Financial performance measurement
The motive of every business is to achieve the end result of maximum financial benefits. To comply with it, companies have devised techniques for measuring financial performance. The very idea is to ensure that no matter what the resources do and how they work, they should show gains on the profit and loss statements. It is generally carried out in three different steps. They have been mentioned as follows:
First of all, it covers the selection of the objectives of the organization.
Secondly, and also as a more important part, is to consolidate the measurement of the information regarding performance.
Finally, the required changes made by the managers to serve as a remedy on the weak links in the financial tables of the company. Therefore, it can be said that the financial aspects of performance measurement are basically based on sales. There are certain milestones that companies set for employees. A deficiency in being able to comply with even a certain process can be detrimental to the position. Therefore, this method of performance measurement is also known to show some insecurity for employees. Therefore, it may not provide the most authenticated results. Business performance management is generally measured by the financial aspects of performance measurement. The specific techniques for the same have been mentioned below:
Approaches to measuring financial performance
Added Economic Values
This method deals directly with the economic profit of the organization that goes directly to the balance sheets. This method, in other words, can be used to measure net operating profit after taxes. There are also certain adjustments that are made in the calculation of Economic Value Added so that companies make it more synchronized with the entry of profits in the profit and loss statement. This method is generally used by smaller companies these days. The reason for the same is that, for the moment, companies can afford to see the operation of the business only from the financial perspective. There is much more to achieve.
Activity-Based Costing
The fundamental law of economics says that management should make the most of the minimal resources that are available to them. In terms of keeping the statement, companies generally identify the processes that are in the system and then classify them as separate activities. Following this, companies assign separate costs to each of the activities. This can be done in the form of direct and indirect costs.
Reason for change from financial to non-financial aspect
In other words, we can say that this is also a way of measuring performance based on financial aspects. One can assign costs to each of the activities, but then there are always restrictions on the use of activities that are very expensive. Once again, this method would not be applicable in the long term. The reason for the same is that this method constitutes an obstacle to long-term investments. One must understand that an investment for a particular activity can lead to the improvement of certain others in the long term. This can be with respect to the workforce as well as the equipment that is required to carry out the activities. So, as a remedy, one has to switch to better methods that are of no financial importance. (Activity Based Costing (ABC), 2010)
Non-financial performance measurement
These are among the most widely applied performance measurement techniques in the current scenario of the corporate world. We have seen the shortcomings of the financial aspects. The following methods tend to improve them for the betterment of organizations:
Non-financial performance measurement approaches
Six Sigma Approach
The best approach to performance measurement is the Six Sigma approach. In this method, companies try to identify deficiencies in each of the processes that are part of the organization’s operation. These are then corrected by certain quality analysis tools. Companies also have special people who only take care of them. As the name suggests, this approach makes companies 99.99966% error free. Since it also has its long-term responsibility, it can be used over financial performance measurement techniques.
Theory of Constraints
This theory tries to continuously help organizations in achieving their objectives. The concept is more applicable these days because it identifies the constraints that stand in the way of business. It is carried out in a five-step process. This has been mentioned as follows:
* First, the identification of constraints is performed.
* Then, the companies decide the forms of exploitation of the restrictions.
* Aligns the entire system according to the decision made.
* A negative strategy is then used to increase the organizations ability to handle more constraints.
* Businesses will then see if the restrictions have been lifted as a result of this. If not, they go back to the identification part. (Constraint Management, 2010)
Advantages of non-financial aspects and disadvantages of financial aspects
The biggest disadvantage of the financial aspect is that it does not consider the broad vision of the business. Businesses have to give maximum consideration to the monetary benefits available. If this is not achieved, management would not recommend that a certain activity be carried out as part of its operation. There have been many companies in the past that have lost heavily due to such a disastrous situation. One can take IBM for example. The company could not sustain the fact that it was not making immediate profits. As a result, they sold their laptop manufacturing and saw the other company make huge profits.
One advantage of the non-economic aspect is that it allows time for training. We all know that training is one of those areas that consume a lot of money at first. The immediate earnings associated with it may not be that much compared to the amount of money invested to do it. But, the non-financial aspect gives respect to the long-term benefits associated with training. This generally does not receive any attention from a financial point of view that considers only the short term.
Non-financial aspects build a reputation for a company. It helps a company to adopt strategies such as cost differentiation. These strategies are extremely helpful in making a company a cost leader in the market. The financial perspectives may never lead to the same. Under today’s dynamic environment, it becomes a must for companies to seek strategies like this.
conclusion
Since most companies today have strengthened and even expanded their visions, it is not worth looking simply for monetary gains as part of the performance measurement criteria. As for example, technology has been advancing at a tremendous rate these days. This is because; Organizations are investing a large amount of money in research and development. If companies follow the economic value-added approach or the activity-based costing approach, they would be worthless to invest in such large amounts. In the short term, they may have good cash flow with them, but as we have seen companies like Procter & Gamble advance to such a degree, international success can only come through investment in technology.
Therefore, the financial performance measurement method is not feasible in the current era. It is certainly better to use the non-financial aspects of performance measurement, as we have seen. The reason for the same is that they aim at the development of the total quality of the products. In this era of completion where product life cycles depend on the efficiency of companies in order to keep their products on the market, companies need to focus more on customer satisfaction than anything else. This is possible to a greater extent in the measurement of non-financial performance.