Investing With Impact: Why Finance Is A Force For Good Advantages of Non-Financial Performance Measurement Over Financial Performance Measurement

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Advantages of Non-Financial Performance Measurement Over Financial Performance Measurement

Financial Performance Measurement

The motive of every business is to achieve maximum financial profit. To fulfill the same, the company has produced financial performance measurement techniques. The main idea is to ensure that no matter what resources do and how they function, they must show a profit in the income statement. This is generally done in three distinct steps. They have been mentioned as follows:

First, it includes the selection of organizational goals.

Second, and also as the most important part, is the consolidation of measurement information related to performance.

Finally, necessary changes were made by managers to function as a remedy for the weak link in the company’s financial chart. So, it can be said that the financial aspect of performance measurement is basically driven by sales. There are certain milestones that companies set for employees. Lacking the ability to fulfill even certain processes can be harmful to the position. So, this performance measurement method is also known to indicate certain insecurities for employees. Therefore, it may not return the most authenticated results. Business Performance Management is generally measured by the financial aspects of performance measurement. Specific techniques for the same have been mentioned as follows:

Financial Performance Measurement Approach

Economic Value Added

This method is directly related to the economic profit of the organization which goes directly to the balance sheet. In other words, this method can be used to measure Net Operating Profit after Tax. There are also certain adjustments made in the calculation of Economic value added so that the company can be more in sync with the income statement in the income statement. This method is generally used by lower bodied companies these days. The same reason is that currently, companies are only able to view business functions from a financial perspective. There is still much more to be achieved.

Activity Based Costing

The basic laws of economics say that management should utilize the fewest resources available to them. In relation to this statement, companies generally identify the processes that exist in the system and then classify them as separate activities. Followed by this, the company charges a separate fee for each activity. This can be done in the form of direct and indirect costs.

The reasons for the shift from financial to non-financial aspects

In other words, it can be said that this is also a form of performance measurement based on financial aspects. One can charge for each activity, but there are always restrictions on the use of very expensive activities. Again, this method won’t work in the long run. The same reason is that this method discourages long-term investing. One must understand that investing in certain activities can lead to an increase in certain other activities in the long run. This can be related to labor and equipment needed to carry out activities. So, as a remedy, one must turn to better methods which have no financial significance. (Activity Based Costing (ABC), 2010)

Non-Financial Performance Measurement

It is one of the most widely applied performance measurement techniques in today’s corporate world scenario. We have seen the drawbacks from a financial aspect. The following methods tend to increase it for the betterment of the organization:

Non-Financial Performance Measurement Approach

Six-Sigma Approach

The best approach for performance measurement is the six sigma approach. In this method, the company tries to identify deficiencies in each process that is part of the organizational function. These are then corrected with certain quality analysis tools. The company also has special people who are only responsible for the same. As the name suggests, this approach makes the company 99.99966% error free. Because it has long-term accountability as well, it can be used for financial performance measurement techniques.

Theory of Constraints

This theory is concerned with continuously assisting organizations in achieving their goals. The concept is more applicable today because it identifies constraints that exist in the business path. It is done in a five step process. These have been mentioned as follows:

* First, identify constraints.

* Then, the company decides how to exploit the constraints.

* It keeps the whole system aligned according to the decisions made.

* Then, the negative strategy is used to increase the capacity of the organization to deal with more constraints.

* Then, the company looks to see if the constraint has been removed as a result of that. If not then they return to the identification section. (Constraint Management, 2010)

Advantages of Non-Financial Aspects and Disadvantages of Financial Aspects

The biggest disadvantage of the financial aspect is that it does not consider the broad view of the business. Companies must pay maximum attention to the available monetary benefits. If this is not achieved, management will not recommend carrying out certain activities as part of its functions. There have been many companies in the past that have lost a large part due to those disastrous situations. One can take IBM as an example. The company cannot defend the fact that it is not making an immediate profit. As a result, they sold their laptop manufacturing and watched other companies turn huge profits.

The advantage of the non-financial aspect is that it allows time for training. We all know that training is one of those areas that costs a lot of money to begin with. The immediate gains associated with the same may not be as great in comparison to the amount of money that is put into doing it. However, the non-financial aspect concerns the long-term benefits associated with training. This is generally not considered from a financial perspective that only considers the short term.

Non-financial aspects build a reputation for the company. It helps companies take strategies such as cost differentiation. These strategies go a long way in establishing the company as a cost leader in the market. The financial perspective may never give room for the same. Under today’s dynamic environment, it becomes a must for companies to seek out such a strategy.

Conclusion

Because most companies today have further strengthened and even broadened their vision, looking only for monetary gain as part of the performance measurement criteria is not feasible. For example, technology has been advancing at an incredible pace lately. This is because; the organization is putting large sums of money into research and development. If companies follow an economic value-added approach or an activity-based costing approach, they will not have the heart to invest that much. In the short term, they can have good cash flow, but as we’ve seen companies like Procter & Gamble thrive, success on an international level can only come through investing in technology.

So, the method of measuring financial performance is not feasible in the current era. It is of course preferable to use the non-financial aspects of performance measurement as we have seen. The same reason is that they aim for the development of total quality products. In the settlement era where the product life cycle depends on the efficiency of the company to be able to keep its products in the market, companies need to focus more on customer satisfaction than anything else. It is possible to a greater extent in measuring non-financial performance.

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