Metrics That Matter: The Most Effective KPIs to Transform Your Business
By: Jon Snow, Senior Manager, Business Consulting Services

An Epicor® White Paper

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Table of Contents
Financial and Transactional KPIs: A KISS Approach Operational Area: Sales Gross Margin Sales per Employee Operational Area: Purchasing Inventory Turns Service Level Operational Area: Fulfillment, Inventory Control or Warehouse Operational Area: Finance DSO (Days Sales Outstanding), Average Collection Period DPO (Days Payables Outstanding), Average Payables Period Cash Conversion Cycle About Epicor 1 3 3 4 5 5 5 6 7 7 7 7 9

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Businesses thrive or fail based on their ability to identify, define, track, and act upon Key Performance Indicators (KPIs). The faster and more accurately KPIs can be accessed, reviewed, analyzed, and acted upon, the better the chance an organization has for success. Beyond the shareholder value that KPI improvement programs generate, KPI improvement initiatives position organizations for growth, financial performance and service differentiation. Sophisticated Enterprise Resource Planning (ERP) and Business Intelligence tools have made it possible to quickly calculate and report Key Performance Indicators and metrics. In previous white papers and articles, Epicor has emphasized the benefits of creating a KPI improvement program, and how that program should resonate with the key contributors in the business. Applying Lean and Six Sigma concepts to business process reengineering, assessing your business policies’ alignment to strategic goals, and implementing systems and organizational structures are necessary deliverables to support a culture of measurable improvement. Focusing your efforts on a balanced approach, with a blend of growth, financial and service KPIs, will enable you to achieve performance improvement that matters across your business, without sacrificing any one area of the business. One measurement alone does not provide a true reflection of performance. Consider how the operational areas could surpass the targets of that metric without achieving the overarching company goal. For example, any growth metric should be balanced with an attrition metric. To use a sports analogy: in basketball, assists are offset with turnovers; in football, touchdowns are offset with interceptions, etc. Multiple measurements across the balance of the operational function will reveal a balanced path to improvement.

Financial and Transactional KPIs: A KISS Approach
Companies commonly struggle with establishing the right KPIs to measure, and the frequency with which those KPIs should be calculated or published to the organization. This white paper covers the most impactful financial and transactional KPIs to calculate, how to create a balanced scorecard for those KPIs, and common failures in a KPI improvement initiative. We will dissect each KPI with a KISS approach: KPI, Information, Sponsorship, and Support. (The old usage of the KISS acronym still applies to a KPI improvement initiative: Keep It Simple, Stupid. “Stupid” does not refer to the aptitude of personnel, but the relationship between how things break, and the sophistication necessary to fix what is broken.) Some of the enablers that can be used in pursuit of KPI improvement are:      Printed / static reporting E-mailed / faxed reports Dashboards Automated alert technology BI analytics software

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  

Management consulting / training Third-party BI consulting services Balanced scorecards. The scorecard measures the critical business level metrics that are the root of all KPIs, including:   Financial metrics: e.g., actual versus budget related to project costs Operational/process metrics: related to measuring on-time progress of projects and system metrics (e.g., uptime of critical business systems) HR/staffing metrics: e.g., diversity, employee retention, and headcount.

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Transactional KPI metrics correlate closely with process metrics. The best way to identify and improve the root cause for an underperforming transactional metric is to understand the intricacies in the supporting processes, including those process metrics. When your organization can process more with less time, steps, and resources, the business is scalable to support peaks in demand and can be right-sized for normal business flow. Measuring a comprehensive set of KPIs allows you to monitor overall business performance in sales, financial performance, and service. Epicor refers to these elements as the High Performance Balanced Scorecard. Scorecard metrics are supported by a highly customizable array of KPIs, which then feed into individual performance metrics. Cascading measurements from a balanced scorecard through KPIs and individual performance metrics aligns your company and alleviates wasted improvement efforts. A narrowed focus on the critical KPIs will ensure a greater chance of success on a KPI improvement initiative. Each operational area should be measured on 2-4 metrics. The financial KPIs that every distributor should calculate include: 1. Gross Margin 2. Sales per employee 3. Inventory turns 4. DSO—Days sales outstanding, average days for customers to pay 5. DPO—Days payable outstanding, average days to pay vendors

And the corresponding transactional KPIs are: 1. Orders Entered Per Day 2. Average order value 3. Service level 4. Shipments Per Day 5. Lines Received Per Day

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Operational Area: Sales
Gross Margin
It is critical to educate and coach employees on how concessions, unwarranted discounts, process variations, defects and inefficiencies can lead to higher costs, thereby decreasing operating margin. You can start from the angle of “WIIFM?” (“What’s in it for me?”) That is, the higher the operating margin, the more company stability and longevity of the business, creating job security. Also, opportunities for bonuses, additional education, and increased job satisfaction all correlate to company performance and operating profit, which start with gross margin. Financial KPI Gross Margin Information Sales-COGS (Cost of Goods Sold) Information Sponsor Sales or Pricing Manager Support Sales staff

Frequency: Weekly Transactional KPI Orders Entered per Day Sponsor Support Sales staff

Total Orders / Sales Manager total business days Frequency: Weekly, aggregate Monthly

The Orders Entered per Day is an indication of the volume of business handled by the inside sales staff. When this metric tapers, it is time to refocus activities on call campaigns. By performing a Lean Kaizen Blitz (a focused, short-term project to improve an operational area) on sales processes, businesses can identify wasteful, non-value-added activities that can be eliminated, creating more capacity to handle the increased volume of business.

A few process metrics to focus on include: total time and takt time. Total time= how long does the process take, and Takt Time= Available work/customer demand. I.e., for Takt time, if you have 10 inside sales representatives focusing on entering orders, working 8-hour days, then you have capacity for 80 sales hours/day (4,800 minutes/day). If there are 400 orders per day being entered, then the takt time is 12 minutes per order. The total time for the order entry process needs to be less than the takt time, or you will have capacity issues.

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Transactional KPI Average Order Value Frequency: Weekly

Information Total value of orders / total count of orders

Sponsor Sales Manager

Support Sales staff

The average order value is an indication of the ability for the sales team to upsell accessory or “go together” items. Also, it is equally a reflection of the amount of business your customers are willing to award you, based on the items that are frequently shopped (core items) versus the items for which the customer is willing to pay purely for convenience. As we have all seen in our local big box store, you shop appliances, power tools, etc. diligently; then at the checkout line, you grab a marker. The store has just made a significantly higher margin percentage on that marker than on the core/competitive item. The more lines you have of noncore items on the orders, the more margin you will gain. The ability to upsell non-core items is reflected in your average order value. This will balance the metric of orders per day, as savvy inside sales reps may attempt to beat the orders per day targets by taking a customer Purchase Order and breaking it into multiple sales orders. Surpassing goals in both average order value and orders entered per day will achieve your objective: more sales overall.

Sales per Employee
This measure is a reflection of the organization’s ability to “do more with less.” As sales continue to increase for your business, you should be able to execute those sales transactions with the same headcount. If your sales or fulfillment resources resist being able to handle the increased volume of business, then a deep dive into the supporting processes is necessary. Businesses will inevitably have wastes within the process that result in inefficiencies. These wastes can be identified and removed using Lean concepts. Financial KPI Sales per Employee Information The total revenue / number of employees Sponsor President / CEO Support All employees

Frequency: Monthly

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Operational Area: Purchasing
Inventory Turns
Inventory is typically a distributor’s largest asset. The ability to leverage the inventory is best reflected through the inventory turns calculation. This becomes difficult for many distributors to calculate, as inventory is typically perpetual or always moving in ERP systems, and the inventory denominator is either an end-of-month value, or the average between the previous period end and the current period end. Financial KPI Inventory Turns Frequency: Monthly Information COGS / Average inventory value Sponsor Purchasing Manager Support Buyers

Service Level
Transactional KPI Service Level Information Time period order hits for an item / time period orders for an item Sponsor Purchasing Manager Support Buyers

Frequency: Monthly Increasing inventory turns is a sensitive matter, since theoretically, it can be achieved by reducing the inventory carried, to the detriment of fill rates and service levels. The service level is a reflection of the ability to fulfill customer demand with available inventory. When service levels are down, customers are likely selecting another source or distributor for the inventory, and you may be losing significant business. Thus, you must maintain a delicate balance within this metric.

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Operational Area: Fulfillment, Inventory Control or Warehouse
Transactional KPI Shipments per Day Information Number of shipments / number of business days Sponsor Warehouse Manager Support Warehouse staff

Frequency: Weekly Similar to the orders per day, this is the ability to handle the business volume generated by sales. Also, it is a reflection of the orders picked per day and the ability for the warehouse to fulfill customer demand. If this metric starts underperforming, a deep dive into slotting (the optimal storage location of product in a warehouse) would be beneficial. Also, an underperforming shipments per day metric can be correlated to underperforming sales or be a leading indicator of poor on-time delivery metrics. Transactional KPI Lines received per day Frequency: Weekly Since warehouse picking and receiving functions are often shared activities within the warehouse staff, if the staff is constrained by performing shipping activities, then they will likely also be constrained on receiving. If the lines received per day starts underperforming, it may be a leading indicator that fill rates or service level may begin slipping. Information Total PO lines / days within period Sponsor Warehouse Manager Support Warehouse staff

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Operational Area: Finance
DSO (Days Sales Outstanding), Average Collection Period
Collection policies are really a reflection of the valued partnership with your customers. Everyone is willing to pay for a viable service. Rather than only asking the customer, “Where is my money?”, determine if there is an underlying issue or reason for payment being delayed. Use Six Sigma tools, like VOC (Voice of Customer), to conduct a survey to solicit feedback from the customer, and to determine if there is a recurring trend that is damaging your customer rapport. The survey results should flow to your Business Development or sales personnel. Action needs to be taken to mend any relationship in jeopardy and verify the customer is receiving the expected value from services. Financial KPI Days Sales Outstanding Information 365 divided by (Sales / Average AR Balance for month) Sponsor CFO or Controller Support A/R or Credit

Frequency: Monthly

DPO (Days Payables Outstanding), Average Payables Period
With the exception of leveraging purchasing or terms discounts, your business should be slower to pay vendors than you are receiving money. Financial KPI Days Payables Outstanding Information 365 divided by (COGs / Average AP Balance for month) Sponsor Controller / CFO Support Accounts Payable staff

Frequency: Monthly

Cash Conversion Cycle
Three of the above financial KPIs impact cash flow or the cash conversion cycle, as follows: Cash Conversion Cycle (CCC) = DIO (Days Inventory Outstanding= 365/turns) + DSO - DPO The CCC is a metric that expresses the length of time, in days, that it takes for a company to convert resource inputs into cash. It measures the amount of time a dollar is tied up in the production and sales process before it is converted into cash through sales to customers. It is sometimes referred to as the cash cycle, as it measures the general health of cash flow. If the organization does not have sufficient cash flow, then it will be difficult to make investments in assets or resources to grow the business.

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Pitfalls
There are several common failure points that can and should be avoided in a KPI improvement initiative:
A. “Boiling the ocean”—The company calculates and shares too many KPIs with the staff, and there is a lack of focus on improving the underperforming or critical KPIs. B. No balance—Improving one KPI will come at the expense of negatively impacting another KPI. C. Omniscience—Executive sponsors may be the only ones who understand an underperforming KPI, and those sponsors fail to educate key contributors on the external factors, adjusted targets, and how the KPI improvement strategy will be executed. D. Sponsorship—Executive sponsors fail to assign the right priority to the KPI improvement projects and fail to align the KPI to an individual performance metric, leading to internal confusion or lack of tactical staff buy-in towards the “flavor/initiative of the week.”

Starting a KPI improvement initiative using the prescribed KISS philosophy noted above, while mitigating the risks of the common failures, will ensure your organization adopts and takes ownership of its metrics. If you are currently reporting a balanced scorecard for each operational area, then consider comparing your metrics against best-in-class data to identify underperforming KPIs. In summary, a balanced approach to KPI improvement, concurrently focusing on financial and transactional key performance indicators, will best position your company for growth and scalability as business volumes increase.

Epicor’s Business Consulting Services team comprises authorities in distribution and manufacturing best practices, ERP management, project management, change management, and business process re-engineering. Services include:      Key Performance Indicator Improvement Initiatives Best Practice Assessments Assisting with Mergers and Acquisitions Leading Lean Kaizen Blitz Initiatives Conducting Change Acceleration Process Workshops

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About Epicor
Epicor Software Corporation is a global leader delivering business software solutions to the manufacturing, distribution, retail, and services industries. With nearly 40 years of experience, Epicor has more than 20,000 customers in over 150 countries. Epicor solutions enable companies to drive increased efficiency and improve profitability. With a history of innovation, industry expertise, and passion for excellence, Epicor inspires customers to build lasting competitive advantage. Epicor provides the single point of accountability that local, regional and global businesses demand. For more information, visit www.epicor.com. Disclaimer This document is for informational purposes only and is subject to change without notice. This document and its contents, including the viewpoints and content expressed herein are believed to be accurate as of its date of publication, February, 2012, but Epicor Software Corporation makes no guarantee, representations or warranties with regard to the enclosed information and specifically disclaims any applicable implied warranties, such as fitness for a particular purpose, merchantability, satisfactory quality or reasonable skill and care. We welcome user comments and reserve the right to revise this publication and/or make improvements or changes to the products or programs described in this publication at any time, without notice. Epicor is a registered trademark and/or trademark of Epicor Software Corporation in the United States, certain other countries and/or the EU. All other trademarks mentioned are the property of their respective owners. Copyright © Epicor Software Corporation 2012. All rights reserved. No part of this publication may be reproduced in any form without the prior written consent of Epicor Software Corporation.

For more information, contact Epicor Software Corporation: info@epicor.com or www.epicor.com.

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