Manual Translating Strategy into Shareholder Value: A Company-Wide Approach to Value Creation

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As a result of that review, FMC adopted a growth strategy to complement its strong operating performance.

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This strategy required a greater external focus and appreciation of operating trade-offs. To help make the shift, the company decided to use the balanced scorecard. In this interview conducted by Robert S. Kaplan, Larry D. Larry D. Brady: Although we are just completing the pilot phase of implementation, I think that the balanced scorecard is likely to become the cornerstone of the management system at FMC. It enables us to translate business unit strategies into a measurement system that meshes with our entire system of management.

For instance, one manager reported that while his division had measured many operating variables in the past, now, because of the scorecard, it had chosen 12 parameters as the key to its strategy implementation. Seven of these strategic variables were entirely new measurements for the division. The manager interpreted this finding as verifying what many other managers were reporting: the scorecard improved the understanding and consistency of strategy implementation. Another manager reported that, unlike monthly financial statements or even his strategic plan, if a rival were to see his scorecard, he would lose his competitive edge.

What led you and them to the balanced scorecard? We had initiated many of the popular improvement programs: total quality, managing by objectives, organizational effectiveness, building a high-performance organization. But these efforts had not been effective.

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Corporate staff groups were perceived by operating managers as pushing their pet programs on divisions. The diversity of initiatives, each with its own slogan, created confusion and mixed signals about where to concentrate and how the various programs interrelated. At the end of the day, with all these new initiatives, we were still asking division managers to deliver consistent short-term financial performance.

The FMC corporate executive team, like most corporate offices, reviews the financial performance of each operating division monthly.

As a highly diversified company that redeploys assets from mature cash generators to divisions with significant growth opportunities, the return-on-capital-employed ROCE measure was especially important for us. At year-end, we rewarded division managers who delivered predictable financial performance. We had run the company tightly for the past 20 years and had been successful. But it was becoming less clear where future growth would come from and where the company should look for breakthroughs into new areas.

We had become a high return-on-investment company but had less potential for further growth. It was also not at all clear from our financial reports what progress we were making in implementing long-term initiatives. Questions from the corporate office about spending versus budget also reinforced a focus on the short-term and on internal operations. But the problem went even deeper than that. Think about it. What is the value added of a corporate office that concentrates on making division managers accountable for financial results that can be added up across divisions?

Why not split the company up into independent companies and let the market reallocate capital? If we were going to create value by managing a group of diversified companies, we had to understand and provide strategic focus to their operations. We had to be sure that each division had a strategy that would give it sustainable competitive advantage.

The Myth of Maximizing Shareholder Value

In addition, we had to be able to assess, through measurement of their operations, whether or not the divisions were meeting their strategic objectives. How did the balanced scorecard emerge as the remedy to the limitations of measuring only short-term financial results? In early , we assembled a task force to integrate our various corporate initiatives. We wanted to understand what had to be done differently to achieve dramatic improvements in overall organizational effectiveness. We acknowledged that the company may have become too short-term and too internally focused in its business measures.

Defining what should replace the financial focus was more difficult. We wanted managers to sustain their search for continuous improvement, but we also wanted them to identify the opportunities for breakthrough performance. When divisions missed financial targets, the reasons were generally not internal.

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Typically, division management had inaccurately estimated market demands or had failed to forecast competitive reactions. A new measurement system was needed to lead operating managers beyond achieving internal goals to searching for competitive breakthroughs in the global marketplace.

The system would have to focus on measures of customer service, market position, and new products that could generate long-term value for the business. We used the scorecard as the focal point for the discussion. How do we become more externally focused? What is its competitive vulnerability?

We decided to try a pilot program. We selected six division managers to develop prototype scorecards for their operations. Each division had to perform a strategic analysis to identify its sources of competitive advantage. The 15 to 20 measures in the balanced scorecard had to be organization-specific and had to communicate clearly what short-term measures of operating performance were consistent with a long-term trajectory of strategic success.

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We definitely wanted the division managers to perform their own strategic analysis and to develop their own measures. That was an essential part of creating a consensus between senior and divisional management on operating objectives. Senior management did, however, place some conditions on the outcomes. First of all, we wanted the measures to be objective and quantifiable. Division managers were to be just as accountable for improving scorecard measures as they had been for using monthly financial reviews. Second, we wanted output measures not process-oriented measures.

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Many of the improvement programs under way were emphasizing time, quality, and cost measurements. Focusing on T-Q-C measurements, however, encourages managers to seek narrow process improvements instead of breakthrough output targets. Focusing on achieving outputs forces division managers to understand their industry and strategy and help them to quantify strategic success through specific output targets. You have to understand your industry well to develop the connection between process improvements and outputs achieved.

Take three divisional examples of cycle-time measurement, a common process measure. For much of our defense business, no premium is earned for early delivery. And the contracts allow for reimbursement of inventory holding costs. Therefore, attempts to reduce inventory or cycle times in this business produce no benefit for which the customer is willing to pay.

The only benefits from cycle time or inventory reduction occur when reduction in factory-floor complexity leads to real reductions in product cost. The output performance targets must be real cash savings, not reduced inventory levels or cycle times. In contrast, significant lead-time reductions could be achieved for our packaging machinery business. In this case, the cycle-time improvements could be tied to specific targets for increased sales and market share. And in one of our agricultural machinery businesses, orders come within a narrow time window each year. The current build cycle is longer than the ordering window, so all units must be built to the sales forecast.

This process of building to forecast leads to high inventory—more than twice the levels of our other businesses—and frequent overstocking and obsolescence of equipment.

Rethinking the current dominant approach to business school strategy

Incremental reductions in lead time do little to change the economics of this operation. But if the build cycle time could be reduced to less than the six-week ordering time window for part or all of the build schedule, then a breakthrough occurs. The division can shift to a build-to-order schedule and eliminate the excess inventory caused by building to forecasts. In this case, the benefit from cycle-time reductions is a step-function that comes only when the cycle time drops below a critical level.

So here we have three businesses, three different processes, all of which could have elaborate systems for measuring quality, cost, and time but would feel the impact of improvements in radically different ways. All of our senior managers, however, understand output targets, particularly when they are displayed with historical trends and future targets. Benchmarking has become popular with a lot of companies. Does it tie in to the balanced scorecard measurements?

Unfortunately, benchmarking is one of those initially good ideas that has turned into a fad. And the difference between benchmarking and the scorecard helps reinforce the difference between process measures and output measures.