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Chapter 11

Evaluation of strategies and


performance measurement
Introduction
Learning objectives

Show, in a given scenario, how a business chooses from competing strategies in order to
maximise the achievement of its key objectives, including those relating to corporate
responsibility and sustainability

Choose, for a given scenario, a strategy or combination of strategies which will achieve the
business's objectives and takes account of known constraints, including stakeholder risk
preferences

Identify the implications for stakeholders, including shareholder value, of choice between
strategies

Assess a business's current position and performance from both a financial and a non-financial
perspective, using a variety of information sources and data analysis

Analyse financial and other data in order to provide information for strategic decision making

Explain and demonstrate how financial and non financial data can be analysed in order to
implement and manage a businesss strategy and monitor the performance of its projects,
divisions and other strategic units

Tick off

Specific syllabus references for this chapter are: 1g,2b,2c, 2e, 2g, 3g.

Examination context
This chapter looks at two key areas, evaluation of strategies and performance measurement.
An important skill when evaluating strategies in the exam is the ability to assess them in the light of the
organisation's current position, mission and stakeholder objectives and examples of this can be found in
questions 1 and 2 of the sample paper.
Questions are regularly set on performance measurement.

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1 Evaluation of strategic options


1.1

Evaluation criteria
Johnson, Scholes and Whittington (Exploring Corporate Strategy) provide a checklist for assessing options:

1.2

Suitability
Suitability relates to the strategic logic and strategic fit of the strategy.

1.3

Acceptability (to stakeholders)


The acceptability of a strategy relates to people's expectations of it and its expected performance
outcomes.

1.4

Feasibility criteria
Feasibility asks whether the strategy can in fact be implemented. Does the firm have the resources and
competences required to carry the strategy out? Are the assumptions of the strategy realistic?

2 Critical success factors


2.1

Identifying CSFs
Critical success factors are a small number of key goals vital to the success of an organisation ie things that
must go right.
Five areas in which CSFs should be identified:
1
2
3
4
5

2.2

The structure of the particular industry


Competitive strategy and position of the firm
Environmental factors
Temporary factors
Functional management issues

Using CSFs for control


CSFs focus management attention on what is important.
The advantages are:

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The process of identifying CSFs will help alert management to the things that need controlling (and
show up the things that are less important).

The CSFs can be turned into Key Performance Indicators (KPIs) for periodic reporting.

The CSFs can guide the development of information systems.

They can be used for benchmarking organisational performance internally and against rivals.

EVALUATION OF STRATEGIES AND PERFORMANCE MEASUREMENT

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3 Strategic control
3.1

Strategic control systems


Control at a strategic level means asking the question: 'is the organisation on target to meet its overall
objectives and is control action needed to turn it around?'

3.2

Strategic performance measures


Desirable features of strategic performance measures.
Role of measures

Comment

Focus attention on what matters in the long term.

For many organisations this might be shareholder


wealth.

Identify and communicate drivers of success.

Focus on how the organisation generates


shareholder value over the long term.

Support organisational learning.

Enable the organisation to improve its


performance.

Provide a basis for reward.

Rewards should be based on strategic issues not


just performance in any one-year.

Characteristics of strategic performance measures.


`
`
`
`
`
`

Measurable
Consistently measured
Meaningful
Re-evaluated regularly
Defined by the strategy and relevant to it
Acceptable

4 Assessing a firms performance data analysis


4.1

Profitability
A company should be profitable, and there are obvious checks on profitability.
(a) Whether the company has made a profit or a loss on its ordinary activities
(b) By how much this year's profit or loss is bigger or smaller than last year's profit or loss
It is probably better to consider separately the profits or losses on exceptional items if there are any. Such
gains or losses should not be expected to occur again, unlike profits or losses on normal trading.

4.2

Sales margin
Definition
Sales margin: Sales turnover less cost of sales. Sometimes expresses as a percentage of sales turnover to
indicate the proportion of sales proceeds retained as gross profit.

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4.3

Divisional performance measurement


Return on capital employed (ROCE)
ROCE is also called Return on Investment (ROI) or Return on Net Assets (RONA). This divisional
performance target is calculated as:

Profit for the period x 100%


Average capital employed during the period
This measure is popular because:
`

It can lead to a desired group ROCE.

It enables comparisons to be made between divisions of different sizes.

It is readily understood by management.

It is quick and cheap to calculate given that the financial reporting system will be calculating profits and
asset values already.

Residual Income (RI)

This measure was developed to avoid a dysfunctional consequence of ROCE/ROI.


Managers are evaluated and rewarded against ROCE improvements may choose to forego investments
which are in the investors interest.
Divisional Profit (Net Assets of division x required rate)

Problems of both ROCE/ROI and RI in the evaluation and control of business divisions are:
`
`
`

Encourage short-termism
Discourage investment in assets
Lack of strategic control

5 Balanced scorecard (Kaplan and Norton)


5.1

Financial measures of performance


The principal limitations of management reliance solely on financial performance measures:
`
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`
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5.2

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Encourages short-termist behaviour


Ignores strategic goals
Cannot control persons without budget responsibility
Historic measures
Financial measures can be distorted by creative accounting

The balanced scorecard


Perspective

Question

Explanation

Customer

What do existing and


new customers value
from us?

Gives rise to targets that matter to customers:


cost, quality, delivery, inspection, handling and so
on.

Internal business

What processes must


we excel at to achieve
our financial and
customer objectives?

Aims to improve internal processes and decisionmaking.

EVALUATION OF STRATEGIES AND PERFORMANCE MEASUREMENT

Perspective

Question

Explanation

Innovation and
learning

Can we continue to
improve and create
future value?

Considers the business's capacity to maintain its


competitive position through the acquisition of
new skills and the development of new products.

Financial

How do we create
value for our
shareholders?

Covers traditional measures such as growth,


profitability and shareholder value but set through
talking to the shareholder or shareholders direct.

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Performance targets are set once the key areas for improvement have been identified, and the balanced
scorecard is the main monthly report.
Kaplan and Norton claimed that the scorecard is balanced in the sense that managers are required to
think in terms of all four perspectives, to prevent improvements being made in one area at the
expense of another.

5.3

Developing a balanced scorecard


Kaplan (Advanced Management Accounting) offers the following core outcome measures:
Perspective

Core outcome measure

Financial

Return on Investment
Profitability
Revenue growth/revenue mix
Cost reduction
Cash flow

Customer

Market share
Customer acquisition retention
Customer profitability
Customer satisfaction

Innovation and learning

Employee satisfaction
Employee productivity
Revenue per employee
% of revenue from new services
Time taken to develop new products

Internal business

Quality and rework rates


Cycle time/production rate
Capacity utilisation

5.4

Problems
As with all techniques, problems can arise when it is applied.
`

The balanced scorecard only measures performance. It does not indicate that the strategy is the right
one.

Some measures in the scorecard may naturally conflict, it is difficult to determine the balance which
will achieve the best results.

Appropriate measures have to be devised.

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5.5

The number of measures used must be agreed.

Managers must have the expertise to initiate appropriate action.

Using the balanced scorecard


`

The scorecard should be used flexibly.

The process of deciding what to measure forces a business to clarify its strategy.

The balanced scorecard can influence behaviour among managers, it can be used as a wide-ranging
driver of organisational change.

The scorecard emphasises processes rather than departments.

The scorecard can be used both by profit and not-for-profit organisations because it acknowledges the fact
that both financial and non-financial performance indicators are important in achieving strategic objectives.

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EVALUATION OF STRATEGIES AND PERFORMANCE MEASUREMENT

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Chapter summary

Evaluation criteria

Acceptability
Financial
risk/return
Customers
Investors
Government

Suitability
Strategic logic
Strategic fit

Critical
success
factor

Feasibility
Finance
Competitor
response
Technology
Time

MIT approach
Industry structure
Competitive strategy
Environmental factors
Temporary factors
Functional managerial position

Monitored
and
controlled by

Key
performance
indicators
Strategic
control

Data analysis of firms


performance
Profitability
Sales margin

Balanced scorecard
Customer
Financial
Internal business
Innovation and learning

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