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parc research report meeting

Resilience: How Companies

Prepare for Success in the Future

7 November 2007, Trinity House, Trinity Square, London



Performance Reporting – Looking to the Future

Writer: Paul Williams

Contents

Introduction 2

" From Recording the Past to Shaping the Future" – an Interpretation 4

What are the Reasons for Short Termism? 4

Some Positive Pointers from the PARC Debate 5

The PARC Proposition – next steps 9

Appendix 1: From Recording the Past to Shapingthe Future – Andrew Likierman 10

Appendix 2: Contact Details for Further Research 20

ContributorsProfessor Sir AndrewLikierman, LondonBusiness School

Copyright © 2007 PARC Ltd. All rights reserved.Published by PARC Ltd CountyMark House, 50 Regent St, London, W1B 5RD. Telephone +44 (0)20 7432 4565

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IntroductionThe overall performance of most businesses wouldimprove if the Board focused more attention on theorganisation's capability to thrive in the future,rather than just measuring what's happened in therecent past. Moreover, if we had better ways toassess how well an organisation was preparing forthe future, we would be able to reward thosemanagers who develop new capability and thewherewithal to adapt to uncertain times. In whichcase, we'd be spending our shareholders' moneymore wisely than at present.

It's hard to argue with this analysis by Professor SirAndrew Likierman. In our November meeting,Likierman laid out his thinking about why and howorganisations should use more forward-lookingmeasures of business activity, to supplement theirpropensity to report only past financialperformance. An account of the debate he createdfor PARC members is summarised in theaccompanying notes.

PARC agrees that a more rounded and forward-looking set of measures would benefit business. Itis a matter of fact that the predominant rewardmeasures for senior business executives today arefinancial, retrospective and short term. Even so-called Long Term Incentive plans fall into thiscategory – typically based on Total ShareholderReturn (TSR) over three, one year periods, rolledtogether into a single measurement element. Doesthis indicate that top executives do not think "longterm" or does it mean that we have failed toconstruct the metrics that would incentivise a focuson the long term? Perhaps it is neither – andcircumstances have conspired to make "rewardingthe future" an unattractive course of action.Whatever the reason, the question it begs is: whatshould organisations measure?

parc research report meeting 2

"Not everything that counts

can be counted; not everything

that can be counted counts" –

Albert Einstein.

Likierman's measures of sustainability andresilience (see the side panel definitions) areinteresting and useful, we believe. But they need tobe developed and tested, to create a morepractical model for performance measurement andreward strategy. PARC believes such measures willlikely have a strong HR dimension within them, assuccess in the future implies strong and flexiblecapability within the organisation: in both itsleaders and people. A number of our membersagree with this assessment, so PARC plans to takethe next step, by creating a working group ofmembers to study which measures could beadopted to supplement those in current use. Theaim will be to identify a set of measures that can beused to evaluate the organisation's ability to movesuccessfully to the future, as well as a basis forreward systems. Initially, we see any suchmeasures being used internally. We are notadvocating the overthrow of TSR as the primemeasure for executive reward, nor suggesting thatpast financial performance be jettisoned as thebest measure of performance to provide to themarket. Both are well embedded and easilytracked, and many of the new approachesLikierman suggests will be hard to quantify. Yet asEinstein's observation suggests, just because westruggle to define something doesn't mean itshouldn't count.

If you have an interest in joining those memberswho want to explore new ways to measureperformance, please let us know. We're keen tostart defining the future. Please see Appendix 2 forcontact details.

3 Resilience: How Companies Prepare for Success in the Future

"Sustainability – the ability of

the organisation to sustain its

current business model."

"Resilience – the organisation's

ability to dynamically reinvent its

business model as circumstances

change"

The meeting on November 7th atTrinity House brought together anumber of reward professionals andProfessor Sir Andrew Likierman fromthe London Business School, to re-engage on the topic of performancereporting. PARC had askedLikierman to conduct research on theexisting suite of measures thatorganisations use to reportperformance, and to think morecritically about how these measurescould be improved. In his report(Appendix 1), Likierman hasdeveloped a number of ideas on thesubject. Critical amongst these arethe concepts of Sustainability andResilience, which aim to look beyondyesterday's measures of successand focus more upon theorganisation's ability to adapt to whatwill make it successful in the future.

Likierman argued that currentreporting measures are almostentirely directed at recent history:earnings versus prior year; net debtnow compared to prior period; grossmargin changes over the past 12months, etc. To be sure, businessdoes often try to focus on the future,for example by measuring customeracquisitions or loss and their likelyeffect on future cash flow. Butinvariably, all these measures imply acontinuation of the present context –and analysts model historic earnings

to produce a valuation profile of thecompany. Executives are rewardedon past performance, and usually onshort term activities.

What are the Reasons forShort Termism?

• Profit, revenue, return on capital,p/e ratios, etc are easy to quantifyand are relatively concrete. Theyreadily lend themselves to"benchmarking" and are easy tocommunicate to diversestakeholder audiences. Wellpresented, they demonstrate thatthe Board is properly "in control".When the numbers do not quiteadd-up there is a long establishedprocess of "briefing" theappropriate external interests tomodify expectations.

• The custodian of this data is theCFO who has established himselfas the "number two" in theorganisation. He is also the keyinterface with the financialcommunity and is most comfortablewith financial data – as are mostanalysts. Frequently the CFOmoves on to become CEO andtakes with him that propensity fortracking historic financialperformance.

• Recent corporate governanceinitiatives have unintentionallycompounded the "problem" byfocusing attention on themeasurable versus the judgmental.One effect of this has been to blunt


" From Recording the Past to Shaping theFuture" – an Interpretation

the role of NED's who arguably ought to be mostoriented to promoting the long term success of thebusiness enterprise – "as guardians of the future"

• Constant business upheaval, mergers andacquisitions, and the relatively short term tenure oftop executives have reduced the perception of what"long term" really means. Meanwhile the spectre ofPrivate Equity in recent years, rightly or wrongly, hasencouraged focus on the "here and now".

• Communications to the financial markets havepandered to the desire to show quarterly resultsthat move inexorably upwards and onwards in apositive and predicted direction. Of course,ultimately this defies gravity – but analysts can onlywork with the data to which they have access.

• The growth in popularity of employee stock optionsand share award schemes, and their use as aproxy for measuring success for internalaudiences, has contributed to the pressure toproduce simple, ever-improving business metrics.Even so-called Long Term Incentives rarely rewardlong term thinking – but rather longevity of therecipients!

Some Positive Pointers from the PARC Debate:

Should we have a broader based set of measuresand what role might HR play in developing them?

Some of the general reactions:

• A successful, enduring business has to see itself asan "enterprise" and not a "fixed asset." It must adaptto survive – and therefore ought to measure itsability to adapt to an uncertain future. The Marsconfectionery company did not set out to be apurveyor of ice cream and vending machines.General Electric did not plan to be a major financialinstitution. The Cohen's had no concept ofsupermarkets as an all embracing quality brandwhen they opened their first outlet based on a "pileit high and sell it cheap" philosophy. "Market space"changes, disruptive technologies turn conventionupside down, today's benchmark companies may


"Top managers and the main

players in the financial markets

have tended to become part of

a "system" of connected and

symbiotic interests. This system,

whilst informal, is coherent and

well understood by insiders

and can create huge

opportunities for rewarding

the players" – Don Young,

Consultant & co-author of The

Role of the Board in Creating a

High Performance Organisation

(Dr John Roberts & Don Young) –

PARC, November 2005

be irrelevant tomorrow. How many of the foundingFTSE 100 companies remain in their original form?What happened to cause the once iconic ICI brandto disappear? Linking reward to strategy is going toinvolve some big judgments, which may situncomfortably with the apparent precision ofcurrent financial measures.

• The roadmap for future success, and thereforemeasurement, must be the Business Strategy. Buthow well defined and documented is the BusinessStrategy? How well has it been communicatedwithin the organisation – and to what extent will thatconstrain participation? After all, no reward systemcan be an effective motivator without transparencyof the key details

Strategy classically has three "time bound"elements; the short, medium and long term. In thepharmaceutical or healthcare sectors the long termwill be over a decade away; in other sectors it willbe much shorter. So one size clearly won't fit all.Nor will the use of today's leading indicatorssuffice. Leading indicators extrapolate today'smetrics and context into the future. In other wordsthey tend to indicate the ability of an enterprise tocontinue along the current trajectory. They takeinsufficient account of the underlying ability tosurvive and thrive in changed market ortechnological conditions. They are unlikely to fullyembrace the implications of new global marketsand the actions of market leaders.

All of which suggest new imperatives, including:

• A NEW FRAME OF REFERENCE; Andrew Likiermanhas opened up a fresh approach to the metrics oftomorrow's success with his concepts ofSustainability and Resilience. Sustainability isabout doing things which will underpin andcontinue the success we enjoy today. It requires asignificant improvement in the quality andrelevance of current measures, and greaterfreedom to move beyond the current historicfinancial measures.


"We need to be very careful

because the calibration of

reward is not a 'one size fits all'

solution. Capital intensive

industries, for example, will

need to consider a different

balance of executive reward

metrics when compared to

industries where individual

intellectual capital, rather than

plant and equipment, drives

returns. One would expect

rewards to be targeted more

specifically, with significantly

higher gearing, in the

'intellectual space', than in

general industry." – Jim

McInally, HR Director Reward &

Employee Relations, BT Group

Resilience is a step change from Sustainability; itis about the capability of an enterprise to re-inventitself as circumstances change. It is heavilydependent on judgement at the highest levels inthe organization as to the future and itsimplications.

In Appendix 1, Likierman offers an illustrativeschedule of possible Sustainability and Resiliencemeasures under 10 main headings. Heacknowledges these measures can also beclassified as either judgement based or numbersbased.

• A NEW DEFINITION OF OUTPERFORMANCE:Outperformance should not be rewarded in a linearway. At a predefined point on the individualperformance scale criteria for additional rewardshould switch to more strategic measures.Similarly, corporate executives should have theirreward structure biased towards the long term andto the development of future capability; Divisionalexecutives should retain a closer link withdelivering today's results.

• REWARD STRUCTURE MUST BE CLARIFIED:Simple clarification of what counts in terms of basepay merit awards; what counts for annual bonusand what counts for long term success could makea big contribution to clarifying reward – especially ifrigorously monitored by RemCo and, in normalBoard Meetings, by the non-executive Directors.

• THE ANALYSTS DESERVE A BETTER STORY:Analysts are too readily blamed for short termism –they can only use the information available to them.So long as the CFO is the main communicator, themessage is likely to be mainly financial numbers.


Phil Wills offered an insightful

idea for consideration, namely:

"The performance of top

executives should not be

measured on a linear basis

depending simply on the

extent to which they beat

financial (budget) targets. As

an idea, I'm attracted to the

notion that there could

perhaps be an additional scale

(on a steeper trajectory) linked

to their performance against

strategic targets (linked say to

"resilience" measures) – that

connects to the real added

value they create beyond their

operational performance." –

Phil Wills, Director C&B, Reed

Elsevier

From which there is enormous scope for the HRfunction:

1.As a first step, HR can use access to NED's at theRemCo to argue for more strategic and future-oriented metrics to be included in reward schemes

2.HR can use its skills in creating performancemanagement systems to clarify and demystify the"lexicon" of objective setting and the language ofperformance management. This means HRexecutives will need to demonstrate acomprehensive understanding of business strategyas well as an ability to tie this back into validalternative measures which incorporate a broaderview of business activity.

3.By ensuring that the succession planning andmanagement development process is not anannual "box ticking" exercise. That means HR mustorchestrate a regular top level "cut and thrust"review of the talent bank, with active participationof top execs in the talent identification andmentoring processes.

4.By exploiting the HR role in internal communicationsto ensure that strategies and objectives are clearlyunderstood and cascaded, and that externalsuccess measures – such as the share price – arenot over-played as the only measures of acompany's success.

5.By providing the CEO and CFO with fresh thinkingas to what can be communicated to analysts fromthe HR domain ( people, organisation andcommunity) that could broaden the debate on "howwe are doing".

6.By taking a fresh look at the "Balance Scorecard" torevitalize its contribution and credibility.

7.By assuming more responsibility of the "EmployerBrand" in all its aspects- and ensuring that themeasures of the "non-voting" stakeholders(employees and the community for example) arefully included.

8.But mostly, by asserting their skills and experiencein designing and implementing reward structures


"At Smith & Nephew we

planned the RemCo agenda

around 3 key meetings a year; in

the Summer a "blue sky" round

table meeting focused on the

alignment of business strategy

with the remuneration strategy.

This was not a decision making

meeting; it was more a shaping

forum – and it was very much in

the hands of the HR Director to

plan this meeting well so that it

was challenging and purposeful.

It would typically involve an

external contribution, but not

exclusively. The other two key

meetings covered "policy"

(October/November) and

"approvals" (January). Obviously,

the policy and approvals

meetings were about the near-

term issues and decisions." –

Paul Williams, formerly Group HR

Director, Smith & Nephew plc


and systems to ensure that rewardstrategy clearly follows businessstrategy.

More detail from how the meetingreacted:

1.Generally, delegates agreed withthe Likierman viewpoint that mostperformance measurement today istoo financially focused andbackwards looking. Most alsobelieve that there are goodexamples of measures morerelevant to future success, and thatthese should be identified,researched, and given moreprominence.

2.Likierman's concepts ofSustainability and Resilience alsofound a receptive audience – alongwith the view that the key issue iscloser alignment of reward tostrategy. Turnng the concepts intomore practical detail wasacknowledged to be inherentlydifficult.

3.The initial 31 measures offered byAndrew Likierman are a good firststep to "get the subject on thetable." They require robust reviewand further development frombusiness based practitioners.

4.The meeting concluded in the viewthat the HR function has anobligation to promote andchampion better identification,definition and use of performancemeasures, in the context of thebusiness strategy and the businessplan – and in service of futuresuccess.

PARC intends to progress thisdebate with a view to providing clearguidelines and support to Rewardpractitioners. In particular, we wantto set out a better way to link rewardto strategy and develop a muchbroader approach towardsidentifying and incorporating theelements that really contribute to thedelivery of the strategy. This impliesidentifying where the present gapsexist and where lies good practice.

PARC will sponsor further researchamongst members to examine theLikierman concepts in detail; reviewthe validity and relevance of theproposed measures and garnermembers' experience and ideas.Members are invited to join this workas it unfolds over the next fewmonths. Paul Williams, past HRDirector at Smith & Nephew, hasoffered to lead this enquiry. Our goalis to convene another meeting inSpring 2008, in which we will reporton findings and presentrecommendations.

The PARC Proposition– next steps

Summary

Most performance measurement isfinancial and backward-looking. Thelimited use of non-financial measuresis usually inwardly focussed onactivity and cost. There is room formore sophisticated measurement,with more focus on non-financialmeasures, outside comparisons,outcomes and the future.

To meet the longer-term andstrategic needs of the organisation,measurement should not only focuson the current position and nearfuture, but on the organisation'sability to sustain its existing modeland to change that model if required.A set of measures are proposed todo so.

HR would benefit from moresophisticated measures and fromactive involvement in thedevelopment of a long-term andstrategic measurement framework.The gains would come fromincreased credibility as well as abetter basis for the activities of thefunction, including its role incompensation policy.

Introduction

Most performance reports follow a

standard pattern. Financialperformance against budget or plan,probably with an estimate for theperiod up to the end of the year,supplemented by some non-financialmeasures covering activity andinputs on the same basis.

The handling of reports also follows astandard pattern. It's item 3 on theagenda, after the minutes of the lastmeeting and matters arising. Thereare lots of apparently chunky itemsleft to discuss. So unless there is abig minus/red number in the bottomright-hand corner (in which case thefocus is on what went wrong) themeeting moves swiftly on.

At one level this is a wastedopportunity to focus on decisionsand on taking action. At another itprovides the basis for future failurebecause the range of measures istoo narrow and short-term.

Why isn't the report better? Onereason is the dead weight of history.Performance reports don't move fast.A new CFO arrives, looks again atwhat's being reported to the Boardand makes minor changes. A newCEO arrives, takes a major initiative


Appendix 1: From Recording the Past to Shapingthe Future – Andrew LikiermanA better use of performance measures


and makes sure that theperformance report includes detailsof how (well) things are going.

The result of a process ofaccumulation is that theperformance report is a bit like aseashore after a storm, littered withlots of debris from yesterday's bigwaves which nobody has clearedaway. So in addition to everythingelse, the report is too long and it isn'teasy to focus on what really matters.The analogy with the debris is alsoappropriate when looking at themany performance reports which arejust collections of figures, with a bit ofcommentary chucked in. Littleattempt is made to make the wholething attractive and understandable.

The reason for the concentration onfinancial measures and performanceagainst budget in reports is easy tounderstand. Reports are usually puttogether by the finance function,whose preoccupation is onperformance against the budget forthe year. Nobody carries similar clouton behalf of non-financial measuresor the links to strategy.

Set out below is how to improve themeasures that are the basis ofperformance reports. The focus is ondecision-taking at the top of theorganisation, but the principles applyequally to reports at divisional, unit orwhatever level is appropriate to thedecision. Where on the agendaperformance reporting should go

and how to make the appearancemore attractive are not covered – it'sleft to you to exercise someconsumer power.

1. Better discussion about

performance

What's needed to improveperformance reports? The starting-point is that discussion is abouttaking action for the future. Someasurement needs to provide thecontext for better decisions to guidewhere the organisation is going,rather than focussing wholly ormainly on past performance and thecurrent position.

Starting at the highest levels, the jobof the Board and senior executives isto ensure that the organisationperforms well and that performancecan be sustained on the basis of itsstrategy. To do so, measures arerequired that deliver on each of theseand sophistication is needed totackle well-known but pervasiveproblems of performancemeasurement. These include atendency to skew to the measurable,poor connections between measuresand corporate objectives,inadequate proxies and so on.

Improving sophistication certainlymeans going beyond the financial.While financial measures are thebedrock of reporting, non-financialmeasures should be integrated into

the planning and budgeting process,not treated as an add-on. Theyshould provide support for thefinancial data, not act as a paralleltrack to them. Both need to besupplemented by good qualitativeanalysis.

Other examples of increasingsophistication include:

• sharpening the clarity of objectivesto give clearer links to measures

• incorporating a more systematicanalysis of risks

• using independent verification fordata quality

• pitching the level of detail torecognise the need to limit thenumber of measures to what ismanageable and understandable

• focussing on outputs andoutcomes rather than activity andcost

• ensuring that quality is givenproper weight

• better feedback, for examplethrough better- quality questions inquestionnaires or using face-to-face feedback rather thanquestionnaires.

Whatever the level of sophistication,measures should be backed up by afirst-class commentary – lucid,focussed, balanced, concise andjargon-free – to put performance incontext and identify trade-offs andrisks. The commentary is crucial inimproving performance reportingbecause some measurement

problems can only be mitigated, notsolved, and the commentaryprovides the basis for interpretation.

The organisation should also makethe best possible use ofcomparisons to ensure that themeasures are used to guidedecisions. For example, rather thanfocussing on historic trends andperformance against plan in reports,where possible comparisons shouldbe against other organisations. Thiscomparison is more convincing thandoing better than last year or beatingone's own targets. Comparisonsagainst others may be on overallperformance (such as share pricemovements, betas, price-earningsratios etc) but are likely to be moreuseful against individual elements(such as productivity, market shareon key products, labour turnoveretc). To get a breakdown of this kind,usable data is required. This cancome through trade associations orindividual agreements to shareinformation, such as throughbenchmarking clubs.

Other examples of better use ofcomparisons include

• setting timescales on customer, notinternal, requirements

• using milestones for longer-termtargets

• looking for comparisons at adisaggregated level, includinginside the organisation

• using those with outside



experience (such as NEDs andrecent hires) to find better basesfor comparison

Finally, the organisation must seekbetter links between the present andthe future, since that – not theanalysis of the past or the present –should be the focus of decision-taking. One of these links shouldtake the form of leading indictors,that is, measures with a predictiveelement. Examples include leadingeconomic indicators such asemployment growth, or changes inthe rate of inflation which are shownto have a lagged effect on a specificmarket, such as housing orconsumer goods. Within the firm,leading indicators could includerelationships such as between salesenquiries and sales, high-risklending and bad debts, maintenancebacklogs and productionbottlenecks, training and servicequality, unauthorised modificationsand project overruns etc.

But making the connections betweenthe past and the future must betreated with care. A relationship mayseem to be well-established, only tobe found to be inadequate whencircumstances change, as whenunexpected changes to theunderlying economic position meanthat provisions for bad debts turn outto be wrong.

An analysis at Board level representsthe greatest challenge in providingbetter performance reporting. Lower

down the organisation, themeasurement issues will be morestraightforward, because the link towhat is being measured will becloser. But the above considerationshave implications for reporting at alllevels in the organisation. Whetherthe measurement is of division, unitor function, the measures mustreflect what is being measured at thehigher level.

…and for HR?

How does this analysis apply to HR?More sophisticated measurementshould be applied to any HR-relatedprocess, and indeed tomeasurement of the HR functionitself. For example:

• milestones should be an integralpart of any talent managementprogramme

• conflict arising from processes,such as Board appraisal, needscareful interpretation todifferentiate success in bringingissues to the surface from poorhandling

• anticipation of emerging issuesand of problems with the press is akey performance measure for theRemuneration Committee

• difficult-to-defend measures, suchas ROI, should be avoided for anyHR process

• external comparisons, brokendown into sub-processes ifnecessary, rather than activity andcost measures should be used tomeasure HR effectiveness

• the budget should be used as thevehicle to get frank feedback fromsenior executives on HRprocesses.

And to take examples from actualcompanies for coaching:

• Lehman Brothers uses a series ofinterviews between coach and thesponsor to define the coachingplan and objectives, thus providinga far better basis for measurementof success

• Canada Life links coaching tobusiness initiatives, ensuring that itis aligned to the wider businessobjectives

• Those being coached at Britvic areable to make comparisons ofindividual progression with othersin the organisation and with anindex covering other organisationsgiving them an opportunity to puttheir experience in context

• Shell's biannual employee attitudesurvey includes the question "Doyou think you are being coachedeffectively by your supervisor orline manager?" which gives theorganisation a means of assessingthe overall impact of coaching.

Each organisation will need to findtheir own HR leading indicators,though looking to others may giveguidance, based on what has turnedout to provide links in the past. Forexample changes in economicactivity may be a good predictor ofemployee turnover and the netpromoter score related to employees("Would you recommend x as a placeto work to your family and friends") of

ability to fill posts in the future. As apractical example, Burger King, in asample of outlets, showed the linksbetween managerial turnover, crewturnover and efficiency.

2. Sustainability and resilience –

the links to strategy

Improving the performance reportingby greater sophistication, bettercomparisons and the use of forward-looking indicators is a start. But it isnot enough. Performance reportingmust provide the information onsustainability – the ability of theorganisation to sustain its currentbusiness model – and ensure that itis resilient. Note that the wordresilience goes much further than themore limited sense of being able tobounce back from such events as ITdisruption or market adversity.Resilience is the organisation'sability to dynamically reinvent itsbusiness model as circumstanceschange. Annex A gives details ofover 30 such possible measures, in10 categories, covering bothsustainability and resilience.

The audience for measures ofsustainability and resilience are theBoard in looking at strategy and, ona continuing basis, the CEO. But asin the previous section, any changesto measures at the higher levelsshould cascade down to reporting ateach level to give the appropriatesignals for delivery.



The difference between forward-looking indicators and sustainabilityand resilience measures is thedegree of confidence in the way theyare interpreted. Leading indicatorsare based on established, usuallynumerical, relationships. Sustainabilityand resilience measures, on theother hand, are more likely to bejudgements than numbers, and acommentary will be an essential partof measurement. Thus a straightnumber for the past record andfuture prospects in developinginnovations or financial headroom isnot enough to give the complexitiesof the underlying position. The factthat sustainability and resiliencecannot be measured numericallyshould not be taken as a hurdle inmaking an assessment, sincemeasurement must not be confusedwith quantification, and evenquantifiable leading indicators needinterpretation.

The difference between resilienceand sustainability is that whilesustainability assumes thecontinuation of the existing businessmodel, resilience does not – a morerealistic conclusion bearing in mindthe fast-moving nature of business.As with sustainability, the focus willbe indicative than quantitative.Quantitative measures are useful asguides, but can be dangerous if notaccompanied by a commentary.

It's worth noting that the measuresare not symmetrical positively and

negatively, because of theuncertainty and risk attached to anyfuture-related measures. Forexample, a dominant market positionis no guarantee that a position issustainable, while weak strategicpositioning in key markets is anindication of vulnerability. Similarly,strong finances are not necessarilysustainable, while stretched financeswill be an immediate cause forconcern.

…and for HR

Turning to how the role of HR in thesustainability and resilience agenda,it is no surprise that HR is involveddirectly in 4 of the 10 areas set out inthe list of possible measures inAnnex A below – Board composition,culture, learning environment andmanagement quality. HR should beat the forefront of thinking here andbecause so many of the measuresrequire judgement, and all requireinterpretation, HR will also need tomake a significant contribution toeffective use of the indicators. Theycan best do so in alliance with thefinance and strategic functions andby integrating the thinking into talentmanagement.

The implications for performance-related reward also need carefulconsideration. Because of the needto justify the basis of reward inquoted companies, the focuscontinues to be on the measurable,usually related to earnings (such as

earnings per share) in relation totarget, or share price (such TotalShareholder Return) often comparedto a defined peer group.

But if an organisation is to reinforcethe measurement of forward-lookingelements, including sustainabilityand resilience, performance-relatedrewards need to reflect the relevantmessages. HR has the opportunity toinfluence what remunerationcommittees take into account(indeed it is essential to ensure thatthey do, if adequate emphasis is tobe given to more strategic measures.

A greater degree of judgment willoften not be welcome outside theorganisation. Nor will many whoseperformance is being measurednecessarily feel comfortable withmeasurement that is moresubjective. There is no easy way toovercome these fears – the trade-offis between more precise but morelimited measures and more relevantbut more imprecise ones.

The balance may best be achievedthrough the attainment of individualtargets, for example the strength of apipeline of products, progressagainst strategic milestones relatedto long-term performance andreputation relative to peers. This mayalso provide a better basis forassessment of "outperformance"than reward in a more linear sense ofdoing exceptionally well with thecurrent framework. But the emphasis

will remain on qualitative measures,such as the quality of the talent poolrelative to competitors, as assessedby an outsider or the evidence ofinitiatives showing evidence offlexible thinking, as assessed by theremuneration committee.

3. Some questions and answers

A number of questions onsustainability and resiliencemeasurement have been raised andthese are answered below.

a. What's the relationship ofsustainability and resiliencemeasures to the balancedscorecard?

The scorecard is probably the mostcommonly used, and certainly thebest-known method by whichorganisations have incorporatedmeasures giving a longer timescaleand non-financial perspective. Butseeking measures of sustainabilityand resilience is much morestraightforward than providing abalanced scorecard. The scorecardseeks to provide balancedframework, while sustainability andresilience measurement are aboutlinks to strategy.

Indeed the essence of a balancedscorecard is balance and onereason why organisations abandonthem is the tension between havingenough measures to captureperformance but not so many that



they make the organisation losefocus. Moving beyond the short-termneeds more measures than ascorecard can comfortableaccommodate. Another reason whyscorecards do not stick is that theydo not remain balanced for long –the financial and short-term tends todominate the non-financial and longterm. The analysis of bettermeasures does not look to abalance, but is addressed thespecific requirements of long-termanalysis.

b. Are measures of sustainabilityand resilience applicable to allorganisations?

Most, but not all. It will be ofparticular significance to thoseindustries with long time horizons,such as research-based industriesor those with a conglomeratestructure. Examples of those towhom they might not apply are thosewhere the life-cycle of theorganisation is time-limited, such asthose seeking a buy-out. It will beless applicable to thoseorganisations where the rate ofchange is slow or even, as withprofessions, heavily constrained.

But even these organisations cannotassume that they are protected fromthe need to consider the continuity oftheir business model and their abilityto change. Technology andglobalisation have caught out manyorganisations who thought they were

protected in this way.

c. Are they applicable at all stagesof an organisation's lifecycle?

The approach applies at all stages.The need to anticipate the need toreinvent the model will be just asrelevant to an establishedorganisation as to a start-up.

d. What about the capitalmarkets? Don't they look only atthe short-term, making thisanalysis irrelevant?

This is an accusation made againstCity analysts which they deny. Theirargument, which is persuasive, isthat unless the business is on asound basis for the long-term, thevalue of their holdings is diminished.The ability of the organisation tosustain itself and to reinvent itsbusiness model is essential to long-term survival. If an organisation is notlooking after these long-terminterests, the value of the shares willsuffer.

Analysts are often accused oflacking understanding of thefundamentals and of excessiveshort-termism. Companies who feelthat they are misunderstood in thisway should ensure that they haveprovided adequate information toenable a long-term view to be taken.

e. Won't devising measures for,and monitoring, sustainability andresilience be very expensive?

As with all management information,it has to be justified in terms of costsand benefits. Using bettermeasurement to improve decision-taking and help to ensure the survivalof the business is investment, notcost. Ignoring the importance offocussing in this way could be veryexpensive indeed.

f. If the emphasis is on qualitativemeasures, won't these be lesssatisfactory than numbers?

It's not realistic to assume that thecomplexity of sustainability andresilience can be captured throughnumbers alone. Qualitative analysisis essential to do so.

Qualitative analysis will be seen asless satisfactory by those who seekcomfort in the precision of numbers.This category includes some whoanalyse listed companies, and thoseinside a company who are distrustfulof judgements as a basis for theirremuneration

g. Should sustainability beseparated from resilience?

Yes. Further refinement of themeasures will be necessary to givemeasures for each.

h. What are the barriers toimplementation?

1.As with many aspects ofperformance measurement, thelack of a burning platform. Therewill be a greater temptation to go

for the short-term and the tangiblethan the longer-term and the lesstangible.

2.The uncertainties of the future giverise to more uncertainty andjudgement. As noted above, thiswill often not be welcome to outsideobservers or to those with incentivepay.

3.The falling length of senior executivetenure means that the inside agentsfor change may not be incentivisedto promote a long-term view.

4.There is a great deal of establishedpractice by outside observers andin the compensation field that relieson past, numerical analysis.Change in these fields will notalways be welcomed byestablished practitioners.

i. So who are the potential changeagents?

The beneficiaries of bettermeasurement are ultimately theshareholders, but because of thebarriers set out above, incentives areweak. It will fall to the Board as awhole to provide the necessarystimulus and, being able to take adispassionate view, the non-executives may well have a key rolein promoting good practice.



Annex A – Measuringsustainability and resilience –

some possible measures

Board Quality and Composition

• The Board is assessed asfunctioning efficiently andeffectively *

• Board objectives reflect need toconsider resilience *

• The organisation's leadershiprecognises the need for resilience

• Board agendas focus on actionfor the future and the externalenvironment *

• The Board has the relevant mix ofskills, background and approach *

Competitive Position

• Strategy reflects the need forresilience

• Customers are loyal *

• Consumer power is contained

Culture

• Employee engagement is highrelative to competitors *

• Discussion of more radical optionsis encouraged

• CEO rewards reflects the needfor innovation *

Financial Resources

• There are favourable buy/sell andforward price-earnings ratiorelative to competitors *

• Financial resources, including levelof dividends, leave margin forexpansion and/or capital raising *

• The organisation's appetite for riskis aligned with that of externalanalysts.

• Earnings are of high quality

• There is a financial plan in placewhich reflects current needs (egadequate

• dividend cover) as well as theneed for innovation

Innovation Capacity

• High proportion of current offeringsdevised in the past 3 years,relative to competitors *

• High percentage of profits/saleslinked to innovation, relative tocompetitors *

• Good record in developinginnovations

Learning Environment

• High percentage of spending ontraining and development relativeto competitors *

• Lessons have been learned fromrecent growth, including anyacquisitions

Key:

Underlined – numerical

Bold – facts

Normal print – judgements

* – can be externally assessed

• There is a knowledge managementprocess in place with a trackrecord of success *

Management Quality

• There is a talent managementprogramme in place with a trackrecord of success *

• The percentage of unwantedmanagement departures relative tocompetitors (or at least trend)does not give cause for concern

• There is a good record inmanaging the most recent majorprojects *

• Management mobility reflects theneed for resilience

Risk Management

• The Board considers major risksas part of Board reporting *

• The Audit Committee's reportingto the Board on risk iscomprehensive *

Systems and Processes

• Performance is focussed on futureas well as past, best in class notaverage and performance againstothers, not trends or objectives

• Capital allocation reflects theneeds of innovation

Track Record

• There is a good record ofsuccess in

– meeting corporate objectives *

– dealing with most recent externalthreats * –

Appendix 2For those wishing to collaboratefurther in these investigations pleasecontact:


Paul Williams: +44 (0)7970 [email protected]

Nick Starritt: +44 (0)207 432 [email protected]

Claire Dyer: +44 (0)207 432 [email protected]


Performance & Reward CentreCountyMark House

50 Regent StreetLondon W1B 5RD

Tel: +44 (0)20 7432 4565Fax: +44 (0)20 7470 7112

E-mail: [email protected]: www.parcentre.com Post Meeting Notes





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