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3.4 Non-financial PMS.

Critical Review of the Main PMS Frameworks 61

3.4 Non-financial PMS. Critical Review of the Main PMS


Since the appearance of Relevance Lost (1987) within the field of management
accounting, the reliance solely on accounting measures has been criticised. Thomas
Johnson and Robert Kaplan have stated that management accounting information
driven by the financial reporting system is “too late, too aggregated, and too
distorted to be relevant for managers’ planning and control decisions” (1987: 1).
Timeliness is a critical issue in a changing world – like the one at the end of
1980s – where “vigorous global competition, rapid progress in product and process
technology, and wide fluctuations in currency exchange rates and raw material
prices” (p. 3) put some pressure on business. In particular, financial-based manage-
ment accounting practices usually produce reports for the middle of the subsequent
period; hence, a quarterly report appears just before the middle of the subsequent
quarter. This data is of scarce use for production purposes, since the control of
quality, labour, material and so forth occurs daily, and production managers cannot
wait for the following period’s reports to adjust variances to production levels;
instead they should intervene quickly as soon as variances occur. In a similar vein,
Nanni and colleagues stated that “managerial behaviour is inhibited by using past
data” and therefore should “focus on data that are appropriate for the future
environment in which the firm will operate” (Nanni et al. 1992: 6).
Also, Johnson and Kaplan stressed that during the late 1980s management
accounting practice was based upon overly-aggregated measures, which inhibits
the ability to “pinpoint the source of adverse, or even favorable, production
variances” (Johnson and Kaplan 1987: 194). They called for a more operations-
oriented management accounting system, which is able to address decision-making
and prevent distortions in managerial action. In fact, the rationale for producing
financial-based management accounting reports is senior management control
(Johnson and Kaplan 1987), which is rooted in the decentralisation of power and
in the division of labour, as well as in the rise of the big corporations. Many authors
have claimed that the financial pressure on management control has led to short-
termism, since financial targets can be met both through the development of “new
and better products, [. . .] increase[d] sales, and [. . .] reduce[d] operating costs”
(p. 196), and “by engaging in a variety of non-productive activities”, such as
“exploiting accounting conventions, engaging in financial entrepreneurship, and
reducing discretionary expenditures” (p. 197), which lowers capital investment, and
thus future results and long-term survival.
A first justification for the need for non-financial measures was addressed in the
last chapter of their book, where they stressed the “importance of Nonfinancial
Indicators”; that is indicators that should be based on the firm’s strategy and include
key measures of “manufacturing, marketing and R&D success” (p. 256). From this
initial call for non-financial and balanced performance measures, they argued that
[n]ot all of these indicators will be relevant to any single firm of organizational subunit. No
firm or manager can concentrate on improving performance on fifteen measures at once. At
62 3 Performance Management System. A Literature Review

any given time, there must be a few objectives that the firm and its divisions want to
achieve. [. . .] Short-term financial measures will have to be replaced by a variety of
nonfinancial indicators that provide better targets and predictors for the firm’s long-term
profitability goals (p. 259).

From this initial declaration of lost relevance within the cost accounting field,
Robert Kaplan and David Norton have developed the well-known Balanced Score-
card, which “provides executives with a comprehensive framework that translates a
company’s strategic objectives into a coherent set of performance measures”
(Kaplan and Norton 1993: 4). In fact, Kaplan and Norton’s main critique of
1990s management is the missing link between strategy and measure; that is, a
lack of measurement of strategic indicators that drives organizational performance
to an effective strategy implementation, or as the two authors have put differently
executives may introduce new strategies and innovative operating processes intended to
achieve breakthrough performance, then continue to use the same short-term financial
indicators they have used for decades. [. . .] These managers fail not only to introduce
new measures to monitor new goals and processes but also to question whether or not their
old measures are relevant to the new initiatives (p. 4).

The Balanced Scorecard focuses on four main perspectives, which encompass

both financial targets and non-financial performance measures. The latter are
grouped into internal business, customer, and innovation and learning perspectives
(Fig. 3.2).8 Each of these perspectives is a key issue for the firm’s success and are all
linked to one another in a cause-and-effect relationship.9
In particular, the financial perspective drives the overall strategic objectives; the
customer perspective drives the financial perspective; the internal business perspec-
tive drives the customer perspective; and the learning and growth perspective drives
the customer perspective.10
Cause-and-effect relationships between drivers belonging to the same perspec-
tive and among different areas therefore represent the logical pathway by which
drivers enable strategic goals to be achieved.

Even though the first framework developed four perspectives (financial, internal business,
customer, and innovation and improvement), Kaplan and Norton specified that each firm, or
unit, using the BSC should adjust the number and focus of perspectives and their measures to
the specific case under analysis. Therefore, the number of perspectives can be higher than four and
the perspectives caption can be changed according to the strategic issues that the firm has to
monitor in order to be successful.
Together with the BSC, other performance measurement systems based on both financial and
non-financial performance measures have been developed, such as the Results and Determinants
(Fitzgerald et al. 1991), the Performance Pyramid (Lynch and Cross 1995), and the PISCI (Azofra
et al. 2003).
According to Kim and Oh, the performance measures related to R&D departments should be
based on behavioural and qualitative measures, such as “leadership and mentoring for younger
researchers”, and appraised by a “bottom up (e.g., R&D researchers’ evaluation of their own
bosses say, R&D managers) as well as horizontal (e.g., peers and/or colleagues)” evaluation
scheme (Kim and Oh 2002: 19).
3.4 Non-financial PMS. Critical Review of the Main PMS Frameworks 63

Financial Perspective

Cash Flow
Project Profitability
Profit Forecast Reliability
Sales Backlog

Customer Perspective Internal Business Perspective

Hours with Customers on New Work
Pricing Index
Tender Success Rate
Customer Ranking Survey
Customer Satisfaction Index
Safety Incidet Index
Market Share
Project Performance Index
Project Closeout Cycle

Innovation and Learning
% Revenue from New Services
Rate of Improvement Index
Staff Attitude Survey
N. Of Employee Suggestions
Revenue per Employee

Fig. 3.2 The model of the Balanced Scorecard. The example of Rockwater’s BSC (Source:
Kaplan and Norton (1993: 7))

The fours perspectives result from specific questions; that is:

1. Customer perspective: “How do customers see us?”;
2. Internal perspective: “What must we excel at?”;
3. Innovation and learning perspective: “Can we continue to improve and create
4. Financial perspective: “How do we look at shareholders?” (Kaplan and Norton
1992: 72).
In their 2000 HBR paper, Kaplan and Norton introduced a strategic tool to BSC
design, the Strategy Map; that is
a common visual framework [. . .] that embeds the different items on an organization’s
balanced scorecard into a cause-and-effect chain, connecting desired outcomes with the
drivers of those results (Kaplan and Norton 2000: 52).

By identifying the key strategic measures for each perspective, managers effec-
tively implement strategy in a cycle, starting with the development of strategy
through the translation of vision into an integrated set of objectives. The next step
involves communicating this set of objectives and linking it to reward systems.
Furthermore, a third step relates to business planning through the setting of
priorities and resource allocation, in order to achieve business and financial inte-
gration. Finally, a feedback and learning step develops the strategic learning
process, in that the achievement of short-term financial targets is analysed together
with the other three perspectives measures in order to address whether or not the
strategy in use is effective in achieving organizational long-term survival (Kaplan
and Norton 2007). In this sense, the BSC is a strategic management tool that
supports both the development and the effective implementation of strategy.
64 3 Performance Management System. A Literature Review

Empirical evidence on the use of the BSC from Nordic firms confirms that the
financial perspective is mostly represented in their PMS, although measures with
both internal (internal perspective) and external (customer perspective) focus have
been applied, too (Nilsson and Kald 2002).
The leading strengths of the BSC system include the relevance of multi-
dimensionality in management accounting and the tight performance-strategy
relationship that enables operations to simply implement strategy. The tool is
also flexible: the BSC model can be conveniently customized – regarding both
the number of perspectives and the key drivers – according to the strategic and
organizational changes.
Despite the huge amount of empirical implementation of the tool (Kaplan and
Norton 2000), the management accounting literature has identified some criticisms
stemming from both a logical and empirical standpoint. Otley criticizes the con-
ceptual formulation of the BSC, especially concerning the linearity of the
relationships among perspectives (Otley 1999), while Malina and Selto argued
that the “relations among firms’ multiple performance measures often are neither
specified nor measured well” (Malina and Selto 2004: 445). Similarly, Nørreklit
stressed the problematic issue of cause-and-effect relationships in the BSC model,
since it does not consider the time lag – that is the delay in the effect variable –
between an input in the explanatory variable and an outcome in the explained one,
and the misconception the proponents of the BSC fall into when they explain the
cause-and-effect relationships between different areas (Nørreklit 2000). Moreover,
from a logical standpoint a main shortcoming relates to the fact that this technique
implements a top-down approach (Malina and Selto 2001) by identifying the
corporate mission, vision and strategic goals, and subsequently the drivers in the
four areas. Empirical criticisms regarding the usefulness of the BSC in driving
strategic objectives have been put forward by Chenhall (2008) and Neely, who
conducted a quasi-experimental study on an electrical firm that showed no signifi-
cant improvement after the implementation of a BSC framework (Neely 2008). The
use of the BSC has also been questioned. Ittner and colleagues found that Kaplan
and Norton’s model has frequently been used differently from the designers’ intent
(Ittner et al. 2003).
It can be said that the main limitation of the BSC model probably consists in the
difficult task of identifying all significant variables – internal and external – that
influence organizational performance (Malina and Selto 2001). Kaplan and
Norton’s model probably includes only a subset of significant leading variables.
Choosing organizational performance indicators is also a key factor for BSC
success. Moreover, the benefit from the control over an additional performance
measure has to be balanced against its cost of appraisal. When the cost for assessing
a measure is higher than the benefit coming from its control, the measure shouldn’t
be included within the BSC.
Following the same reasoning, Otley (1999) observed that the target setting
procedure is not clearly stated, even though it is a key issue for the effectiveness of
the implementation, in that it has to solve the trade-off among different areas.
3.5 The Strategy-driven PMS. The Levers of Control (LOC) Management Control. . . 65

Kaplan and Norton seem to have replied to this comment when they proposed
their ‘strategy map’ framework (Kaplan and Norton 2000), but this process of target
setting is somewhat biased. In fact, the strategy map procedure entails some
interviews with senior managers in order to get inputs about strategic objectives,
which will be summarized and discussed in a workshop whose outcome is a
statement of mission and ultimate strategic objectives. Afterwards, senior managers
will meet to define targets, measures and strategic actions necessary to achieve
strategic objectives (Kaplan and Norton 2000). This approach is misleading in
pursuing the stakeholders’ concern, since there is no disjunction between control
and management; moreover, an agency problem (Jensen and Meckling 1976)
arises, in that the controller is – at the same time – the agent (senior manager in
both cases).
In the same vein, Otley (1999) found other conceptual shortcomings to the
balanced model. The author claimed that different, even opposite, cause-and-effect
relationships among the four perspective can be added.
The reward system and feedback loops are also questioned in Otley’s work
(1999), since the first mechanism – reward system – is not always linked to the
achievement of the target, instead often relies on other management control tools,
such as the budget; while concerning the second issue – feedback loop – the BSC
reports information only on how much of the set targets have been achieved, but
fails to provide a kind of ‘double loop learning’ (Argyris and Schon 1978) that tests
whether implemented strategies or pre-set targets were (un)able to achieve strategic
objectives, which can undermine the effectiveness in organizational learning pro-
cesses (Senge 1990).
In conclusion, the BSC framework is one of the first and most widespread
balanced performance management systems, and it includes non-financial, as well
as financial, performance measures and develops another balance between short-
term and long-term objectives, although it fails to specify the implementation
process, and hence requires consultants to address ‘best practices’ in order to
customise the mechanism and make it effective. The BSC framework does intro-
duce some linkages between strategy and performance.
The following section will analyse and discuss a strategy-driven control system,
the levers of control (LOC) framework.

3.5 The Strategy-driven PMS. The Levers of Control

(LOC) Management Control Framework

In the first half of the 1990s, Robert Simons introduced a framework for control that
was intended to provide a “new, comprehensive theory for controlling business
strategy” (Simons 1995: 3). By stressing the tension between the “old” and the