Managing bank performance with the Balanced Scorecard
Every day, there are millions of cash transactions taking place around us. The entities that allow for these cash transactions to be conducted in secure conditions are commercial banks. The reason that banks can provide this security is not that they are blessed with the necessary infrastructure to do so, but because we, as people, gradually discovered the need for such an infrastructure.
When we think of commercial banks, we envision money-making machines, and some people use this expression figuratively. This may arise from the popular misconception that banks outlive entire systems because they print out money whenever they feel close to bankruptcy.
The fact of the matter is, banks do not create money. They manage it. And while the concept of managing money may seem extremely profitable, it is not. At least not without a strategic plan to ensure performance. In circumstances of intense competition, performance management has rendered its advantages in all industries, no less the banking business.
Moreover, while it seemed natural for banks to rely on financial indicators to report on performance, this strategy proved inadequate in measuring all-around bank performance. Therefore, a shift towards the Balanced Scorecard (BSC) has been gradually acknowledged within the banking industry. The Balanced Scorecard expanded the view on bank performance by aggregating both financial and non-financial indicators.
Indicators, old and new
But, why is it important for banks to measure performance based on both financial and non-financial indicators? Measuring performance exclusively on financial indicators has brought growing criticism. Although very important in measuring past performance, financial indicators mostly reflect past achievements, focusing on short-term goals and tangible assets.
These types of indicators are all lagging indicators, which means they have no perspective over the future alignment with a constantly changing business environment. What the BSC does, is, it complements financial indicators such as # Liquidity ratio, % Operating costs, % Adjusted return on assets (AROA), or % Capital adequacy ratio (CAR), with leading, non-financial indicators, real value drivers for long-term competitive performance.
A BSC looks upon business from four perspectives: financial, customer, internal processes, and learning & growth. A balanced scorecard thus balances financial key performance indicators with indicators that reflect on all other perspectives.
Strategic objectives such as increasing service quality, optimizing infrastructure management systems, and ensuring payroll accuracy are all pieces of a balanced scorecard that reflect bank performance from all possible angles. Because, in the end, a bank does not only “create money”, but also, strives for customer satisfaction, updated technologies in terms of payment methods, and employment brand strength.
It may be that the branch of a certain bank has a great % Customer retention rate, and that is part of the vision and strategy of the bank as a whole, but it may not be so satisfying that the same branch has poor % ATM approval rate and, thus does not achieve % Customer acquisition.
Where do Balanced Scorecards come into play?
A balanced scorecard would emphasize the need for a higher % ATM approval rate, which is an internal processes indicator, as a means of attracting more customers. On the one hand, more ATMs mean satisfied customers with bank territory coverage, which means customer advocacy.
On the other hand, ATM approval is based on choosing the right location, maximizing location potential, and cost-effective deals with the ATM acquirer.
In this case, the same key performance indicator, % ATM approval, can influence all perspectives:
- customer – because it is a driver for customer advocacy;
- internal processes – because it reflects an overview of network optimization processes in regard to their implementation;
- financial – because it looks at maximizing location potential while being cost-effective;
- learning and growth – because employees in the banking system benefit from a higher number of clients, and implicitly, sales.
The balanced scorecard is the perfect tool for measuring and evaluating performance because it allows us to look at performance from a 360-degree angle. Kaplan and Norton underline the purpose of the balanced scorecard, and that is: to clarify and translate vision and strategy, to communicate and link strategic objectives and measures, to set targets and align strategic initiatives, to enhance strategic feedback and learning.
Furthermore, managing performance with the help of the balanced scorecard assists banks in appreciating whether their growth strategies are successful or not, and which new initiatives are required to achieve their strategic objectives in the future.