KPI Tree

As I have stated before, the key challenge of your quantum leap project (QLP) is to measure, manage and maximize financial value of your company. To tackle this challenge, you can use one of the two basic approaches (although in reality you will probably end up using both of them, as they are complementary).

KPI Tree

The first approach is based on the concept of a KPI tree. Obviously, your financial value is your KPI (actually, it is much more than just a KPI – it is the most fundamental performance indicator for a business entity). You build the KPI tree by breaking your financial value into components (this process is called the decomposition of your financial value). 

After you complete this decomposition (Exhibit 2 presents only a very simplified version of the diagram), you assign the resulting KPI to the appropriate KPI managers (every KPI must have one and only one dedicated manager), determine planned KPI values with just the right degree of ‘stretch’, develop financial and operational plans for achieving these KPI values, set up a customized and personalized motivation system (both financial and non-financial), establish a monitoring and adjustment procedure for these plans (you may change the way to achieve the planned values, but not the values themselves) and execute these plans.

Always keep in mind that to achieve these objectives (i.e., the desired KPI values), you will in most cases have to set up cross-functional teams – because KPI are heavily dependent on each other. WACC, for example, does influence your Free Cash Flow; therefore, to maximize your financial value, you will have to find an optimal combination of the two to maximize the former.

By the way, what exactly is the right degree of ‘stretch’? It is the one that seems impossible, but in reality is achievable. To come up with this right ‘stretch’, you must remove all internal obstacles and limitations, leaving only the external. This is usually best done in the brainstorm format.

In addition to decomposition of your financial value, you will need to do the same thing for another very important financial KPI – your economic profit (the difference between return on invested capital and your WACC).

To make this approach work, you must always see the business reality behind the numbers (KPI values). Therefore, KPI trees are not an alternative to CBA – they are an integral and important part of your comprehensive business analysis.