Value Based Management (VBM) is a term that is presently being popularized by software companies and consultants in order to describe an integrated framework of measurement and management tools. This article describes the background of VBM and techniques of which it consists. The article will also introduce a practical approach to VBM implementation. Based on years of experience in the field of activity based costing, process improvement, measurement systems and organization design, we believe that the most critical aspect of any significant change in management philosophy is to make sure that the logic is properly designed before committing to an implementation path or to buy software. Indeed, as computing and telecommunications become more powerful and sophisticated, the main challenge for management is to harness their immense capabilities. VBM offers an opportunity to combine the power of excellent management methodologies with computing and communications, in order to drive significant organizational change and productivity improvement.
What is happening?
There must be thousands of companies that are actively concerned with promoting "value". Everywhere I go, I find myself talking to people at all levels, ranging from presidents to managers and professionals, each with a familiar story. People agree that creation of value is the most important objective for managers, but there is confusion over what it means and how to accomplish it. Equally as important are the problems managers have with getting the full participation and long term commitment of employees.
For years, my associates and I have striven to help organizations change and to become more focused on key objectives in these dynamic times. We have examined many options, and our clients have applied a variety of different techniques. Usually, management has initiated new management techniques or the most current performance improvement methods, which were championed by respected academics. More frequently today, software-based solutions are sought to address management problems. These methods have included things such as total quality; best practices; business process re-engineering; and activity based management and financial measurement schemes such as shareholder value. Each method has offered management an opportunity to make dramatic improvements in performance. Over time, however, each has diminished in importance as the original promise offered by academic champions has not quite materialized, or as people move onto other exciting things. Cynical employees, when assigned to yet another improvement team, assume that if they wait long enough "this too shall pass".
Value Based Management
Value Based Management (VBM) delivers dynamic, high performance organization results. It builds on the strengths of financially focused tools, such as Economic Value and its derivatives, by adding the perspectives of customers and other stakeholders who make our organizations succeed or fail.
VBM offers a strategic performance framework, in which mechanisms of the most successful organizations in the world are integrated into a holistic yet flexible methodology, designed to differentiate rather than copy. VBM offers more than any individual methodology previously deployed. VBM offers a complete solution that combines the best-proven management methods with the latest in computing and communications technologies to drive results.
VBM is a comprehensive approach to managing the activities of an organization, to ensure that stakeholder return is maximized. Stakeholder return is represented by profits, return on investment, loyal customers, and satisfied employees or, in the case of government departments, satisfied taxpayers and service users.
Value
Shareholder or economic value appears to be accepted as the correct measurement of performance for profit oriented corporations. The supporters of shareholder and economic value sell the concept, with the proposition that the measurement and promoters of the mechanics of value enhancement are the ultimate solution for driving business performance. We agree that money and financial performance are central to the performance of almost every organization, and as such must be ranked as the highest priority in the long run.
Meanwhile, we believe that other aspects of the business, such as customer satisfaction, must be managed in an overt fashion, in exactly the same way as shareholder and economic value. Furthermore, we find that value creation as an organizational motive applies equally to government and not-for-profit organizations, as it does to for-profit organizations, just that the perspective from which we assess value is slightly different. Values combined with strategy define what is desired and how it will be measured, and it prescribes performance imperative in terms of beliefs and perspectives. This, in turn, should provide a set of measurements and action oriented goals for the organization, in order to achieve a desired future state.
Having established beliefs, values and goals, management must create mechanisms with which people may accomplish the desired future state. These mechanisms may incorporate traditional thinking or existing ways of performing work. Typically, it requires managers to be willing to examine all existing methods and philosophies, and ask whether they are adequate to carry the organization forward. Furthermore, recognizing that organizations are basically human organizations, defined by the politics and infrastructure associated with the organization chart, managers should be prepared to redesign the roles, responsibilities and reporting lines of employees.
Approach - Defining Value
There are conflicting opinions on how to define "value". A recent article in Sloan Management Review(1) applauded the argument that enlightened organizations seek to create value for all constituents. Under this logic, the needs of any party who is affected, or is influential on the behavior of the organization, should be addressed by the actions of the organization. For example, the organization will strive to make money for its owners, and at the same time, satisfy customers, be a good citizen and a good employer, as well as pay its taxes.
Economic value or shareholder value subscribers argue that the only legitimate form of value for a commercial/for-profit organization is to drive profits, and to do so irrespective of the interests of other constituents. Of course, they argue, any good business person has to ensure that customers are satisfied, and a well run organization takes care of its employees, but the bottom line is always profit.
Another view recognizes that the role of key constituents' needs is prioritized in establishing value expectations for the organization. These key constituents are people who are referred to as stakeholders. Stakeholders are those people who have a legitimate influence on the behavior of the organization, and can be classified in a two ways. First, primary stakeholders exert direct and significant influence on the behavior of the business, while secondary stakeholders have indirect and less significant influence (except at specific times). Second, within either group, but most critically in primary stakeholders, it is necessary to rank stakeholder influence hierarchically. Stakeholders include owners, customers and employees and any other potential constituent. What is important is to identify which stakeholders are the most important, and what their needs/expectations are of the organization. With this understanding, management must then prioritize the needs of stakeholders relative to the strategic goals, and to manage business affairs accordingly.
Owners as stakeholders continue to have the same needs regardless of what you call the concept. Indeed, owners needs always have the greatest priority and exert great influence on a commercial organization. In a publicly traded organization, managers represent stockholders. Managers usually have more direct influence over the behavior of the business than stockholders do; therefore, management has their own stakeholder needs that influence their decisions.
It is useful to be precise about the descriptions of the actual stakeholders rather than to copy ideas from other organizations. Do not get hung up on language, but be very practical. Call things what they really are, and name stakeholders for the role that they actually hold. For example, for government organizations, use the terms the public, or politicians, or taxpayers, but do not use the terms customers or owners. By concise use of language and understanding real roles and needs, stakeholder analysis becomes very much more focused and achievable.
(1) A New Manifesto for Management, Sumantra Ghoshal, Christopher A. Bartlett, Peter Moran. Sloan Management Review, Spring 1999
Paul Sharman,
President,
Focused Management Information Inc.
--the highest return on investment
--capital appreciation
--risk conducive to continued participation
Customers usually need:
--the desired goods and services:
--in the quantity required;
--at the time they choose;
--at a competitive price.
Employees usually need:
--challenging work
--reasonable hours/quantity of work
--good working environment
--respect
--competitive compensation
Figure 1.
Strategy development is another key aspect of driving value. Strategy describes choices or decisions on various aspects of the organization that managers have made in defining a desired future state of the business. The combination of strategy and stakeholder needs analysis should yield a set of critical business issues/critical success factors, on which executives have agreed that the organization should emphasize its efforts by prioritizing resource assignment.
Approach - Value Deployment
Organization performance consists of a curious cocktail of intellectual, practical and human mechanisms, and the deployment of VBM demands careful orchestration of all of them. We find that most performance improvement and management mechanisms often focus on a specific perspective or goal, such as increasing cashflow for shareholders. However, these single perspective solutions do not deliver complete and balanced performance. What is needed is the selective application of a number of different concepts and mechanisms, in such a way as to ensure the individual elements interact in a coordinated and integrated manner. We suggest that organizations benefit from the introduction of an overall performance management framework, focused on value creation and deployment, which is carefully designed according to the specific needs of each particular organization to take advantage of appropriate mechanisms.
It seems that every new management methodology has to have some aspect that denotes performance motivating initiatives or "drivers". The term "driver" describes decisions and actions that have the effect of creating movement towards the desired goal. In the case of VBM, the goals are the satisfaction of the needs of stakeholders described above, combined with the demands of strategic imperatives. The successful organization clearly achieves it goals, including satisfying or more than satisfying their stakeholders needs.
Numbers and facts are critical to the deployment of VBM. Establishing goals and defined outcomes and results that are clearly measurable with numbers, are essential if people are to understand and to be held accountable. Therefore, it is critical to establish the needs of stakeholders in very specific numeric terms. Usually, stakeholders will desire highly altruistic results, and that is worth knowing. For example, a customer wants zero defects and to pay very little for the service or product, while expecting to have delivery exactly when they want it. These desires are measurable, and establish a direction to be pursued. Against these altruistic goals, we should understand current actual performance, and how our competitors are doing in similar terms as described in hard numbers. For example, in the reciprocating aircraft engine repair business, the owner of an aircraft used to have to rent an engine for three months while the original engine was being repaired. Standard Aero of Winnipeg changed the rules of the game by completely redesigning all of their processes and dramatically reducing engine repair cycle time in excess of 50%. In doing so they dramatically increased customer satisfaction, revenue, market share and profits, at the same time as reducing inventories and increasing employee satisfaction. Facts were collected by measuring current performance of the organization, for each process and for all major facets of the organization. Measures are always multi-dimensional (as in the case of Standard Aero). They address financial, time, quality and quantity attributes of performance.
A VBM framework has to be constructed to give consideration to where the organization is presently, what managers are prepared to accept and how much change is required. This requires a holistic perspective be taken, with a willingness to work with the intricacies of the links between the various performance improvement and management mechanisms. It also means that managers will not necessarily have a complete view of the eventual solution, but simply an understanding of direction and a willingness to travel down a new path.
The trick to deploying value based management is to define the points of interaction between the different levels, using measures and by designing the flow of inputs and outputs of activities across the processes, which are required to produce desired organization outputs. This, in turn, leads to designing which activities will be supplied by each department to each process, and what performance is expected of the people. Designing the right measures are particularly important, because when done properly, they provide analytic support to provide direction, instructions on what has to be accomplished by people and to report on how well they have done after the fact.
Approach - The Mechanisms of Value Deployment
The mechanisms to deploy VBM are all well known and highly regarded individually, but rarely have they been deployed in an orchestrated, integrated and disciplined manner. Business process reengineering, for example, has been applied by many organizations but has mostly failed to become established as a fundamental element of successful continuing operations. Economic value has been applied by many organizations at the senior executive level, but has failed to penetrate much lower than business unit level. There may be many reasons why these tools have been applied in an unsustainable fashion, but we suggest that there are three which are most likely.
1) Most new "improvement" initiatives are approached as "projects" rather than continuums and therefore, are not woven into the fabric of the performance management process.
2) There is a real lack of understanding of how the mechanisms work together.
3) Few people have the experience of working with them.
Therefore, a significant challenge for managers is to gain an understanding of all of the available mechanisms. There are a number of potential components for the deployment of value. It is important to understand the status of the business and depending on needs, to select exactly the mechanisms to be used. There should be no formula-based application of VBM, but rather each application should be custom designed, because each business warrants it, customers are worth it and the potential profits justify it
- analysis of stakeholder needs and strategy
- organization goals - analysis of critical success factors, critical business issues
- analysis of activities
- analysis of processes
- development of measures and collection of current performance
- identification of internal and external benchmark comparisons
- measures development
- activity costing and assignment:
a) to processes
b) to cost objects - analysis of roles and responsibilities of people with respect to activities they perform within each process
- job definition and organization design
- activity and process-based budgeting
- change management
- information "portals" or Web-based distribution of performance data
It is important to view the mechanisms as a list of potential items to be undertaken. We find that most organizations have some of them in use or applied to some extent. It is not our suggestion that the mechanisms must always be applied or done so in a religious manner, but that they should be applied intelligently and at a pace that makes sense to the people who have to manage the change. However, the process is sophisticated and must be treated with respect. For example, preparing job definitions before strategy (along with stakeholders needs, process analysis, role and responsibility) is complete, will lead to institutionalized existing bad habits and will waste time and resources. Inappropriate application may create a significant blocks to further progress.
The biggest source of complexity in working with the mechanisms to deploy VBM is to ensure that the links between the components are well defined and work steps scheduled. Strategy and the need to achieve value creation goals will define the exact sequence and steps. However, outputs from one mechanism become inputs to the next in an almost mechanical process. Informed personnel and tightly integrated project management are, therefore, critical to project success. The knowledge of the mechanisms and how they deploy are quite sensitive and must be managed with a high degree of seriousness and intensity.
Any significant change takes substantial personal commitment and effort by people at all levels. Project management at the highest level in the organization is vital to effective deployment of VBM. This requires executives to be personally involved in making the hard choices required of strategy, and to take personal responsibility for sponsoring and managing the entire VBM deployment, as well as each mechanism individually.
Each of the series of analytical mechanisms requires a reasonable degree of understanding in order to be applied successfully. But there is no mystique to any methodology, and each can and should be learned and developed by employees, who work in cross-functional teams under the direction of a steering team. Employees who take responsibility for the future performance of their organization are the best people to apply these tools, rather than turn over responsibility to outsiders. Future editions of FOCUS will develop each of the concepts addressed in this article.
Paul Sharman is the President of Focused Management Information.
He can be reached at (905) 829-3658 or
em ailed at psharman@focusedmanagement.com.
Copyright Paul A. Sharman October 1999
Focused Management Information Inc.
Article to an up-coming issue