Mixing business with measure

From Roopen Roy's column in the Financial Chronicle

Mixing business with measure

Dec 23 2008

Every so often management gurus will remind you: “What gets measured, gets done.” That aphorism is very true. However, there is a flip side. If you are using the wrong yardstick, you may achieve unintended results and cause unwarranted behaviour. The critical question is: if your measures are not in harmony with your core mission, what happens then?

In the 1960s and 1970s, creation of employment was a measure of success for public sector undertakings. We, thus, had the phenomenon of state electricity boards focusing on generation of employment with single-minded zeal. Generation of electricity was almost an afterthought. In the US, success of most corporations was measured by a dominant metric: shareholder value. The tool used to incentivise executives consisted of linking their performance and pay to the creation of shareholder wealth. In corporations that practiced amnesia about the interests of other stakeholders — we witnessed bad behaviour and greed.

In India, there are turnaround experts who focus on balance-sheet restructuring as the sole method of reviving companies. They are often oblivious to the core mission of the enterprise. Earlier this year, I attended a glittering event heralding the revival and turnaround of a regional stock exchange. How was the success of this turnaround measured? Were more companies flocking to list at this exchange? Had the volumes of trade gone up by any appreciable measure? The answer to uncomfortable questions like these was a resounding “No”.

What was the basis of the claim for turnaround then? The restructured balance sheet was the answer. The asset base of the exchange had been battered in the past. A scam had driven a Rs 100-crore plus hole in the reserves. It had been limping along until it was decided to demutualise the exchange by selling shares to non-brokers. The exchange owned a 10-acre plot in a prime location, allotted to it by the government at a low price. That piece of land is now worth over 30 times of the book value. The idea was to auction the land. Then take the proceeds. Buy a cheaper plot in the suburbs, move the exchange building there and execute a real estate project. The rental income and the interest on fixed deposits would, thereafter, provide a ready stream of cash flow. Hallelujah! This would provide large and quick returns to new shareholders. The cash would guarantee the salaries of existing employees even if the exchange was on a ventilator. The balance sheet would look healthy and debt-free. The tough job of having to revive the core business of the stock exchange can be postponed. It is like a failed wildlife preservation project turning around financially by allowing the wardens to sell the horns of dead rhinos and tusks of departed elephants.

In measuring corporate performance today, the focus is largely on historical performance. Most measures today are quantitative and financial. They are designed to assist investors, regulators and other stakeholders. A global initiative is underway for countries to embrace the International Financial Reporting Standards (IFRS). IFRS are considered a “principles-based” set of standards in that they establish broad rules and dictate specific treatments as well. The adoption of IFRS globally will be a huge leap forward in terms of consistency, transparency and comparability. There is another initiative that is likely to gain momentum as market economics is tempered by social responsibility and sensible regulation.

In 1994, John Elkington coined the term “triple bottomline” (TBL). It helped to develop a three-dimensional measurement framework of corporate performance. It added two other dimensions to measurement of results apart from financial — environment and social. Today, the three dimensions are people, planet and profit, which

lead to sustainable economic progress.

The “People Bottomline” (human capital) pertains to fair and beneficial business practices toward labour and the community. Sustainability is underpinned by the well being of corporate, labour and other stakeholder interests that are interdependent. A portion of profit from the sale of end products is upstreamed to the original producer of raw materials, i.e., a farmer. Enterprises should not exploit child labour, pay fair salaries to its workers, maintain a safe work environment and provide work/life balance The enterprise will strive to “give back” by contributing to the growth of its community.

The “Planet Bottomline” (natural capital) refers to sustainable environmental practices. Enterprises are expected to control carbon emissions, reduce energy consumption and manage waste in an ecologically-friendly manner. At present, the cost of disposing of non-degradable or toxic products is borne financially by the community. An enterprise that produces and markets a product that will create a waste problem should not be given a free ride by society.

The “Profit Bottomline” is the ability of an enterprise to create economic surpluses. Without profits, enterprises would be unsustainable.

Green initiatives in supply chain and manufacturing are now components of mainstream strategy. Sustainability and global warming are real and critical issues that global businesses must deal with. Thus, measurement of corporate performance in the future must include environmental and social dimensions in addition to economic results.

Several years ago, I came across an advertisement of a famous brand of Scotch whisky. The ad said, “It is not how long you mature the whisky, it is what you mature.” Plagiarising the tagline, I would submit that it is far more important what you measure rather than how you measure. Picking incorrect measures may result in unintended behaviour. Passionately pursuing and achieving wrong metrics will invariably lead to winning the battle and losing the war.

(The writer is the managing director of Deloitte & Touche Consulting. These are his personal views.)

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