliver that experience. Dealers were clearly a critical part of Mobil's new strategy.
In the past, Mobil did not consider their retailers or distributors as components of its strategy. Relationships could even be adversarial because for every cent that Mobil reduced the price of gasoline to the dealer, to reduce the dealer's cost of goods sold, one cent would be subtracted from Mobil's top line (revenues). This old strategic view put Mobil and its dealers in a zero-sum game situation. Mobil realized that its new customer-intimacy strategy could not possibly succeed unless it stopped treating dealers as rivals. Dealers had to become partners in the strategy to deliver on the superior buying experience to millions of consumers each day.
The most remarkable transformations and partnerships occur in support functions and shared services.
—Robert S. Kaplan and David P. Norton
In a sharp departure from the past, Mobil adopted an objective and measure to increase dealers' profitability. Mobil set a stretch target to have its dealers become the most profitable franchise operators in the country, so that it could attract and retain the best talent. The new strategy created a positive-sum game, increasing the size of the reward that could be shared between Mobil and its dealers; thus, the relationship would be win-win.
The higher reward came from several sources. First, the premium prices that Mobil hoped to sustain at its stations would generate higher revenues. Second, by increasing the market share in the targeted segments, a higher quantity of gasoline would be sold and a higher percentage of the purchases would be for premium grades. Third, the dealer would have an enhanced revenue stream from the sale of nongasoline products and services, convenience store, and auxiliary car services, a portion of which would also flow back to Mobil. In summary, the Balanced Scorecard provided the language, and subsequently the measurement and management system, to communicate the value from forging strategic partnerships with targeted customers: dealers and end-use consumers.
Partnering With Suppliers
The success of many companies—retailers such as Sears, The Limited, and Wal-Mart; electronic companies such as Hewlett-Packard, Cisco, and Sun Microsystems; and automotive companies—depends on having outstanding suppliers and great relationships with their suppliers.8 When strong supplier relationships are part of the strategy leading to breakthrough customer and/or financial performance, then outcome and performance driver measures for supplier relationships become incorporated on the Balanced Scorecard. Supplier objectives and measures are typically incorporated within the "Achieve Operational Excellence" theme in the Internal Process perspective. (See Figure 2-2.)
For example, a major fashion retailer, which we will call Kenyon Stores, knew that the excellence of its own performance was critically dependent on the ability of its key suppliers to manufacture goods quickly, responsively, and at low cost. Kenyon developed a sourcing leadership theme on its strategy map that stressed development and management of the supplier base, so that desired volumes and mix of merchandise could be rapidly produced and delivered at high standards of quality. Kenyon's in-store personnel examined merchandise from all incoming shipments. One measure recorded the percentage of items that could not be offered to customers because of quality-related defects. The scorecard measured the overall percentage of quality-related returns, and also the specific percentages for individual vendors. A second sourcing leadership measure came from a newly created vendor scorecard that evaluated suppliers along dimensions of quality, price, lead-time, and input into fashion decisions.
Strategic partnerships with suppliers arise when companies wish to select suppliers that offer not low prices, but low costs. Low-price suppliers may turn out to be extremely high-cost if they deliver in large quantities that require extensive storage space, receiving and handling resources, as well as tying up capital from buying and paying for materials and merchandise well in advance of when they are used. The quality of incoming items supplied by low-price suppliers may not be guaranteed to conform to buyer specifications, so the company must inspect incoming items, return those found to be defective, and arrange for replacement parts to arrive (which themselves have to inspected). The low-price supplier may also not have a stellar on-time delivery capability. Its failure to deliver reliably at scheduled times causes the buying company to order well in advance of need and hold protective stock in case delivery is not when expected. Late deliveries cause higher costs for expediting orders and rescheduling the plant around the missing items. Also, low-price suppliers may not be electronically connected to their customers, thereby imposing higher costs on customers when they order and pay for the purchased parts.
Leaders need new measurement and management systems to align their tangible and intangible assets to deliver a coherent and integrated strategy.
—Robert S. Kaplan and David P. Norton
In contrast, a low-cost supplier may have slightly higher purchase prices, but it delivers defect-free products, directly to the end-use location, just in time, as they are needed, and uses electronic channels for ordering and payment. The buying company incurs virtually no costs for ordering, receiving, inspecting, storing, handling, expediting, rescheduling, rework, and paying for parts purchased from this low-cost supplier. A strategic partnership, therefore, can be defined by a cost measure (activity based) that motivates total cost reductions across the supply chain. It would also use measures related to the quality, lead-time, and on-time delivery performance for suppliers.
By elevating strategic objectives and measures for superior supplier relationships to the company's Balanced Scorecard, employees come to understand the value of forging strategic relationships with their key suppliers. This recognition and understanding provides the context for initiatives, resources, and performance feedback on the most critical elements of the supplier relationship.
Partnering With The Community
Companies, such as telecommunications and utilities, whose prices and operations are regulated to some extent by governmental authorities, must have excellent relationships with these authorities and legislatures. Companies whose operations entail environmental, health, and safety (EHS) risks need to comply with regulations in the nations and communities in which they operate. Beyond compliance, they may seek to achieve a reputation as a leader in EHS performance to enhance their ability to recruit and retain valuable employees and to maintain and expand their physical presence in communities. When such regulatory and EHS considerations are vital for a successful strategy, companies include several objectives in a "good corporate citizen" strategic theme in the internal perspective. (See Figure 2-2.) For example, Mobil, in its Balanced Scorecard, included measures on environmental and safety performance, stressing the importance of being a good employer and a good citizen in every community in which it conducted business.9
One chemicals company created a fifth perspective solely to reflect environmental considerations. They argued:
Our franchise is under severe pressure in many of the communities where we operate. Our strategy is to go well beyond what current laws and regulations require so that we can be seen in every community as not only a law-abiding corporate citizen but as the outstanding corporate citizen, measured both environmentally and by creating well-paying, safe, and productive jobs. If regulations get tightened, some of our competitors may lose their franchise, but we expect to have earned the right to continue operations.10
For them, the environmental perspective highlighted how outstanding environmental and community performance was a central part of its strategy and had to be an integral part of their scorecard. It communicated the priority to be the outstanding employer in every community in which it operated.
Thus, even though suppliers and the community are not explicitly one of the four perspectives of the Balanced Scorecard, their interests, when they are vital for the success of the business unit's strategy, are incorporated on strategy maps and Balanced Scorecards. These stakeholder objectives, however, should not be appended to the Scorecard via an isolated set of measures that managers must keep "in control." Their measures appear only when partnerships with suppliers and the community are critical to the success of the strategy and fully integrated into the chain of causal event linkages on a strategy map that define and tell the story of the business unit's strategy.
Traditionally, competitive advantage came from access to low-cost raw materials, energy sources, or financial capital and an ability to invest in physical capital to achieve economies of scale and scope. Today, value creation comes from mobilizing and managing the organization's intangible resources, especially loyal and profitable customer relationships; high-quality and responsive operating and supply-chain processes; information systems and knowledge; and motivated, skilled, and empowered employees. Leaders need new measurement and management systems to align their tangible and intangible assets to deliver a coherent and integrated strategy.
Strategy maps and Balanced Scorecards help leaders communicate the strategy to critical constituents—employees, suppliers, customers, and the community—and focus their entire organization on enhancing the strategic partnering relationships with these constituents that drive and sustain long-term value creation.