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Balanced Scorecard Report the strategy execution source

may – june 2011 : vol 13 no 3

Strategy, Risk, and the Global Financial Crisis By Walter Kiechel III — Adapted from the author’s latest book, The Lords of Strategy: The Secret Intellectual History of the New Corporate World (Harvard Business Press, 2010) The global financial crisis was above all a failure of risk management. But what role, if any, did strategy—or its omission—play in the crisis? Walter Kiechel, arguably the dean of management journalism (and former editorial director of Harvard Business Publishing, former managing editor at Fortune), explores the question pointedly in his latest book, The Lords of Strategy. In this excerpt, he probes the influences that led Wall Street astray and explains how strategy will help org­anizations surmount the “fiercening” of capitalism— the complex challenges business leaders face in the volatile twenty-first century. The precepts of strategy have helped make companies more competitive, alert to their circumstances, and resilient. Why, then, toward the close of 2008 did many enterprises thoroughly dosed in the discipline become enmeshed in a worldwide financial crisis, with some accused of precipitating it? Were the ideas behind the strategy revolution at fault? Did strategy consultants lead astray the management of the great banks and financial services firms? Consultants were clearly there in the alley when the lights were turned off on the global financial system. But a look at recent history shows a more complicated picture, and one that suggests that consultants’ culpability, if any, was the result of their waning, and not waxing, influence. The precepts of strategy (and management), it appears, were often cast aside with the spectacular growth of the mortgage markets and financial derivatives. At the crest of the financial system’s success in 2007, banks and other financial services firms represented an attention-commanding proportion of major consulting firms’ business—for one of the “lords of strategy” firms, it was the largest single client sector.1 That year, the sector’s share of U.S. corporate profits amounted to 41% of the whole, up from a mere 15% in the early 1980s. A constellation of forces—deregulation, competition from new quarters, new technologies—led to consolidation in the financial services industry and a blurring of the traditional industry lines. These forces, coupled with relentless innovation in continued on the following page

1 The book pays particular attention to four figures in the history of strategy, among the original “lords” of the title: the founders of two dominant management consulting firms (Boston Consulting Group and Bain & Company); the man who brought strategy to McKinsey & Company; and Michael Porter of the Harvard Business School.

also in this issue: The BSC-Powered Grassroots Governance Movement in the Philippines: A Progress Report . . . . . . . . . . . . . . 7 From Cost Control to Dynamic Business Planning: Elkay’s Path to an Integrated Management System . . . . . . . . . . 10 Bolster Your Employee Performance Management Process with Performance Contracting Clinics . . . . . . . . . 14

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By this point, the fair-minded observer might reasonably conclude that while strategy and its champions may not have been a main causal factor in bringing on the global financial crisis, they did not do much to avert it, either.

whom critics deride as utter greedheads, can point out that most of their investors are players like your child’s college or the pension fund that pays out your parents’ retirement benefits. Don’t you want them to be earning a superior return?

financial instruments—arcane instruments, such as credit default swaps, that eluded regulators’ watch, a shadow banking system that grew to represent about $60 trillion in assets—led to the sector’s surge. At the same time, the champions of strategy no longer had the ear of the CEOs at most major financial institutions. Innovation was now dominated by the “quants”—that new breed of financial engineer behind the new instruments. The major consultants’ work for banking clients, though it helped the clients save millions, was reduced chiefly to “Greater Taylorism” efforts: cost cutting and sourcing.2

mortgages, credit default swaps—could

Yes, strategy and strategy consultants

be ginned up as fast as Wall Street rocket

did help companies possessed of the

scientists could create them. The busi-

requisite intelligence to become more

nesses selling them billowed out to global

efficient and competitive. Leaner and,

proportions almost overnight. Moreover,

yes, occasionally meaner. But as the

With the quants leading the innovative

widely across the burned-over economic

charge, executives making strategy for

landscape of 2008 and 2009, a disappoint-

financial services outfits—usually senior

ed student of the revolution could even

management, and usually of a more

be tempted to entertain notions along

senior age cohort—were at a disadvan-

the lines of “What good was strategy,

tage, particularly in judging the risk that

anyway? A plague on the original lords,

all the newfangled financial instruments

their successors in consulting and

in their portfolios might carry.

management, and all that they have

Strategists had been incorporating risk

wrought.”

into their calculations for years, but over

if your company was going to get in on the latest bonanza, you’d have to jump in fast, before somebody else could build a dominant position (another apparent lesson of the strategy revolution). By this point, the fair-minded observer might reasonably conclude that while strategy and its champions may not have been a main causal factor in bringing on the global financial crisis, they did not do much to avert it, either. Looking more

world grew steadily more capitalist, with Chinese, Indians, and other entrepreneurial populations piling into the capitalist fray, isn’t that what you’d hope your favorite companies would be doing? Consider the alternative, as represented by the Big Three American auto companies— General Motors, Ford, and Chrysler—each of which at one time or another availed itself of the services of the strategy firms. So arrogant, silo-ridden, and inert were the Detroit giants that they never bothered to get their minds around the three Cs of the strategy revolution (customers, costs, competitors), despite much advice to do just that. (When it came to the auto companies’ core operations, “We never laid a glove on them,” ruefully admits the former head of one of the great strategy consultancies, speaking both of his

Consider the Alternative

own firm and that of his competitors.)

In registering the pain from the biggest

Customers? Who are you talking about?

financial crisis since the Great Depres-

Laws in every state prohibit automak-

sion and one whopper of a recession, let

ers from selling a car directly to you or

us not point fingers too quickly or forget

me; the sale has to go through a dealer,

contributions made over the longer pull

which the car companies came to regard

of history. For example, although con-

as their real customer, with predictable,

sultants may have abetted the process,

dismal effects. Costs? Easier to buy a few

they weren’t the ones who elevated

more years of peace with the United Auto

shareholder value (aka the stock price) to

Workers—kick the can down the road

its place as god above all others. That was

a little farther—even if it means that it

Wall Street, egged on by swinish types

costs us a few thousand more to make

like you and me, who came to expect our

each vehicle than it does those devils

investment portfolios and 401(k) plans to

from abroad. Competitors? As Datsuns

increase in value by 10% a year. The larger

and Toyotas began pouring into the U.S.

story of what happened in the economy

market, Henry Ford II dismissed them as

tory than the ones strategists were used

is complicated, with few unadulterated

little “sh*tboxes.”

to. New financial products—subprime

villains. Even the private equity sharpies,

time, the advisers’ concern with risk had been subordinated to other themes or consigned to particular projects (for example, for a mining or oil company, whether to make a colossal investment to try to discover new reserves). When asked what sin of omission or commission they may have committed in connection with the global financial crisis, most consultants will allow that in their advice they failed to make sufficient provision for risk, particularly systemic risk. But, in fairness, one reason they didn’t see this danger was that the new financial products that eventually triggered the crisis followed a very different start-up trajec-

2F  rederick Winslow Taylor, who developed time-motion studies of work at the end of the nineteenth century, is the father of a fundamental element of the strategy revolution: the search for operational efficiencies. “Greater Taylorism” is my term for the application of this type of efficiency analysis at the corporate, rather than individual, level, encompassing the company’s total functions and processes.

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Without strategy and strategy consultants,

Indeed, when the consultants probed

How is strategy likely to change to meet

we could have broad swaths of the U.S.

for the reasons behind the companies’

this, the latest round of challenges? Put

industry that look like the automakers—

response, much of what they turned up

that question to consultants from the

that is, uncompetitive on a global basis

was dissatisfaction you might have heard

leading firms, and you will find the same

(as are, for instance, many sectors of the

two or three decades ago. With the world

word coming up in the answers from

Japanese economy once you get beyond

changing so fast, how can we make fore-

each: strategy will necessarily become

automobiles and consumer electronics).

casts about the future? The old concepts

more adaptive. But then, hasn’t strategy

The fiercening of capitalism isn’t going

and frameworks don’t seem to make

always been adaptive, a set of conceptual

away; if anything, it looks likely to grow

sense of the river of data pouring in on

responses to the most vexing problems

more intense. In response, strategists

us. What good are a bunch of plans that

companies were facing at the time?

will have to heighten and broaden their

just end up in binders sitting on the shelf?

What’s new here?

sensitivity to potential dangers, shed-

Isn’t execution, after all, what really gives

ding any remnants of the profit-fueled

you a competitive edge?

complacency that, for example, allowed

Of more interest were the trends the

them to remain oblivious to systemic risk.

been humble. Part of what the consultants

BCG consultants identified in parsing

To update former Intel CEO Andy Grove’s

are pointing toward would seem to be a

the economic data, most of these trends

discipline that is less sure of itself, less

maxim, in this new world, only the really,

reflecting the continued fiercening of

certain that its concepts apply to every

really paranoid may survive. Add to this

capitalism (along lines traced in my book).

situation, particularly if that certainty gets

William Burroughs’s observation that

Yes, indeed, the length of time a company

in the way of accurately sizing up business

sometimes paranoia is just having all

might expect its competitive advantage

circumstances that are radically new or

the facts. Strategy and its handmaiden

to last had steadily declined since the

rapidly changing.

Greater Taylorism will have to do a better

1960s, a trend reflected in a surge upward

job on that front as well. All this will prob-

in what the consultants not-so-charmingly

ably entail a rewiring of certain circuits

called “the positional volatility of lead-

in the corporate brain, but as strategy

ers.” Even while a few corporations were

contemplates its future, there are signs

growing to a size larger than many gov-

that the effort may already be under way.

ernments, in most businesses, being the

The Future of Strategy

Over its history, strategy has usually been smart, if not always wise. It has seldom

biggest was less and less likely to make you the most profitable. With a value-

At about the same time that the global

chain analysis in hand, companies were

financial system was freezing up, the

increasingly eager to outsource some

Boston Consulting Group (BCG) canvassed

of their activities, not just information

nearly 20 global companies—corporate

technology and human resources but

titans from India and Japan as well as

also procurement and logistics. And in a

Martin Reeves and his colleagues at BCG’s Strategy Institute, the firm’s in-house think tank on the subject, have ideas about what adaptive strategy might look like in corporate practice. Instead of headquarters dictating a strategy based on “analysis, prediction, and deduction,” the goal would be to set “optimal conditions for the continuous emergence of superior strategies through an adaptive— or evolutionary—process.” In concrete terms, this would mean giving more

Europe and the United States—on the giants’ latest thinking about strategy. More than one replied with a version of “We don’t do strategy.” Attentive students of the subject’s history won’t be shocked by this. They will recall Michael Porter’s concern in the early 1990s that companies had largely abandoned strategy in favor of more faddish pursuits. Nor have they forgotten the backlash in the early 1980s, when corporate disappointment over the failure of strategic planning to deliver on its early promises led to widespread cutbacks in internal staffs devoted to the discipline.

At about the same time that the global financial system was freezing up, the Boston Consulting Group canvassed nearly 20 global companies—corporate titans from India and Japan as well as Europe and the United States—on the giants’ latest thinking about strategy. More than one replied with a version of “We don’t do strategy.” particular irony, just as many companies

responsibility for strategy to the people

were realizing that people were

on the corporate “periphery,” the troops

the key to their future strategic success,

in daily contact with customers, competi-

they were also discovering that share-

tion, and changing market conditions.

holder-value-driven pressures to work

They would be encouraged to probe and

longer hours coupled with heightened

experiment, even if this meant the oc-

job insecurity were making employees

casional failure, with their findings being

more likely to feel unmotivated and

continuously fed back to the corporate

disenfranchised.

center for incorporation into its strategic

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consciousness. As the consultants note

ness of companies, whether that con-

for judgment, even intuition, that can

in a series of white papers, adaptive

sciousness is centralized or more widely

hold its own with the numbers.

strategy would require distinct compe-

distributed: risk, boundaries, corporate

tences on the part of a company, and one

purpose, and, as the apostles of the new

übercompetence in particular: what they

adaptiveness suggest, figuring out for

Throughout its first 50 years, strategy has

italicize as “learning how to learn across

the twenty-first century how to power a

tussled with boundary questions. What’s

industries.”

company’s strategy with the maximum

the right way to define or segment our

energy and imagination available from

market? Which activities should be

its people.

included in this business unit? How broad

The call for companies to become learning organizations may seem familiar. It has been sounded from other quarters since the days of Tom Peters and Robert Waterman (coauthors of the landmark 1982 book In Search of Excellence), perhaps most notably in Peter Senge’s 1990 book, The Fifth Discipline. What makes the summons mildly notable in this case is the fact that it comes from the Boston Consulting Group, through most of strategy’s history not exactly a font of interest in the human dimensions of the discipline. But BCG isn’t alone in its appreciation of the heightened, evermore-critical importance of making your people and your strategy as one. While Bain & Company’s Chris Zook (author of Profit from the Core) won’t go as far in conceding power to the periphery—the troops’ entrepreneurial undertakings

Defining Boundaries

a scope must we consider for our value

Coping with Risk Since strategy’s beginnings, the experts have wrestled with how to build contingency into their calculations. Frequently, this has translated into prescriptions for the use of debt—usually more debt. As the recent turmoil in the world’s financial markets brings home, calculations of risk need to be constantly reexamined as the global economy evolves, and disturbing new possibilities somehow taken into account. And not just financial risk. Economic collapse in countries far away, Internet bubbles that pop, terrorist threats to ever-tighter, leaned-down supply chains—how can the people in

chain? As the trend toward outsourcing and the necessity to think in terms of business networks forewarn us, such questions are only going to get knottier, or woollier, and of greater import. The analytics born of Greater Taylorism make it possible now to bore down to “markets of one,” that single consumer about whom you can learn volumes. In the other direction, the melting winds of globalization have dissolved the difference Americans traditionally saw between business and international business. Why not the entire world as market for your product?

charge make provisions for these in the

Experts on strategic alliances estimate

corporate strategies they devise?

that currently, perhaps 20% of the rev-

need to be bounded by clear strategy

At the heart of many consulting projects

guidelines laid down by the corporate

nowadays is “building the model,” that

center, he argues—he freely concedes

is, using software to plot the variables

enues of large corporations derive from joint ventures. Where do they fit in your portfolio of businesses? Or if, like Procter & Gamble, you aim to increasingly outsource your product development, letting

In March 2009, Jack Welch—of all people—told the Financial Times that “on the face of it, shareholder value is the dumbest idea in the world.” The man once viewed as the poster CEO for value creation went on to explain: “Shareholder value is a result, not a strategy.”

a small company invent the new wonder and then buying the innovation from its creator, how does that affect your lineup of core competencies? The tightly bounded company so long at

that there is a “higher synthesis” of

in a situation, chart how they affect one

the core of strategy’s deliberations in-

organization and strategy under way.

another, and run iterations of how it all

creasingly seems a limiting assumption.

“I don’t know whether organization is the

might play out. But what if the models,

The twenty-first-century version of the

new strategy,” he admits, “or strategy

with all their comforting quantified

discipline will have to offer more help if,

the new organization, but it’s something

precision, prove wrong—as they have of

or when, the dominant verb for corpo-

like that.”

late for the bankers, hedge fund manag-

rate behavior becomes not compete, but

ers, inventors of derivatives, quants in

something like co-create.3

Corporations will be under mounting pressure to sort the matter out, as will the practitioners, consultants, and scholars who will create strategy’s future. Our history suggests four issues in particular that will press on the strategic conscious-

general, and most of the other wizards of finance? In some ways, the challenge to strategy here is another one related to integrating the human element—namely, finding a place in strategy’s deliberations

Wherefore the Corporation? As we’ve seen, strategy was an abettor of shareholder capitalism, not a propulsive force behind it. For too much of its history, the discipline has had little to say about

3F  or more on co-creation, see “Building a Co-Creative Performance Management System,” by Venkat Ramaswamy and Francis Gouillart, in BSR March–April 2011 (Reprint #B1103A). 4

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the interrelated issues of shareholder primacy, the rights conferred by ownership, and corporate purpose. But that failure to think the matter through has begun to chafe, and in unlikely quarters. When Michael Hammer died in the fall of 2008, the New York Times ended his obituary with a surprising quotation, coming from one of the fathers of reengineering: “I’m saddened and offended by the idea that companies exist to enrich their owners. That is the very least of their roles; they are far more worthy, more honorable, and more important than that.”

What would be the right way to think about the goals of a corporation if the superordinate goal were not to maximize the wealth of its owners, the shareholders? And would an accounting that somehow accurately reflected all the ways employees contribute to corporate success make for organizations less inclined to chew up people? tants, and seemingly what Jack Welch was

we can’t shape the business up, we’ll just

getting at, is that the recent paroxysms

sell it off to somebody who will.”)

should remind us that shareholder value is not something to be tracked quarter by quarter, much less trading day to trading day. It is, rather, an edifice that takes years

The global financial crisis only added

to construct, four or five at a minimum.

to the ranks of those questioning the

And hasn’t that always been one of the

maximization of shareholder wealth as

messages of strategy, veterans of the dis-

the be-all and end-all of corporate activ-

cipline add: that you have to look to and

ity. In March 2009, former GE CEO Jack

build for the long term?

Welch—of all people—told the Financial Times that “on the face of it, shareholder value is the dumbest idea in the world.” The man once viewed as the poster CEO for value creation went on to explain: “Shareholder value is a result, not a strategy,” and, more surprisingly, “Your main constituencies are your employees, your customers, and your products.” Other onetime champions of the shareholder are prepared to go further. McKinsey’s Dick Foster, who placed the shareholder at the absolute top of the cap-

Over the past 10 years, the additional pressure from globalization on these trends has led to an increasingly lopsided distribution of incomes—the CEOs, deal doers, and strategy makers getting a larger share of the wealth generated—and a squeeze on what used to be known as the middle classes. Unlike the 1950s and 1960s, when increased corporate prosper-

Most strategists would probably like to

ity meant general prosperity and an ever-

leave the question of corporate purpose

larger population of well-off consumers,

right there. They sense that they walk a

now the only way most folks can maintain

path on the edge of much larger ques-

the levels of consumption they’ve come

tions, some of which the recent financial

to expect for themselves is by taking on

crisis threatened to open to the size of

greater debt—run up those credit cards,

yawning chasms. Principal among these

take out a home equity loan—to the

is how to parcel out fairly the wealth

point where household indebtedness has

created by companies as well as the pain

reached record levels. In some ways, it

their activities can sometimes generate.

was an eerie echo of a lesson that strategy

For the past two decades, corporate profitability has increased steadily—strategy

taught most companies: you ought to be borrowing more.

at work—as has the size of the slice of the

Are we now, as a society—or a number

overall economic pie that profits represent.

of societies all inhabiting a capitalist

That has made for higher stock prices,

world—ready to rethink our reliance

which helped satisfy all those greedy

on market mechanisms to produce the

shareholders (like you or me or anyone

larger good? Are we prepared to sacrifice

else who invested in the market). Higher

a degree of corporate profitability if that

profits have also entailed relentlessly

were to bring with it lessened extremes

pushing costs down—strategy abetted

of wealth and poverty? What would be

by Greater Taylorism—and the largest line

the right way to think about the goals of

item for most companies is still their peo-

a corporation if the superordinate goal

ple. Strategy had already helped shred the

were not to maximize the wealth of its

old social compact between employer and

owners, the shareholders? And would

employee. (At some companies, you could

an accounting that somehow, finally, ac-

almost hear the light bulb clicking on in

curately reflected all the ways employees

the heads of senior executives back in the

contribute to corporate success make for

early 1990s: “Now that we know what our

organizations less inclined to chew up

costs are and understand how they stack

people? These are questions with enor-

up against our competitors’, how can we

mous implications for strategy, but not

Foster is radical in his apostasy. The con-

possibly afford so large a payroll or such

ones that strategists have shown much

sensus emerging among strategy consul-

a generous deal for our people? Besides, if

willingness to engage.

italist food chain, has changed his mind in the wake of the financial meltdown. He now believes that the crisis has completely discredited the efficient-market hypothesis, the theoretical underpinning for the idea that the stock market knows best about the value of an enterprise. The turmoil also confirmed his belief, first enunciated in his 2001 book Creative Destruction, that management’s actions can affect no more than 20% or 30% of what determines a company’s stock price. So, if the yardstick of shareholder value is to be abandoned as the principal measure of strategic success, what should a company be managed for? “Stability and growth,” Foster says.

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Yes, you can outsource even high-level functions to India or China and open your nation’s labor markets to immigrants. But here and there, the decline in the number of available workers may outstrip the ability of companies to rationalize and do with fewer people. They have lots of company. Even in the

This is another form of the intellectualiza-

aftermath of the global financial cri-

tion of business, of course, as are all the

sis, there seems little prospect that

computer models employed by finance

the fiercening of capitalism will abate

and strategy. It also represents Greater

anytime soon. Too many people across

Taylorism’s finally grinding its way down

the planet have opened their lives to the

to plain old Taylorism, but with computer

power of free markets, clambering to

algorithms to complement the stopwatch.

make those lives richer, but at the same time speeding up the gears of competition. While many a strategy consultant— Philip Evans is one—warns of years of slower growth ahead, as of the summer of 2009 the world economy had avoided total, Depression-type collapse. Voices calling for a root-and-branch rethinking of our economic arrangements have quieted, their place taken by others calling our attention to the “green shoots” of recovery.

What the systems don’t capture is Keynes’s famous “animal spirits,” entrepreneurial energies and imaginings

To learn more Balanced Scorecard co-creator Robert S. Kaplan explores corporate philosophy, the history of strategy, and the relationship of strategy management and risk management (in the context of the global financial crisis) in the following BSR articles: “Strategy or Stakeholders: Which Comes First?” BSR March–April 2008 (Reprint #B0803D) “Excellence Redux: How the Balanced Scorecard Enhances the McKinsey 7-S Model,” BSR March–April 2005 (Reprint #B0503D) “Why System, Not Structure, Is the Way Toward Strategic Alignment: A Historical Perspective,” BSR July–August 2006 (Reprint #B0607A) “Risk Management and the Strategy Execution System,” BSR November–December 2009 (Reprint #B0911A)

that bring a business to life. They also miss

We also recommend:

out on the aspirations employees may

“The Importance of Being Strategic,” by Michael E. Porter, BSR March–April 2002 (Reprint #B0203D)

harbor to think a bit on their own, experiment with new ways of doing the same old drill, and perhaps even be recognized by the company for what they create. For most of strategy’s history, those are precisely the factors that the

“Animal Spirits” and the Human Element

paradigm hasn’t found a way to work into

With respect to its fourth—and perpetu-

continue to be of service, it will have to

al—challenge, demographic trends will

find that way.

its calculations. If the discipline is to

only add urgency to the necessity that strategy finally come to terms with its Jungian shadow.4 Populations in Europe and Japan are aging, the baby boom in the United States is gradually disengaging. Yes, you can outsource even high-level functions to India or China and open your nation’s labor markets to immigrants. But here and there, the decline in the number of available workers may outstrip the ability of companies to rationalize and do with fewer people. Companies nevertheless continue to push mightily in that direction. Every day, Greater Taylorism applies its analytic engines to more aspects of what workers are doing, slicing the data ever finer—IBM modeling individual employees, retailers using so-called human-capital management systems to time even the smallest task and to schedule people accordingly.

“Finding—and Firing Up—Your Next Growth Engine,” by Chris Zook, BSR November– December 2008 (Reprint #B0811D) “Dealing with Darwin: How Great Companies Cope with Globalization and Commoditization,” by Geoffrey Moore, BSR March–April 2007 (Reprint #B0703E)

Continue the dialogue Walter Kiechel III, the former editorial director of Harvard Business Publishing and former managing editor at Fortune, is known for his in-depth and often provocative critiques of management, among them his oft-cited 1982 Fortune article “Corporate Strategists Under Fire.” He is, along with Robert Kaplan and David Norton, a founding adviser of Balanced Scorecard Report.

Do you think strategy and its advocates bear any culpability in creating or abetting the global financial crisis? Are companies sometimes so preoccupied with maximizing efficiencies that they lose sight of the human element in performance success? And how can companies keep risks at bay without stifling the boldness that creates market leaders? Join Walter Kiechel in a discussion of these and more issues on XPC at www.thepalladiumgroup.com/bsr/kiechel.

Get the full story Harvard Business Press and Balanced Scorecard Report are offering BSR readers The Lords of Strategy: The Secret Intellectual History of the New Corporate World at a special price of $17.50—that’s more than 35% off the retail price of $26.95. This is a limited-time offer, so order your copy online today at www.hbr.org. Simply enter promotional code: ADLOS30 in the promotional field at checkout. Discount will be reflected upon checkout. Reprint #B1105A

4 T he author’s term for the people component, the component that has historically been most neglected in strategy. The Jungian shadow, explains Kiechel, was conceived by Swiss psychotherapist Carl Jung (1875–1961). It refers to “that part of oneself—energies, desires, ambitions—that we repress as we become the individuals we are, ‘rejected aspects of ourselves and undeveloped potential,’ as one expert defines it.” (The Lords of Strategy, pp. 6–7.) 6

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The BSC-Powered Grassroots Governance Movement in the Philippines: A Progress Report

How have you adapted the six stages of the Execution Premium Process (Develop the Strategy, Translate the Strategy, Align the Organization, Plan Operations, Monitor and Learn, and Test and Adapt) to Philippine circumstances?

An interview with Jesus P. Estanislao, Chairman, Institute for Solidarity in Asia Throughout the world, governments at all levels are adopting the Balanced Scorecard system to clarify social, economic, and political goals and to improve governance. In the Philippines, this effort has been boldly undertaken by a consortium of leaders from across key sectors, led by the nation’s former finance minister (under President Corazon Aquino). In the March–April 2010 BSR, Jesus P. Estanislao described the grand vision spearheaded by his Institute for Solidarity in Asia (ISA)—Philippines 2030—and the Balanced Scorecard–based public governance system (PGS) the institute is helping implement, bottom up and top down, across all key sectors of Philippine society—from city governments to schools, from the military to national government agencies. In this interview Dr. Estanislao offers an update on the program’s recent progress , important challenges, and key developments. What’s the state of the public governance system (PGS) initiative as of March 2011 (press time)? Before the new administration took office at the end of June 2010, the outgoing administration made sure that six national government agencies (NGAs) would be initiated into the PGS: the Department of Education, Department of Health, Department of Public Works and Highways, Department of Transport and Communications, Bureau of Internal Revenue, and the Philippine National Police. These agencies have posted their “performance scorecard” on their respective websites, indicating the yearly targets they’ve committed to. Since last June, four additional NGAs joined the PGS program: the Department of Social Welfare and Development, the Civil Service Commission, the Philippine Army, and the Development Academy of the Philippines, a national government

institution and Institute for Solidarity in Asia (ISA) partner in advancing the PGS that provides special technical training and consulting to national government officials and agencies. ISA forged a similar partnership agreement with the League of Cities of the Philippines and with the Department of Interior and Local Government, through which ISA can extend its advocacy framework to all the provinces and municipalities of the Philippines. Based on the agencies’ commitment to good governance, the Millennium Challenge Corporation, a U.S. private-public sector partnership chaired by the U.S. Secretary of State, awarded a grant to the Philippine government in September 2010.1

We compressed the six stages into four, and at this relatively early point in the program’s history, the emphasis is on the developmental and implementational phases. We’ve combined strategy formulation and translation into what we call “the initiation stage.” This stage requires the NGA or local government unit (LGU) to come up with a governance charter (core values, mission and vision), a strategy map (or road map), and performance scorecards (with initiatives, measures, and targets). In the second phase, “compliance,” the entity cascades the initiation governance documents down to departments and smaller operating units, which create their own “transformational” performance scorecards, so called because they focus on radical improvements in internal processes and service for constituents. Rather than a 5% or 10% improvement in efficiency, we ask them to develop initiatives that will cause a sea change in the manner in which they do things. Thus, for procurement, we encourage them to use the wide-open space of the Internet to post bidding requests for everything from big-ticket items to aspirins and pencils, rather than nip at the edge of current practices. The third phase, “proficiency,” calls for formally establishing an Office of Strategy Management (OSM). Here, members of the technical working group—five or so senior officials from the given NGA or LGU charged with advancing PGS adoption—gain professional education and credentials in the specific field of

1 The Philippines qualified for this grant in part because of ISA’s work with several national government agencies. The grant agreement was signed in the presence of Philippine president Benigno Aquino in September 2010 during his visit to Washington, D.C.

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the PGS. They attend boot camps, learn from others, and begin connecting operational processes to the strategic demands of the strategy map. The OSM oversees the cascading of BSCs down to the individual level. In the fourth and last phase, “institutionalization,” the entity harmonizes and aligns all major operational processes (e.g., HR, budgeting, systems development) in accordance with the strategy map. Through such alignment, transformational results have to be shown and documented. The NGA or LGU implements a continuing program to promote a governance culture.

Which individual entities have made the most progress? Two cities—Iloilo and San Fernando, Pampanga—have achieved “institutionalized” status, and for their accomplishments also won entry into the Palladium Balanced Scorecard Hall of Fame (Iloilo in 2009, San Fernando in 2010). Each city is focusing on raising the quality of its internal processes to ISO certification standards, bringing the PGS down to the level of its constituent barangays,2 and bringing into the PGS the nearest municipalities so that the individual local government units of a metro area can better coordinate their respective good-governance programs. The National Electrification Administration, a government agency, achieved “institutionalized” status last September. And the newly initiated Philippine Army and the Department of Social Welfare and Development are now the most advanced in the cascading process.

What difficulties do government organizations face that impede progress? The change of administration last year caused initial disruption that slowed progress. The newly appointed agency heads had to be briefed on a whole slew of issues. Naturally, they had to focus on “fighting fires.” Only after a few months

iloilo city

city of san fernando, pampanga

national electrification administration

BSC Hall of Fame, 2009 PGS Institutionalized, 2009

BSC Hall of Fame, 2010 PGS Institutionalized, 2009

PGS Institutionalized, 2010

• Number of business process outsourcing (BPO) locators grew from zero (2005) to 12 (2008)

• Families below poverty line decreased from 10% (2005) to 3% (2009)

• Percentage of rural households connected to a capable electric cooperative increased from 72% (2006) to 83% (2009)

• Number of families with local healthcare coverage increased from 5,523 (2005) to 25,705 (2008) • Local income increased from Php 825M (2005) to Php 1.2B (2008) • Processing time of business permits dropped from seven days (2005) to one day (2008)

• Number of new businesses with capitalization of more than Php 5M increased from 21 (2005) to 66 (2009) • Local income doubled from Php 480M (2005) to Php 841M (2009) • Processing time of business permits dropped from two weeks (2005) to two hours (2009)

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• Income grew from Php 23M (2006) to Php 56M (2009) • Response time decreased from 68 hours (2006) to 42 hours (2009)

FIGURE 1: BREAKTHROUGH PERFORMANCE A sampling of breakthrough results from two local government units (Iloilo City and San Fernando, Pampanga) and a national government agency (the National Electrification Administration) that have achieved the most progress thus far among all the entities committed to Philippines 2030.

could they come on board and think about the longer term, through proper strategy formulation and execution. Another difficulty is caused by our bottom-up approach. Although we have found this approach to be effective in the Philippines, it requires dealing with each NGA and LGU on a case-by-case basis. Enrollment in the PGS program is therefore almost totally contingent on the agency or LGU head’s availability to meet with us, to understand and commit to the program, and to follow through. This availability problem is being addressed gradually through our partnership agreements, but it will take more time to make them work—easily three years. In addition, some NGAs and LGUs have difficulty obtaining funding for the PGS program because their resources are often allocated to other priorities. The greatest constraint they face, however, is the general lack of understanding of the need to formulate and execute strategy. For many agency and LGU heads,

2 Barangays are the smallest political units in the Philippines. Every city is made up of several barangays.

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• Percentage of highperforming electric cooperatives (Category A+ and A) grew from 61% (2006) to 75% (2009)

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the PGS is for the long term, and unless a crisis strikes that would force them to think of the long term, they tend to focus on short-term operational issues.

How aware would you say the average citizen is about Philippines 2030 and the PGS initiative? There is general awareness of the need for an anticorruption, good governance program. Almost everyone talks about such a need, including the media, which harps on it daily. For most citizens, however, Philippines 2030 is too long term, too visionary. Their main concern is the here and now. But this doesn’t mean that Philippines 2030 is not of serious importance to the average citizen. Each time an opportunity arises for ordinary citizens to think about the long term, they applaud the thrust of Philippines 2030. The average citizen seems to appreciate the gains the PGS has brought to their daily life. In open, democratic voting, with all the imperfections of Philippine elections,

city mayors with a performance record earned through the PGS have no trouble getting reelected. This is not true of everyone, but certainly of a significant majority, who claim that without the PGS they would have had difficulty getting the citizens’ nod for another term.

In your BSR article, you noted that the Philippines struggled with a longstanding corruption problem. Has the PGS effort helped local and regional governments make a dent in corruption? Corruption has been systemic and endemic in the Philippines. Take the Armed Forces of the Philippines (AFP). It is clear from current testimonies given to the Senate and House of Representatives that from 2001 to 2006, corrupt practices prevailed. The same testimonies show that through various reforms, several of which came through the PGS, those corrupt practices have already been stopped. Moreover, the top generals and admirals of the AFP can say, without batting an eyelash, that the current AFP is well on its way to becoming a truly professional military branch. In those cities that have used the PGS for five years, the governance reform program—mainly through the PGS—has dramatically cut down graft and corruption, according to citizen surveys. The bottom-up approach of PGS makes progress in anticorruption and good governance programs happen one city at a time, one national government agency at a time. Progress is slow, but this is a more realistic approach to combatting the problem, considering how endemic and systemic the problem of graft and corruption had become.

It’s often said that leadership is key, particularly in sustaining people’s motivation and commitment to the process. How does ISA foster leadership among those running PGS programs? ISA has been fortunate: the LGU heads with whom we have been working for four or five years now are performance

oriented. Those that have a performance track record are invited to become Fellows of ISA. ISA puts a premium on the NGA technical working groups. Each group works closely with ISA to meet the PGS requirements. We hold boot camps and Learning Institutes—workshops on specific topics designed to help participants share lessons from other PGS users in the Philippines and abroad. ISA has been able to build a cadre of committed, increasingly competent PGS practitioners. Through a group called the Associates of ISA, the most committed practitioners network with each other and offer mutual support.

advisers. The navy is also inviting city mayors with a performance track record to share their experience through its Leadership Forum. The boot camps and the Public Governance Forum remain the main venues for mutual sharing of good governance practices. All members of the technical working groups from throughout the NGAs and LGUs are invited to attend the public presentations. Jesus P. Estanislao, a former finance minister of the Philippines (1990–1992), is a leader in the corporate and national governance movement in the Philippines and throughout East Asia. He founded the Institute for Solidarity in Asia (www. isacenter.org) and the Institute of Corporate Directors in Manila (www.icdcenter.org).

What forums and channels does ISA or any individual entities hold to share knowledge? Every March and September, ISA stages a Public Governance Forum. It’s an opportunity for NGAs and LGUs to report to the general public on the progress they’ve made in adopting the PGS. They inform public authorities on the anticorruption and good governance program, from the bottom up, that ISA advocates and that its partners are implementing. NGAs and LGUs also share best practices.

To learn more See Estanislao’s article, “A Bottom-Up Approach to National Governance,” BSR March–April 2010 (Reprint #B1003A). For more on the use of strategy maps and the Balanced Scorecard system to set societal goals and advance good governance in government, see: “Strategic Agendas: A New Tool for Economic and Social Development,” BSR September– October 2007 (Reprint #B0709B) “Brazilian Industry Association Shapes National Agenda—With the BSC,” BSR July– August 2006 (Reprint #B0607B)

ISA gives awards to those NGAs and LGUs that are making important progress in their PGS journey. For the technical working staff, ISA holds a boot camp, which is an occasion for ISA to collect the new perspectives and adaptations of the Balanced Scorecard based on the actual experiences of selected NGAs and LGUs.

“Promoting Economic Development: Strategic Agendas in Action,” BSR November–December 2007 (Reprint #B0711D) And consult the BSR Index (available free at www.strategyexecutions.com) for more articles on the subject, including case studies. Look under “Nonprofit/Public Sector Organizations.”

How much interaction is there among the different sectors as they develop their PGS?

Continue the dialogue Are you implementing a scorecard-based management approach in your government organization?

We encourage members of each technical working group to observe the work being done by other NGAs or LGUs. For instance, the Philippine Navy invited representatives of the Philippine Army to observe how the navy’s multisectoral coalition works through its board of

If so, what obstacles and challenges do you face? Or are you just curious about the grassroots governance movement that’s afoot in the Philippines and governments around the world? Talk with Dr. Estanislao and Chris Zaens of the Institute for Solidarity in Asia, and XPC members, at www. thepalladiumgroup.com/bsr/PhilippinesProgress.

Reprint #B1105B

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CASE

From Cost Control to Dynamic Business Planning: Elkay’s Path to an Integrated Management System By Anne Field, Contributing Writer Elkay, the Chicago-based manufacturer of cabinets, sinks, countertops, and other commercial and residential products, has step by step built what amounts to a Holy Grail of management systems. Its integrated system arms employees and managers with the ability to make smarter, faster business decisions that translate into big savings and better profits. Founded in 1920 with a vision “to make the best sinks and provide the best customer service,” Chicago-based Elkay Manufacturing is a major producer of a wide array of residential and commercial products, from cabinets, sinks, and countertops to drinking fountains and bottle-filling stations. Employing some 3,800 people in North America and such international markets as Mexico and China, the privately held company has experienced consistently profitable growth, even amid the current recession. Only three years ago, however, the picture looked less promising for Elkay. In 2007, the U.S. home building industry had already started to decline. New lowpriced Chinese competitors had begun challenging the company’s lower-priced product lines. And several major customers were pressuring Elkay to reduce its prices. Beginning in late 2007, in an effort spearheaded by John Hrudicka, today Elkay’s chief financial officer, the company has methodically, piece by piece, built a business and performance management system using a variety of best-of-breed software. This effort has transformed Elkay into a highly efficient, strategically aligned organization that’s able to make fast decisions based on sophisticated

data analysis. Ultimately integrating the Balanced Scorecard with profitability analytics, customer relationship management (CRM), and business planning, Elkay is creating something of a Holy Grail of management systems: the ability for managers and many other employees to make real-time, strategically aligned business decisions.

Introducing Discrete Product Costing Hrudicka did not set out with a holistic vision of an integrated system. When he was hired as vice president of finance, his directive was to find a way to get a more precise picture of costs. Elkay’s existing costing process was cumbersome and inaccurate because it didn’t allow the company to analyze results at the customer or product level—thus providing only a partial view of performance. This limited view impeded the company’s ability to make the right decisions about everything from product design to customer service. Elkay’s standard costing system allocated factory overhead to products as a percentage markup over direct labor costs, and corporate overhead as a percentage of sales. And although the accounting system was able to measure the direct costs of production, it couldn’t

track large sales deductions or the cost of serving individual customers. Moreover, it couldn’t deconstruct the reasons underlying the increased costs caused by a sharp rise in the number of products Elkay was manufacturing. Accounting for equipment costs was also inaccurate. Hrudicka and Plumbing Products division president Steve Rogers (today, Elkay’s COO), a co-champion of the initiative, realized that activity-based costing (ABC)—more precisely, time-driven activity-based costing (TDABC)—would allow managers to drill down deeper and get a more accurate, actionable understanding of costs.1 More important, they knew these methods could help Elkay develop a productivity tool that would enable employees to analyze costs as far down as the customer order level. Because one Elkay manufacturing plant had previously made an unsuccessful attempt to introduce ABC, Rogers proposed to call the process discrete product costing (DPC). When Hrudicka and Rogers presented this new approach to Tim Jahnke, the company’s new CEO, he responded immediately, “How could you run your business without it?” To begin, in December 2007 the DPC team (led by Chris Gast, then director of business profitability) launched two pilot projects within the Plumbing Products division, which at the time was experiencing disappointing results. One pilot was carried out at a retail sink manufacturing plant, the other, at a distribution center. In 2008, the team expanded the pilot to the division’s two other U.S. sink manufacturing plants. In every case, project teams pinpointed the costs associated with each activity and then assigned those costs to the resulting products. Ultimately, the system calculated the total time each activity consumed and the costs for every order for a particular item every month,

1A  BC is a costing model co-invented by BSC co-creator Robert Kaplan. The model counts the activities that go into making a specific product or delivering a specific service and attempts to calculate the costs of those activities. In this way, an organization can precisely estimate the cost of individual products and services so that it can identify and eliminate those that are unprofitable and work to lower the prices of those that are overpriced. 1U  nlike traditional ABC, TDABC (also co-developed by Kaplan) requires estimates of only two parameters: the unit cost of supplying capacity and the time required to perform a transaction or an activity. It is an improvement over the traditional ABC model, which involves high costs to interview and survey people, the use of subjective and costly-to-validate time allocations, and the difficulty of maintaining and updating the model. TDABC is thus faster, simpler, and more flexible.

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strategy statement

We are in business forever. Elkay will deliver outstanding value by being a leader in identifying consumer needs for home, targeted workspaces, and recreational gathering places. We will innovate to meet those needs, bringing to market excellent value for total solutions and an extraordinary consumer experience.

achieve targeted sales and profitability

financial

Transform cost efficiency

Maximize asset utilization

consumer

customer

internal

Grow profitable revenue

Optimize cash flow

customer

Help me live and enjoy my life and work more efficiently

Provide me with total delivered solutions that help me succeed

Provide me with highly desirable brands to help me succeed with consumers & influencers

profit enhancement

innovation

consumer & customer focus

Relentlessly identify & reduce cost of failure

Optimize the organization for success

Be the consumer’s choice

Establish & optimize a valuedriven enterprise

Drive customer- & consumerfocused process innovation

Design & manage the value chain

Drive customer- & consumerfocused product innovation

Optimize our customer & product portfolios

FIGURE 1: ELKAY’S ENTERPRISELEVEL STRATEGY MAP The BSC serves as the glue for Elkay’s integrated management system. The company’s strategy map proved critical in communicating the strategy clearly throughout the organization—and in supporting the company’s reorganization in January 2010 from a product to a channel orientation.

Create a rewarding consumer experience

learning and growth

Managerial courage

Values-driven culture

arriving at the product’s total manufacturing costs. The results were a revelation. Salespeople were now able to identify which customers (and even which orders) were profitable and which ones were causing losses—and to devise ways to deal with low-profit accounts. To illustrate, when Mark Whittington, then VP of sales, brought the P&L statement of an unprofitable customer to a meeting with the customer’s management team, he put his hand over the account name and asked the team members whether they would do business with this account if it were their client. When the managers replied that they wouldn’t, Whittington removed his hand to reveal the account’s identity. Consequently, the customer agreed to a series of changes—including a small price increase—and soon became profitable for Elkay. Part of the DPC process also involved creating “simple language” P&Ls that discussed cost activity in straightforward, descriptive terms, and not in accounting jargon. Almost immediately, employees could quickly understand the implications of the data and make

Results-driven & entrepreneurial environment

Strategic agility & business acumen

Business-aligned systems & processes

rapid business decisions. Consider what happened during the first meeting held to roll out the new P&Ls. One line in the Plumbing Products’ statement, “finishing,” represented the cost associated with finishing sinks. Division president Rogers took one look at the hefty cost and within seconds announced he was going to modify that activity right away—a move that ultimately saved the company millions. More recently, Elkay began introducing DPC in its Cabinetry and Decorative Surfaces divisions. Although the implementation is still under way, the company has already begun experiencing improvements. For example, in the Decorative Surfaces business, where the customer’s distance from fabrication centers is an important determinant of profitability, Elkay can now calculate the optimal distance for shipments to maximize profitability.

Enter the Balanced Scorecard Next on Elkay’s list was strategy. Several Elkay executives realized that the company’s strategy was not being communicated well throughout the organization,

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a problem that was hindering strategy execution as well as organizational alignment. Without a widespread understanding of the strategy—and the support that such understanding brings— strategic initiatives never got identified or resourced. Hrudicka, who had been introduced to the Balanced Scorecard at a previous employer, decided it was time to adopt the methodology at Elkay. In June 2008, the company established an Office of Strategy Management (OSM) and proceeded to implement the Balanced Scorecard process in its Plumbing Products division. A division strategy map was created and cascaded to business units and functional support areas. Scorecards were developed, and prioritized initiatives were mapped to support the key objectives and measures. In October of that year, Elkay rolled out a BSC and strategy map in its Cabinetry division, and followed suit in January 2009 in its Countertops division. During the company’s reorganization in January 2010—to shift from a product to a channel orientation—the strategy map served as an invaluable guide in aligning changes with new organizational objec-

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What’s more, the BSC has also had the unforeseen benefit of supporting Elkay’s strategic alignment with customers. Eyal Altman, director of strategic management, points to a general manager who decided to take a chance and show an executive at a large customer his channel’s (BU’s) strategy map. In response, the customer promptly pulled out his company’s map. By sharing key metrics, the two organizations reinforced their mutual alignment—thus instantly deepening their relationship. Elkay and its customer now periodically review those metrics together.

Tips for Building Your Integrated Management System • Don’t try to create the end vision too early in the process. Build the individual components and then integrate them. • Start with the initiatives that will add the most immediate value to the organization to build credibility that will help influence the development path for follow-up components. • The individual components of the management system are inextricably linked. Don’t treat them separately.

From CRM to a New Way of Budgeting and Forecasting In 2009, Elkay turned its attention to developing a CRM system. For Elkay’s executive team, that meant adding an essential ingredient that team members felt most CRM systems lacked: customer profitability.

• Recruit the early adopters of the key elements of the management system components to sponsor, teach, and drive adoption throughout the rest of the organization. • Wherever possible, deploy specific software applications to drive success with the individual management system components. • Be patient. Driving organizational change with new management systems and their associated tools and practices takes time. tives. It was also effective for communicating to employees the reasons for the change as well as the new objectives. Particularly notable was the effect of organizational alignment on strategy management, something that had previously received little emphasis. Now, every two weeks, the company’s 18 manufacturing facilities hold a web conference to review strategy maps using eight key common metrics. Going measure by measure and plant by plant, they review performance against target for each metric and discuss the execution progress of key supporting initiatives—all in an integrated strategy management application.

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Finally, in August 2010, Elkay launched what may be its most ambitious effort of all: a new budget process. Continuous planning, soon renamed dynamic business planning (DBP), would supplant the traditional budget process, which Hrudicka and his fellow executives considered too slow, too inflexible, and offering too limited a horizon in today’s fast-changing environment. DBP constitutes an 18-month rolling forecast system that calls for updates every quarter. Eventually this system could move to a more fluid “real-time” update cycle driven by changes in key business drivers. Driver-based forecasting will help instill ownership of the planning activity in the various areas of the business, enhancing accuracy and facilitating more timely updates, instead of leaving managers to extrapolate trends based solely on assumptions. Central to the DBP process is creating a more forward-looking demand planning cycle. To that end, Elkay has added the ability to analyze a host of leading indicators that are likely to have an impact on sales—indicators ranging

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from macroeconomic data (such as unemployment and foreclosure rates) to an index of remodeling activity (produced by Harvard University’s Joint Center for Housing Studies) and data on architectural billings. Also included are such diverse cost drivers as commodity material prices, customer rebates, freight costs, and fuel surcharges. DBP, still in its infancy, will eventually empower managers to monitor changes and tweak forecasts for their area in real time. For example, a manager in a sink manufacturing unit might update profitability forecasts based on new information about the price increases of nickel, a key material used to manufacture sinks. For Hrudicka, the ultimate goal is driving competitive advantage. “It’s about speed. If you can identify changes in your environment quicker than the other guys and take action, you will be able to create sustainable competitive advantage—and ultimately achieve your financial objectives.”

Greater Than the Sum of Its Parts The real power of Elkay’s new processes lies not in the sum of each individual effort but in the integration of the parts. About three years ago, after introducing the BSC and before building the new CRM system, Hrudicka began contemplating how all the pieces of the puzzle fit together. He decided to integrate the existing systems, along with the two he planned to introduce, into one cohesive unit dubbed the Elkay Management System. The glue for the system would be the BSC. As the centerpiece of strategy formulation and execution, the BSC would provide the underlying framework that would tie the component parts together. “All the pieces support the execution of strategy,” says Altman. Strategy map objectives in the customer and internal process perspectives, for example, are linked directly to the use of data analytics to improve decision making. To help meet the customer objective “Provide me with total delivered solu-

tions that help me succeed,” the CRM system tracks the strategic initiatives that drive new product categories (e.g., high-end faucets) for select channel customers to enhance the customer relationship. For that same objective, the BSC for Manufacturing Operations Support cascades key delivery and quality metrics, and associated initiatives, down to the department level and down to the proverbial operator on the shop floor. The cascading nature of the Balanced Scorecard system allows for employees throughout the organization to understand how their specific actions drive business performance and success for Elkay. Consider some of the many ways the various pieces are linked. To boost the predictive capability of the demand planning cycle, Elkay integrated the CRM application into the DBP process. The demand planning manager now uses a set of pipeline dashboards from the CRM application (which includes probability estimates), enabling him to obtain numbers for the demand planning cycle. Elkay also recently introduced a process for prioritizing strategic initiatives that takes into account such data points as the amount of internal resources needed. The necessary investment and projected outcomes for each initiative are then plugged in to the DBP’s 18-month rolling forecast and the strategic plan. The company is also in the process of integrating demand planning cycle analytics into the CRM system so that salespeople can bring up the P&L for any given account. “When the salesperson walks through the customer’s door, he or she will have the most complete picture ending in the most recent P&L,” says Hrudicka. “It’s literally a 360-degree view”—something CRM vendors claim their systems provide, notes Hrudicka, but in reality, no commercially available applications do. Salespeople will be able to run different scenarios for specific customers to determine their

impact on profitability on their own without a finance person by their side to assist them.

Faster, Strategic Decision Making Ultimately, the Elkay Management System gives employees at many levels of the organization tools with which they can make fast, effective, strategically aligned decisions. A worker on the shop floor of a manufacturing plant can better understand which initiatives are most important and what he or she should be working on to support strategic objectives. The general manager of a business unit can work with sales managers to analyze a customer’s profitability and decide what changes need to be taken to drive improvements. A sales manager analyzing costs can examine individual drivers to understand more clearly why certain expenses might be high or low. If freight costs are excessive, for example, the manager can look at such relevant drivers as shipping preferences and options and come away with an objective explanation—one based on data and not guesswork. “We arm our people with the right guided analytics so they have the ability to get to the root causes of performance,” says Hrudicka.

most. Its cash conversion cycle has improved significantly, the proportion of on-time shipments from plants has consistently improved, the company’s product portfolio profitability continues to rise across all categories, productivity has increased in the plants, and customer care response rates keep reaching new company highs. From procurement to manufacturing to pricing decisions, the company can now react more quickly to emerging trends—and, in fact, proactively respond to leading indicators it had never before factored in. “We’re a more aligned company, with better collaboration between our channels and support functions, and better utilization of resources,” says Altman. Quite simply, he adds, “We’re leaner, quicker, and more responsive.” As CEO Jahnke likes to point out in strategy review meetings, when reflecting on the efforts of the channel teams, “You are all working together successfully to create new growth opportunities for our company and to uncover innovative ways to make Elkay the best—and easiest—company in our industry to do business with.”

To learn more

At the same time, having that ability has transformed behavior. Hrudicka recalls a situation early in his time at Elkay when a regional sales manager sought him out at a sales meeting dinner to show an inch-thick pad of heavily annotated customer P&L statements. “This is how I run my business,” the manager proclaimed proudly. The new system has enabled—and inspired—salespeople to change their focus from price to service and quality. Thanks to robust, integrated data and leading indicators, they no longer need to shoot from the hip. They can get detailed analysis on the spot that fosters informed, timely decision making.

For more on integrated performance and strategy management systems, see the following BSR articles:

The Elkay Management System has also helped the company experience profitable growth, even during a recession that has hit its industry harder than

Meet Elkay’s Eyal Altman and learn more about integrating multiple management systems into a holistic system at www.thepalladiumgroup. com/bsr/eyalaltman.

“Integrating Strategic Planning and Operational Execution: A Six-Stage System,” by Robert S. Kaplan and David P. Norton, BSR May–June 2008 (Reprint #B0805) “Dynamic Forecasting: A Planning Innovation for Fast-Changing Times,” by Bjarte Bogsnes (head of Statoil’s BSC program), BSR September– October 2009 (Reprint #B0909C) “Integrating Planning and Performance Management at Nordea,” BSR January–February 2005 (Reprint #B0501B) “Luxfer Gas Cylinders: Mastering the StrategyOperations Linkage,” BSR May–June 2008 (Reprint #B0805B)

Continue the dialogue

Reprint #B1105C

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tools & techniques

Bolster Your Employee Performance Management Process with Performance Contracting Clinics By Gbitse Barrow, Founder and CEO, Learning Impact NG Linking employee performance to strategy takes more than just incentives. When managers and employees collaborate on the performance contract, they define performance in concrete, objective terms, clarifying expectations—and facilitating employee buy-in. For many organizations that shift from a behavior-focused performance management system to a more result-oriented one like the BSC, the transition isn’t always seamless. That was the case at Nigeria’s Stanbic IBTC Bank in 2007. The bank, formed from the acquisition of IBTC Bank by the Standard Bank Group (the largest banking group in Africa), implemented the Balanced Scorecard throughout its business units and subsidiaries. The BSC replaced the bank’s behavior-oriented employee performance appraisal system. In the legacy company, IBTC performance appraisals were based on behavioral parameters focused on promoting the organization’s values— for example, acting with integrity, bringing in business, and communicating effectively—without setting clear targets or measures of the expected outcomes or results. Although this system had its benefits (such as promoting awareness of the organization’s values), it could not galvanize employees to pursue clearly defined outcomes critical to the bank’s success. It also left room for speculative inference by managers—too much subjectivity in determining top performers. Once you set out to build a performanceoriented culture where everything employees do must drive performance, your employee performance management system must be objective and evidence based. Otherwise you run the risk of generating unreliable, biased, compromised, or dubious appraisals and decisions— decisions that not only can be contested but that also can create acrimony between management and employees.

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Organizations risk invalidating performance appraisals and the decisions based on them. In my role as head of Human Resources and Learning at the bank’s largest subsidiary, Stanbic IBTC Pensions, and later as head of HR Business Partners for the Bank Group, I was directly responsible for managing the BSC implementation. We soon realized that transitioning to this new system required painstaking effort, and despite significant investments in performance management training, we in the HR area had not satisfactorily addressed two of the fundamental stages in our BSC implementation: Translate the Strategy, and Align the Organization. When steps are missing or links are weak in a BSC implementation—as in Stanbic’s case, where little connection was made between strategy and strategic objectives and employees’ alignment to them— employees are likely to view the BSC as just another subjective system for measuring their performance. This perception can have dire consequences: the entire BSC implementation may fail to deliver on its promise of driving individual and ultimately, organizational performance.

What Is a Performance Contract? My experience with our BSC implementation at Stanbic IBTC, and since then with client organizations, has led me to conclude that at the heart of this disconnect—and at the core of a straightforward solution—is the quality of the employee performance contract. The performance contract is an agreement between the employee and his or her line manager that establishes the individual’s

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performance objectives in accordance with the organizational strategy, as articulated in the four BSC perspectives and their component strategic objectives. It includes key result areas (KRAs), key performance indicators (KPIs), and specific measures and targets for each KRA and KPI. The contract is set at the beginning of each performance cycle and is the basis for the employee’s twice-yearly performance appraisal. Each scorecard component (i.e., strategic objective or measure) is assigned a weight, and the employee is scored on each KPI based on a five-point scale. Performance contracts are commonly used in global and multinational corporations that use the BSC as a strategy and performance management tool, as well as by domestic companies and large public sector organizations that have a performance culture. Such contracts create performance discipline and foster the collective ownership of strategy— that is, the personal accountability that is needed if individuals are to translate strategy into action. Good performance contracts set individual goals that are clearly aligned to enterprise strategy. Employees can see the relationship between their individual KPIs and targets and the overall performance of the organization, and are therefore motivated in a positive way to achieve these targets. The challenge for many organizations is how best to craft performance contracts. Who should define the SMART (specific, measurable, attainable, relevant, and timely) KRAs and create the measures and tracking system (whether a dashboard, part of the scorecard, or other means) to support them? Typically (and not unreasonably), this task falls to line managers and HR professionals. However, I’ve found that few people have the skills to create performance contracts, and that a more holistic approach—one involving the active participation of HR, line managers, and employees—is necessary to ensure that performance contracts are properly developed. Often organizations look to training as the solution to this challenge. Although

Balanced Scorecard Report A joint publication of Palladium Group, Inc., and Harvard Business Publishing

sample kra/kpi: “to provide five sales leads every month”

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Is there a tracker for this KPI? Is there someone designated to track this KPI? Is the tracking of the KPI included in that person’s list of KRAs/KPIs?

Editorial Advisers Robert S. Kaplan Professor, Harvard Business School David P. Norton Director and Founder, Palladium Group, Inc.

If the KPI involves other business units, are they aware? Are the performance records for this KPI readily available?

FIGURE 1: MEASURES AND DASHBOARD CHECKLIST This simple checklist—for use during or after clinics—can help establish responsibility and accountability for KRAs and KPIs.

Publishers Robert L. Howie Jr. Managing Director, Palladium Group, Inc. Joshua Macht Group Publisher, Harvard Business Review Group Executive Editor Randall H. Russell VP/Director of Research, Palladium Group, Inc. Editor Janice Koch Palladium Group, Inc. Copyright © 2011 by Harvard Business School Publishing Corporation. Quotation is not permitted. Material may not be reproduced in whole or in part in any form whatsoever without permission from the publisher. Harvard Business Publishing is a not-forprofit, wholly owned subsidiary of Harvard University. The mission of Harvard Business Publishing is to improve the practice of management and its impact on a changing world. We collaborate to create products and services in the media that best serve our customers—individuals and organizations that believe in the power of ideas. Palladium Group, Inc., is the global leader in strategy execution consulting. Our strategy, performance management, and business intelligence solutions deliver breakthrough performance for our clients. Our services include consulting, technology, conferences, communities, and certification. The Palladium Balanced Scorecard Hall of Fame for Executing Strategy® recognizes organizations that have achieved an outstanding execution premium. For more information, visit www.thepalladiumgroup.com or call 781.259.3737. For more information about our publications—BSR (back issues, reprints), Palladium Balanced Scorecard Hall of Fame Reports, BSR Readers, and the latest from Kaplan and Norton and Palladium Group, visit www.strategyexecutions.com.

training may heighten awareness of the strategy and of the BSC, it doesn’t really help design better contracts. Typically, training focuses on softer issues (e.g., how feedback is given and received) and fails to address the fundamental issue: What are we measuring, and why? It also leaves the employee out of the process, which inhibits employee buy-in to the strategy.

Try the Clinic Approach I advocate a more hands-on approach: a coaching-type intervention that deals with the details of each contract within the context of departmental and organizational objectives. A performance contracting clinic brings together line managers and their employees in a session facilitated by a performance contracting coach. The coach is usually a senior HR manager (who has a good understanding of the business), but it could also be an Office of Strategy Management professional with an HR background or someone from a theme team related to BSC learning and growth objectives. All coaches, whatever their role, must have sound facilitating skills. A performance contracting clinic usually begins with the coach (facilitator) explaining the standards for a good performance contract. A contract should link the employee’s activities to specific organizational strategic objectives, show where the employee fits in the overall scheme of accomplishing the strategy, set measures and targets linked to these and to supporting operational metrics (KPIs, etc.), and represent a written agreement negotiated by the two parties (employee and manager). Next, the coach asks partic-

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ipants a series of questions to determine whether the existing contracts in fact meet these standards. For example, “Do you understand each of the targets that you have been assigned and how they relate to the overall performance of your business unit or the whole company?” or “Is the performance of this KPI being tracked and monitored in an objective tracking system?” The coach takes notes, suggesting modifications while soliciting input from the managers and employees. The environment of the clinic is participatory and experiential; participants are encouraged to share their individual experiences. Rather than dictate specific improvements, the coach takes a nonprescriptive stance, providing multiple options available to the participants that will help them improve their contracts and become invested in them. One handy tool is a simple checklist for assessing each KPI (see Figure 1). Participants can use this tool during the clinic and afterward, as they work to refine the measures and the dashboard or other device used to track them. At the end of each session, give participants a take-home assignment: to review their contracts closely (especially in those areas where no agreement was reached on what changes to make), applying the insights shared at the sessions. You might also assign the coach to prepare a report for each team summarizing the options discussed and selected, with an explanation of the pros and cons of each. Following the clinic, teams can devise remedial actions for their performance contracts to address the gaps highlighted—

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for example, changing the way the KPIs and KRAs are written or clarifying (or adding) measures or dashboards to more effectively track performance. Interestingly, rewording the KRAs and KPIs is one of the most common changes made to contracts. Some might argue that the semantics don’t matter. I disagree. A “verb + result” construction ensures not only that indicators are SMART but also that they provide a clear description of the desired performance. Consider, for example, the difference between the target “100 accounts per marketer” and “To open 100 new savings accounts each month.” Clarity about expected performance can actually reduce, if not eliminate, employee challenges to performance appraisals. Attendance at clinics should be optional so that managers and employees will see the clinic as a beneficial activity the company provides, rather than as yet another compulsory training event (like those in the past that yielded poor results). By participating freely and jointly in a nonprescriptive session, employees and their managers have the chance to develop a common view of their performance contracts—while also building the competencies they need for analyzing existing contracts, understanding the standards they must aim for, and building KPIs, measures, and dashboards that will ensure that performance is properly measured and reported. You will need to establish some ground rules to avoid undermining the process. For example, be sure to set deadlines for completing the contracts so that the process doesn’t drag on. You should also confer veto power on the line managers; otherwise, some employees may take advantage of the clinics to stall the contracting process or even contest the appraisal process.

Is Your Employee Performance Management Process Broken? How do you know whether your employee performance management process is

broken—and in what ways? One useful technique is to survey your employees, an activity that’s best done early in your BSC implementation. You may want to include questions such as, “Did the employee have any substantive input into her contract?” and “Was the relationship between the contract and the organization’s goals explained and contextualized?” Employees need to see the logic of the BSC, the way in which their actions and performance support and align with the organization’s strategic goals. And because employees must be invested in the strategy, it is critical that you not treat the process or any of its components (i.e., measures) as being nonnegotiable. I recall a receptionist who got a “does not meet expectations” rating and ultimately a “C” grade on his appraisal because of a KPI (“manage telephone landlines within the branch”) that didn’t even apply to his branch (there were no landlines in that branch). Neither the receptionist nor his boss chose to have input into the contract, which was created from a generic template handed down through the company. Their passivity cost the employee— and the organization—by engendering ill will in the employee. Organizing performance contracting clinics requires considerable time, planning, and commitment. Organizations should hold these clinics as part of their annual strategy review and refresh process, ensuring that the tools and frameworks are deployed each year and throughout the year to refine and improve contracts.

It also removes from HR professionals and senior management the burden of specifically defining performance for each department or area. It can also lead to development of a community of practice in which KPIs can be shared on a portal across the organization and employees need not reinvent the wheel. Performance contracting clinics can help build competencies within your HR and learning teams—an important benefit, in particular, for organizations that do not have in-house performance consultants. Consider requiring your coaches to assess their own performance contracts. This exercise will make the process more concrete for them, enabling them to learn from their own mistakes and therefore become better equipped to guide others in the organization. Besides honing their contract assessment skills, this process gives HR and learning professionals— any coaches not directly involved day to day in strategy management—an opportunity to refresh their connection with the strategy and to help sharpen the organization’s views about individual performance. Performance contracting clinics encourage employees to own their performance— one of the ultimate goals of aligning them to the organizational strategy and of instilling a true performance culture. Gbitse Barrow is a workplace learning and performance professional. He is the founder and CEO of Learning Impact NG, a workplace learning and leadership development firm in Nigeria. Before establishing his firm, he was head of HR Business Partners for the Stanbic IBTC Bank Group.

The Benefits of Clinics and Coaching The coaching approach can be powerful and empowering, because it challenges managers and their team members to think about performance and to collaborate on identifying and improving contract shortcomings. Performance becomes ingrained in the organization’s culture, and employees become galvanized toward performing, enhancing learning beyond that offered by traditional training.

Continue the dialogue Want to learn more about getting employees excited and engaged in their performance through contracting clinics? Talk with Gbitse Barrow on XPC at www.thepalladiumgroup. com/bsr/gbarrow. Reprint #B1105D

Sign up for the electronic version of BSR—available only to subscribers—at www.bsronline.org/ereg. Product #B11050