New accounting and control tools are needed to implement strategy in the 21st century. Rapid innovation, entrepreneurial competitors, and increasingly demanding customers have radically altered competitive dynamics. This book integrates the latest performance measurement and control techniques with the new realities of competition, strategy, and organization design. Anyone interested in running a business—either experienced managers or students—will benefit from understanding these new concepts and approaches to implementing strategy.
All the materials in the book have been rigorously pre-tested both in and out of the classroom. Students enrolled in Harvard Business School's MBA course, Achieving Profit Goals & Strategies, have used early versions of the book for three years. Selected chapters have been used in executive education programs at Harvard Business School and in a variety of corporate training programs. Case studies have been classroom tested at Harvard and many other business schools. Well-known U.S. and international companies have successfully implemented these new concepts. The result of this pre-testing and refinement is a coherent body of practical theory coupled with the latest application techniques.
The book is divided into four parts. Part I sets out the foundations for strategy implementation. Part II teaches quantitative tools for performance measurement and control. Part III illustrates the use of these techniques by managers to achieve profit goals and strategies. Part IV offers action-oriented case studies to illustrate key ideas and management techniques.1 Throughout the book, concepts are illustrated with current, real-life examples. The reader is encouraged to refer to the glossary at the end of the text to gain a further overview of the broad range of concepts and techniques covered. An extensive bibliography is provided at the end of the book for those interested in additional references for specific topics.
Chapter 1 sets the stage for Part I—Foundations for Implementing Strategy—by highlighting the tensions that are the essence of successful strategy implementation. We discuss the challenges of balancing profit, growth, and control; the tensions between short-term results and long-term capabilities; the differing expectations of a firm's constituents; and the motives of human behavior.
Chapter 2 explores the basics of formulating and implementing business strategy. We discuss how to analyze competitive dynamics and the capabilities of a business. We then view strategy from four different angles: strategy as perspective, strategy as market
1 Part IV is included only in the Text & Cases format of this book (ISBN 0-13-234006-2)
position, strategy as goals and plans, and strategy as patterns of emerging activities. We demonstrate that each of these approaches to strategy implementation requires distinct performance measurement and control techniques.
Chapter 3 introduces the essentials of organization design. In this chapter, we explore the implications of grouping business units by function as opposed to grouping business units by geography, products, or customers. We introduce key concepts that are essential to the effective design of performance measurement systems such as span of control, span of accountability, and span of attention.
Chapter 4 rounds out the introductory part of the book. In this chapter, we study how managers use information to control critical outputs. We discuss the technical feasibility of monitoring and measurement, the cost of information, and the effects of performance measurement and control on innovation. We end the chapter by discussing how managers use information not only for decision-making and control, but also for signaling, learning, and external communication.
Part II of the book—Creating Performance Measurement Systems—begins with Chapter 5, in which we show how to build effective profit plans. Using a profit wheel model, we illustrate how to develop accurate estimates for sales, profit, cash flow, investment in new assets, return-on-equity, profitability, and asset turnover. We illustrate how to gather and analyze data and assumptions, and demonstrate the effects of sensitivity analysis on predictions. We end this chapter by illustrating how to use a profit plan to test a strategy's validity.
Chapter 6 shows how to use strategic profitability analysis to calculate profit from competitive effectiveness and profit from operating efficiencies. Formulas and examples are provided for variance calculations related to profit plans, market share, revenue, and efficiency and costs.
Chapter 7 provides tools for allocating resources. For assets that enhance operating efficiencies or increase revenue, we review well-known techniques such as discounted cash flow and internal rate of return. For assets designed to enhance competitive effectiveness, we review the necessary analyses to ensure that resources are aligned with strategic initiatives.
Chapter 8 shows how to link profit plans and other performance measurement systems to internal and external markets. We discuss how to design an internal transfer pricing system. In addition, we discuss how to create financial and nonfinancial measures to link corporate performance to capital markets, supplier markets, and customer markets. Finally, we illustrate how to use residual income techniques such as economic value added.
Chapter 9 completes Part II by describing how to build a balanced scorecard. Using an internal value chain model, we discuss how the balanced scorecard can support and enable innovation, operations, and post-sale service processes. We describe how to build performance indicators to monitor the achievement of financial goals, customer goals, internal process goals, and learning and growth goals.
Part III of the book—Achieving Profit Goals and Strategies—focuses on how managers actually use these techniques to achieve business goals.
Chapter 10 introduces diagnostic and interactive control systems. We illustrate how managers use these systems to implement top-down intended strategy and guide
bottom-up emergent strategy. In addition, we explore the special risks that are introduced through the use of performance measurement and control systems.
Chapter 11 focuses on goal setting and the aligning of incentives. We learn how to use goals to communicate strategy, the importance of targets and benchmarks for motivation, and the multiple purposes for which goals are used, including planning, coordination, motivation, and evaluation.
Chapter 12 provides the tools to identify strategic risks. We illustrate how performance measurement and control systems can be used to monitor operations risk, asset impairment risk, competitive risk, and franchise risk. We introduce the risk exposure calculator—a tool to measure the type and magnitude of pressures that can lead to failures or breakdowns. Finally, we consider the possibility of misrepresentation and fraud.
Chapter 13 provides an overview of the design and use of business conduct and strategic boundaries to control risk. We present a framework for designing internal control systems to safeguard information and assets. We review the behavioral and motivational assumptions that underlie these systems.
Chapter 14 ends the book by pulling together key concepts into an integrated model—the levers of control. The power of this approach is illustrated in two contexts: the introduction of performance measurement and control systems over the life cycle of the business, and the use of the levers of control by managers taking charge of a new business.
As I look back over the scope of the book, I realize that I could not have completed such an ambitious project without the help of many people. Robert Kaplan, my friend and colleague for the past 15 years, contributed Chapter 9 on the balanced score-card. An acknowledged expert and one of the innovators of this important performance measurement tool, Bob was generous to allow me to include this chapter as well as several of his cases in the book. Antonio Davila, a former doctoral student at Harvard Business School and now an assistant professor at the University of Navarra in Spain, worked closely with me on this project during his four years at Harvard. Tony helped write Chapters 5 and 6 (Building a Profit Plan and Strategic Profitability Analysis), prepared initial drafts of the bibliography, provided detailed commentary and suggestions on many of the chapters, and was a joint author for several of the case studies. Ken Koga, another doctoral student now at Waseda University in Japan, provided helpful comments and input. My colleagues Thomas Piper, who teaches Achieving Profit Goals & Strategies with me in the MBA program, William Brans, the author of a number of cases in the book, and Marc Epstein and John Waterhouse, both of whom visited Harvard while I was developing the manuscript, helped me work through ideas and approaches. Professor William Fruhan generously allowed me to include one of his cases in the book.
I also gratefully acknowledge the willingness of Harvard Business School Press and Harvard Business School Publishing to allow me to use material from my book Levers of Control and to reproduce the Harvard case studies. Audrey Barrett, permissions editor at Harvard Business School Publishing, was especially helpful in researching all the cases and granting the necessary permissions.
I have benefited from comments on early drafts provided by Michael Alles (University of Texas at Austin), Shahid Ansari (California State University, Northridge), Howard Armitage (University of Waterloo), Jacob Birnberg (University of Pittsburgh), Len Brooks (University of Toronto), Clifton Brown (University of Illinois, Urbana-Champaign), Kung Chen (University of Nebraska, Lincoln), Chee Chow (San Diego State University), Kenneth Euske (Naval Postgraduate School), Neil Fargher (University of Oregon), Severin Grabski (Michigan State University), Harriette Griffin (North Carolina State University), Sanford Gunn (SUNY at Buffalo), Susan Haka (Michigan State University), Raffi Indjejikian (University of Michigan), Christopher Ittner (University of Pennsylvania, Wharton School), Stephen Jablonsky (Penn State University), Douglas Johnson (Arizona State University), Charles Klemstine (University of Michigan), Lau-reen Maines (Indiana University), Steve Reimer (University of Iowa), Alan Richardson (Queen's University), Toshi Shibano (University of Chicago), Michael Shields (Michigan State University), and John Vogel (Lockheed Martin).
Students in Harvard Business School's Achieving Profit Goals & Strategies course responded with good humor and perceptive suggestions as I tested and revised various versions of the manuscript. Many students, including Nicole DeHoratius, Timothy Dor-nan, Kenneth Gonzalez, Uchechi Orji, Yungwook Shin, and Kirsten Steward, made substantive suggestions that are reflected in the current text. Special mention must go to Michael Mahoney, who worked with me over several months revising and refining the manuscript prior to publication. Mike made many suggestions, drafted the initial version of the glossary, prepared clarifying paragraphs to the text, and identified many of the business examples.
Research associate Indra Reinbergs also made important contributions finding company examples to support the text material, as did Jeff Cronin, information analyst at Baker Library. Luz Velazquez, my assistant for the past two years, coordinated the submission of the manuscript and cases, and was characteristically efficient and cheerful in the face of deadline pressures. Jenny Tsoulos also provided invaluable assistance in checking page proofs and managing the submission of final changes.
At Prentice Hall, I am indebted to Annie Todd, executive editor, who has patiently and professionally shepherded the project to completion, PJ Boardman, editor-in-chief, who gave critical support throughout the project, and Marc Oliver, production editor, and Fran Toepfer, editorial assistant, both of whom kept the flow of the project on schedule. Ann Koonce made helpful suggestions in copyediting the manuscript. Beth Toland, executive marketing manager, provided the skill to communicate the essence of these new ideas to potential readers.
Developing the concepts, cases, and course upon which this book is based has filled my professional life over the past three years. I hope that you, the reader, will find the effort worthwhile.
Robert Simons Boston