In the late 1990s, a U.S. pager company called Arch Communications embarked on an acquisition spree, spending billions to buy dozens of rival firms. Arch justified its bid to consolidate the pager industry using standard metrics such as total addressable market, cash flows, and potential cost savings. While the business case must have seemed compelling, it ignored the reality that consumers were starting to abandon pagers for cell phones.
Between 1999 and 2003, more than two-thirds of all pager users gave them up. Arch filed for bankruptcy in December 2001. It was soon followed into oblivion by nearly every other pager company on the planet, according to Paul B. Carroll and Chunka Mui, authors of the indispensable book, “Billion Dollar Lessons: What You Can Learn from the Most Inexcusable Business Failures of the Last 25 Years.”
Arch went bust because it got lost in metrics and forgot to define a winning strategy. This is not an isolated case. Throughout my career, I’ve noticed that people in business often focus excessively on key performance indicators, or KPIs, forgetting metrics are only useful to the extent they support strategy. I call this the KPI trap. Below, I offer tips to help you avoid it.
What is strategy?
For me, strategy is about answering three core questions that confront any business in any industry and allow you to go from thinking to acting. The first question relates to your purpose: Why do you exist? The second addresses your challenges: What’s getting in your way? The final question speaks to tactics and execution: How will you overcome these challenges from your available options?
The order of these questions matters because you must be clear on your purpose and challenges before you can choose tactics to address them. Metrics are simply tools used to govern the execution of your tactics. They exist to help create a virtuous cycle by which incremental learnings on the execution side track back to strategy and inform updates to it.
In short: Metrics should support strategy, not replace it. Companies forget this at their peril. Recently, a large U.S. bank ran afoul of regulators and suffered dramatic losses when its employees tried to advance the bank’s “cross-selling” strategy by opening millions of deposit and credit card accounts without customer consent. As a result, the bank suffered major financial and reputational damage. It was forced to pay significant fines and restitution, its business suffered billions in losses, and its CEO resigned.
Metrics are simply tools used to govern the execution of your tactics.
This disaster happened because the bank confused a tactic (cross-selling, measured by total new accounts) with its strategy of building long-term banking relationships with its retail customers. As Michael Harris and Bill Tayler explain in a recent Harvard Business Review article, the bank “had—and still has—a strategy of building long-term customer relationships, and management intended to track the degree to which it was accomplishing that goal by measuring cross-selling. With brutal irony, a focus on the metric unraveled many of the bank’s valuable long-term relationships.”
Math is last
I’ve spent the bulk of my career in the enterprise software industry, where customers often start conversations with vendors by focusing on quantifiable metrics: What solution should we buy? What return on investment (ROI) will it give us? How will we justify the cost? They have it exactly backwards. In fact, math should be last when it comes to tracking value outcomes for your strategy.
The first question should be: Why are we investing time and risk and money? Once we have those “why” answers we can talk about the “how,” I.E. products with defined business metrics. For the conversation to be productive, you’ll want people who care about math in the same room with people who care about basic strategy questions.
I run a consulting practice at ServiceNow that helps customers maximize the value of our digital workflow technology. We’ve developed a logical framework that has proven quite effective in helping companies define their purpose, identify their challenges, and develop prescriptive, measurable tactics to meet those challenges.
We typically work with enterprise functions such as IT, HR, and customer service. Our value realization framework starts with existential questions: What are the enterprise’s goals? What is the enterprise asking the function to do? And what is the function asking of the operational team?
We then ask the customer to identify the pain points that the function is solving for. Clarity around problems helps us identify tech and human capabilities that can help solve these problems. We agree on the outcomes that our solutions should enable and figure out how these outcomes will advance the company’s high-level objectives.
When (and only when) this conceptual work is complete, we identify value realization metrics that are tied to strategic goals and figure out how these metrics will be monetized.
Here’s an example of value realization in action. My team recently worked with a commercial train operator in Europe. The company operates in a highly regulated market where train operators must reimburse passengers for train delays that are the operator’s fault. If fares aren’t reimbursed within 48 hours, the operator pays a fine.
Initially, the company sought to avoid these fines by processing reimbursements more quickly. This was a classic “math first” approach that ignored several key questions: Why was payout speed important? How did all these payouts impact the company’s bottom line? Did they want to pay more money out faster, or run the business better?
After a year, the train operator shifted its focus from paying fast to paying accurately. Rather than pushing money out the door in the shortest possible time, they started using machine learning algorithms to analyze passenger data and identify fraudulent claims. This fraud detection program paid for itself in a month by giving the company the power to distinguish between legitimate claims and fraudulent ones.
Shut your (KPI) trap
The KPI trap is pervasive in modern corporations, so much so that business scholars have given it a name: surrogation. This literally means using metrics as surrogates for strategy, instead of applying them to measure the success of tactics chosen to advance the strategy.
Surrogation is dangerous to your corporate health. The best way to avoid it is by defining your company’s purpose and identifying the challenges in your way. You can shut the KPI trap by putting metrics in their proper place, as tools to help evaluate your tactics.