By Andy Burrows
Getting business strategy right is not easy.
The definition of strategy is simple enough: “a plan of action to achieve an aspiration or overcome a problem”. And the process of arriving at the plan sounds so easy: define the objective (vision, aspiration, problem), assess the current state and therefore the gaps, and decide how to get from where you are to where you want to go.
One of the things that makes it difficult is knowing where to start in assessing the current state. There are so many factors you could take into account. It’s sometimes difficult to see the wood for the trees.
And performance measurement has similar issues. I’ve written previously about the need to make sure you’re looking at the right performance measures – KPIs.
What we need in both cases is to be focused on the “performance drivers” or “value drivers”.
So, in this article I want to introduce you to a very simple tool called the “value driver tree”.
A value driver tree looks like the picture below:
A “value driver tree” is basically a flow diagram which plots all the things that lead to business value creation and how they relate to each other.
A “value driver tree” is a chain of consequences. This leads to that, which leads to something else, which leads to business performance and value. Each of the steps is a value driver because it leads eventually to increased business value.
You will notice in the caption on the picture that I normally call it a “performance driver tree”, rather than a value driver tree. That’s because my normally terminology is in terms of performance.
I tend to point out that “performance” is a word that does not have a definition that will exactly fit every organisation. Performance is defined by the vision and objectives of the owners of the business or organisation. Whereas “value” is a more specific term referring to monetary assets.
If your business owners are private shareholders, pension schemes and investment portfolios, or private equity investors, what they want most is a financial return on their investment in keeping with the risk profile of the business. They want value.
But if your business is owned privately, or by government or by charity, they may define performance more broadly.
That’s why I generalise and call it a “performance driver tree.”
However, for the purposes of this article I’m going to talk about value drivers, for two reasons. First, it’s what people are more familiar with. Second, because of that my SEO on this article will work better!!
It starts on the left-hand-side. Here we put whatever we’ve decided is the definition of ultimate performance for our business – the business vision. We could choose Return on Investment, or Total Shareholder Return, or Profit. Whichever way the vision of the business is stated, that’s how we define good performance – because that represents the aspirations and hopes of the business owners.
I freely admit that the core of this analysis almost always comes back to drivers of financial gain and profit. But it helps to set it up generically to start with, so that you can learn more about what desires and dreams – and whose desires and dreams - are driving your business.
For instance, there may be a private business owner who says, “I don’t care how much profit I make. I’d spend every last penny I have just to have the happiest customers.”
He’d want customer satisfaction to be in the left-hand box. That’s his definition of performance.
But then the CFO asks, “but after you’ve spent the last penny and gone out of business, will your customers be happy?” No! They’ll be sad that we’ve gone, because they liked the service we gave! We give better customer service in the long run by making a profit and staying in business.
What you do about this, in terms of this performance driver analysis, may be to make two or three ultimate business performance definitions on the left-hand side, which you recognise you have to balance. Or you could put profitability in the next level to the right, as a key driver to enable long term customer satisfaction and service. But essentially, my point is that the thought process has taught you something. Using the methodology has clarified the full spectrum of what you need to aim at as a business.
The next steps involve defining the value drivers.
So, to build a performance or value driver tree we plot the links through what drives performance.
A performance driver is something that the business can influence and that will have a material effect on the performance of the business.
The performance driver tree maps how each of these drivers contributes to performance.
And we can then pick out the critical performance drivers – the ones that have the most impact – and focus on them.
So, each box to the right of the definition of ultimate value represents something that the business can influence that will have a material effect on the next link in the chain. And the links/arrows between the boxes means one things “leads to” or “affects” the other.
So, the second level is almost like just a high-level profit and loss account – all the things that go together to make a profit. And then each subsequent level breaks it down further.
… Revenue is driven by revenue per customer and the number of customers.
… The number of customers is driven by the number of new customers acquired and the number of existing customers retained.
…. Customer acquisition is driven by selling effectiveness, which is driven by conversion rates (for your website and for your sales people) …
… And so on…
You can see that this would be best as a brown-paper-on-a-wall workshop exercise, because the drivers can get quite detailed and interlinked.
And at some stage you have to devolve the lower level detail into the various business functions. And that’s fine because each function should have its own strategy and performance measures (and yes, you can use this at functional level for Finance too).
The final step in developing the tree is to identify which of the drivers are critical performance drivers.
Now, I talked in more detailed about coming up with the KPIs for the business in another article – Developing KPIs that More Than Count.
So, very briefly, the link is to go from critical performance drivers to critical success factors, recognising the concept of leading and lagging indicators, which I talk about in that article.
Once we’ve identified the critical performance drivers - the value drivers - the things that have the most impact on business performance, and that are controllable by the business - we turn those into Critical Success Factors (which you may see referred to as CSFs).
Critical Success Factors are the objectives relating to the critical value drivers. For example, a value driver may be the conversion rate of website visits to product clicks or actual sales. The Critical Success Factor would be the objective to maximize the conversion rate.
What you should then be able to do from your value driver tree is to plot a logical flow into your business definition of performance - the business vision.
You should be able to say for each branch, that “if we are successful in each of these critical success factors, we will achieve the higher level success factor”… and so on up the tree into the business goals and business vision.
For each objective (CSF) then you need to find a measure, because objectives should be SMART - remember that acronym - Specific, Measurable, Achievable, Relevant and Timebound. And I go into how to do that in that other article I mentioned.
Continuing the example above (website conversions), it’s fairly simple - good performance is a higher number of sales per website visit. The simplest way to measure that is with a ratio percentage sales volume over website views. The actions and behaviors to influence that will probably already be obvious from the performance driver tree - naturally we would try to optimise the website for conversions, by the website design, the product descriptions, brand image, and the ease of navigation and so on.
You should then be able to overlay these measures over the CSFs to see the way that they flow. This isn’t strictly necessary for developing the measures, but it does help when you come to develop reporting. But we don’t have time to talk about that this time.
In that view, you should be able to see that each measure relates to something higher and lower in the logical flow. This means that the measure is a lagging measure at its own level, and a leading indicator for the performance at the higher level.
When it comes to strategy development, our factbase should be focused on what is important for the performance of the business. And through the process outlined above, we’ve identified critical success factors and measures for those. And so, not surprisingly, those CSFs are what gives us the focus for our factbase.
But just having the critical success factors mapped out isn’t the end of the story for the strategic factbase. Having identified where to focus, we then need, for each of the CSFs, to understand the context and everything that may affect them. So, whilst we narrowed down our focus onto the CSFs, we then need to talk about market economics, competitive positioning, risks, opportunities, SWOT analysis, and all that good stuff.
The value driver (or performance driver) tree is just one example of a methodology that works within the BPM Wheel framework that I use. We’ve talked about two key elements of that framework - Strategy and Performance Measurement.
And it ties in with the 3-part approach that I talk about based on the BPM Wheel.
So, firstly, we’ve explicitly recognised that both strategy and performance measurement are all about business performance. We’ve done that by clearly defining what’s in the left-hand box and plotting everything that leads to it.
We’ve also looked at “what good looks like” for performance measurement, and for at least the factbase part of the strategy development process.
And fundamentally, we’ve also looked at a really great way of creating strong links between strategy and measurement - two of the key elements of the BPM Wheel model – defining the common threads that should run through the performance cycle.
The Short Guide to Defining Value Drivers - free short ebook containing a step by step guide to the techniques in the above article
KPI Cheat Sheet – free KPI inventory template
How Finance Can Drive Business Performance - a white paper outlining a BPM framework and an approach Finance can use to use it in driving value in an organisation
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