AP® Business with Personal Finance review sheet from Aim for Five (aimforfive.com/business-finance/units/4/4-2)
Unit 4 · Topic 4.2
4.2 Evaluating Performance Using KPIs
A key performance indicator (KPI) is a number a business tracks to see whether it's reaching its goals. Businesses pick KPIs that match their goals, track financial, marketing and operations KPIs, and judge each one against a benchmark.
Key terms
- key performance indicator (KPI)
- financial KPIs
- marketing and sales KPIs
- operations KPIs
- benchmark
- market share
What a KPI is
A KPI is a data point that measures how a business is doing: its progress toward short- and long-term goals and whether its strategy is working. Managers choose KPIs that connect to the business's mission and goals, its profitability, and its ability to stay competitive and viable. Good KPIs differ from business to business: an airline cares about on-time flights, a streaming service about subscribers who cancel.
Three families of KPIs
Many of these you've already met: margins in 3.6, cash flow in 3.8, CAC and lifetime value in 2.1, market share in 1.2. Unit 4 is where you use them together to judge performance.
| Area | Example KPIs | What they show |
|---|---|---|
| Financial health | Revenue, gross profit and gross profit margin, operating profit and operating profit margin, COGS, operating expenses, cash flow | Whether the business is earning enough and controlling costs |
| Marketing and sales | Customer acquisition cost, customer lifetime value, customer satisfaction ratings, customer retention, total sales, market share | Whether the business is winning and keeping customers |
| Operations | Per-unit cost, delivery cost, order accuracy, percentage of deliveries on time | Whether the business makes and delivers products efficiently |
Matching KPIs to goals
Start with the goal, then pick the number that would show progress. Pair each KPI with a target and a time frame, so you know what success looks like.
| Goal | A KPI to track | Possible benchmark |
|---|---|---|
| Win more of the local market | Market share | Last year's share, or the leading rival's |
| Keep customers coming back | Customer retention rate | The business's rate from last year |
| Cut the cost of making each product | Per-unit cost | Industry average per-unit cost |
| Make sure the business can pay its bills | Cash flow | Positive cash flow every month |
Benchmarks
A benchmark is a reference point you compare a KPI to. It can be internal, based on the business's own past results (last year's margin), or external, based on industry standards (the typical margin for restaurants). A KPI on its own means little. A 91% on-time delivery rate sounds good until you learn the industry standard is 95%.
Businesses compare KPIs to benchmarks to see whether they're meeting a known standard, and then decide what to change.
Reading KPIs well
- Look at the direction over time, not one number. A margin falling three years in a row is a warning even if it's still above the industry average.
- Check several KPIs together. Sales can rise while CAC rises even faster, meaning growth is getting expensive.
- Match the KPI to the goal. If the goal is customer loyalty, retention and satisfaction matter more than total sales.
Worked examples
Try each one yourself first, then open the solution.
- Example 1Calculator allowed
Comparing KPIs with benchmarks
An online plant shop shipped 2,000 orders last quarter. 1,820 arrived on time and 1,970 were filled correctly. Its gross profit margin was 38%, down from 42% a year earlier. Industry benchmarks: 95% on time and 98% order accuracy. Calculate the KPIs and identify where the shop is falling short.
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- Step 1: On-time rate = 1,820 ÷ 2,000 = 0.91 = 91%, below the 95% benchmark.
- Step 2: Order accuracy = 1,970 ÷ 2,000 = 0.985 = 98.5%, above the 98% benchmark.
- Step 3: Gross margin fell 4 percentage points against its own past (42% to 38%).
- Step 4: So the shop should focus on shipping speed (an operations KPI) and on pricing or direct costs (a financial KPI). Order accuracy is fine.
Answer: On time 91% (below the 95% benchmark), accuracy 98.5% (above 98%), gross margin down from 42% to 38%. Delivery speed and margins need attention.
Common mistakes
- Judging a KPI without a benchmark. Always compare to past results or an industry standard.
- Putting a KPI in the wrong family, like calling market share an operations KPI. It's a marketing and sales KPI.
- Saying a margin fell by 4% when it fell from 42% to 38%. That's 4 percentage points, which is about a 9.5% decrease.
On the exam
- Expect a table of KPIs and benchmarks: compute one, compare it and explain what it says about the business's goal.
- On Question 1, you may be asked about KPIs and benchmarks you set for your own project; name the KPI, the benchmark and the goal it tracks.
Connected topics
Videos
Check yourself: 4.2 Evaluating Performance Using KPIs
4 questions on 4.2 Evaluating Performance Using KPIs. Pick an answer to see if you got it, and why.
| KPI | This quarter | Last quarter | Industry benchmark |
|---|---|---|---|
| Revenue | $1.20 million | $1.05 million | Not available |
| Gross profit margin | 38% | 41% | 40% |
| Customer acquisition cost | $45 | $38 | $40 |
| Customer satisfaction rating (out of 5) | 4.6 | 4.4 | 4.2 |
| Orders delivered on time | 88% | 93% | 95% |
| Market share | 6.5% | 6.0% | Not available |
KPI dashboard for Pebble & Pine, a hypothetical online home-goods store
Which KPI in the table measures progress toward an operations goal?
Which KPI both improved from last quarter and beat the industry benchmark?
By about what percent did Pebble & Pine's revenue change from last quarter to this quarter?
Which conclusion is best supported by the dashboard?
0 of 4 answered