Businesses do not exist in isolation. They are part of a complex network that involves customers, suppliers and competitors. Thus both business planning and day-to-day operations must take place with one eye always firmly fixed on this larger context.
How is the firm positioned within its industry?
How does its performance compare with other firms?
How effective is it vis-à-vis its competitors?
Benchmarking is a tool that enables managers to answer these questions. It can show exactly how a company compares to its competition.
Benchmarking provides an early warning system that can spot flaws and weaknesses before they grow into crises that can destroy the company. What’s more, it can point to the kinds of corrective measures that managers can use to get their firm back on track.
It is also a systematic comparative analysis. It involves comparing a company either to the industry standard or to one or more competitors using a number of well-defined and easily-understood indicators.
What managers will find difficult is gathering the information required to perform a detailed and useful comparison, and acting to correct the weak areas identified by benchmarking.
Why should you be benchmarking?
Benchmarking is a technique used to establish performance measures of the effectiveness and efficiency of the internal operations and competitiveness of a company in the marketplace.
The process involves comparing the performance of the company against competitors that are generally accepted as being the industry leaders.
Companies use benchmarking to:
- solve problems;
- set goals;
- improve processes;
- re-engineer products; and
- set strategy.
Benchmarking helps companies to adopt and adapt the best industry wide practices tobtheir own needs without having to go through the more painful process of trial and error. It also lifts companies out of the status quo and can be applied internally to improve management skills.
Do the right math
The essence of benchmarking is comparison. There are two types of comparisons: internal comparisons can be made within a company (better or worse than previous years); external comparisons can be made between a company and the industry (better or worse than another company or than the industry average). Apart from comparing companies, the performance of different products can also be compared.
Comparisons should always be made using exactly the same type of measurement, arriving at a result in exactly the same way. Thus annual results should be recorded over the same fiscal year to avoid seasonal differences.
Terms such as ‘profits’ should be used precisely and consistently (pre-tax or after-tax). Comparisons should also be expressed in numbers rather than relying on opinions or feelings expressed in words. The numbers should be expressed in the same way.
Ratios and percentages allow for comparisons even when the absolute results for firms are very different. On the other hand, averages can be misleading if they contain extreme differences.
For example, a statement such as “on average, products spend 50 days in inventory” can conceal the fact that two older lines, each accounting for 25 percent of sales spend 75 days in inventory and one new product accounting for 50 percent of sales spends only 25.
Clearly it would be more useful to know this detail since it allows for judgments to be made about which products move fastest and why.
In performing benchmarking managers should be prepared to make adjustments so that the result is more realistic. Perhaps the most common adjustment is to take the effects of inflation into account. A company showing annual growth in revenues of 10 percent may not be growing at all if inflation is around the same rate.
Step 1: Identify the critical performance factors
Critical performance factors are also known as key performance indicators (KPI). These factors can vary widely from industry to industry. For example, in some manufacturing sectors, the amount of time goods spend in inventory may be a critical indicator of how effective a company is.
Inventory, however, would be irrelevant in a company involved in the provision of services. Financial indicators such as those involving assets may be irrelevant to small knowledge-based companies with few traditional assets such as land, buildings, cash, etc. It is very important to select those yardsticks that are meaningful within the context of the specific industries and companies to be compared.
Step 2: Build a team that will conduct the benchmarking
Larger companies will choose a cross functional team to do the benchmarking and this will be drawn from the appropriate departments affected by the critical performance area being benchmarked.
In a smaller company, all the functions of the benchmarking process may be fulfilled by the owner of the business with assistance from maybe one or two other staff or, outside consultants.
Step 3: Develop a profile of the performance indicators of the critical performance area
These performance indicators can be quantitative and qualitative with the quantitative being the measurement data produced and the qualitative being the processes used. Everybody affected by the performance area under review should be involved in drawing up the profile. This may include the human resources department, the marketing and sales group, the finance department, etc.
Step 4: Plan the data collection
Only the data required for the decision-making process need be collected. Typically, more than 80 percent of all information collected is filed and never used.
Step 5: Choose the comparison group against which the company will be benchmarked
This may be the industry as a whole, a small grouping of three or four primary competitors within the industry, the one most threatening competitor, or a firm outside the industry that faces similar challenges in its business. While it might be highly desirable to do a head-to-head comparison with the key competitor, it may simply be unrealistic and impossible to get the detailed information required to create the same profile of the competition as is possible for the firm itself.
Step 6: Do the comparison
It is recommended to use a matrix to do the comparisons between the companies being benchmarked – identifying where the company performs at a higher level and where it performs at a lower level. If possible the people doing the comparison should determine what factors contribute to positive or negative differences between the companies.
Step 7: Develop an action plan
Once the analysis is complete and the decisions made on what action is necessary following the analysis, a plan needs to be executed to implement the required changes.
Step 8: Monitor the results
Upon implementation of the action plan, it is necessary to monitor the success or otherwise of the incorporated changes. Good companies not only benchmark on a regular and consistent basis, they act on what benchmarking shows them and track the outcomes.