Professor Dr Andreas Daum, Isabella Hess, Cordula Heuer and Jürgen Petzold detail how the balanced scorecard can be an effective tool for success-oriented management support.
The terrorist attacks of September 11 demonstrated the importance of effective risk portfolio control for international reinsurance companies. Besides generating risk-adequate earning ratios, an absolute priority for any reinsurer has to be the prevention of risk exposures that might jeopardise the firm's existence. In this context, real-time exposure and performance monitoring can make the difference between survival and insolvency. A precondition to this is, of course, the availability of information. A particularly appropriate tool to assess, implement, and steer a reinsurance company's strategy is the balanced scorecard.
As in most industries, market structures in the insurance business have been stirred up by the recent developments in information and communication technologies. Thanks to lower entry barriers, new competitors are managing to enter and successfully offer new products based on innovative business models. In a wave of business consolidation, market players are being forced to go out of business or to merge with other companies to form large insurance groups, while internet portals and marketplaces are gaining greater acceptance by clients and offering new functionalities and additional service.
While market transparency increases, customer loyalty vanishes. Often, reinsurance cover is bought at short notice and based on price alone. This results in ever fiercer competition which in turn increases the pressure on reinsurers' revenues. On top of this, rising claims and administration costs have become an increasingly heavy burden in particular for those reinsurers that maintain a large and decentralised network of local offices.
These developments pose a considerable challenge to the strategic leadership and positioning of reinsurance companies and their individual business units. In addition, international competition for capital resources and for investors' favour impose an offensive shareholder-value strategy on business leaders. At the same time, a commitment to stakeholder value demands the integration of client and employee interests into a company's strategy.
Approach and outline
The key indicators used in controlling typically show an excessive bias towards financial statistics.1 Besides `hard' quantitative indicators, managers - especially those committed to value-oriented management - today increasingly ask for `soft' qualitative indicators upon which to base their decisions. Information on critical business processes and strategic success factors can be extended accordingly. The relevant indicators are still insufficiently linked to the information on markets, clients, competitors, and the individual performance measures.
Kaplan and Norton, the founders of the balanced-scorecard method, determined the most significant success factors of companies and classified them systematically. They differentiate between four perspectives: the financial perspective, the customer perspective, the internal perspective, and the learning and growth perspective.
Distinguishing between various perspectives allows a multi-dimensional point of view that integrates the past, the present and the future. Traditional approaches focus on the financial reporting perspective that, by its very nature, is oriented towards the past. Within the balanced scorecard method, this perspective also has its role to play, but the inclusion of additional perspectives adds important dimensions to the view on the company as a whole or on single departments. This way, additional strategic goals become measurable and controllable. This gives a better overview over what is going on within a company.
The introduction of a balanced scorecard requires that business processes be defined over the entire process chain to ensure the availability of data for further analysis. This applies in particular to internationally operating companies such as reinsurers since the availability of comparable data is crucial for the timely assessment of business performance. The harmonisation of business processes will reduce the need for using different IT media and thereby eliminate the need to enter the same data again and again, leading to real cost savings.
Existing information systems are insufficient if they neither improve nor facilitate the management of a reinsurance company, for then the leadership lacks crucial performance indicators that are indispensable for strategic decisions.3 One challenge for management is therefore the design of truly comprehensive information systems, enabling leaders to take informed decisions. The timely availability of decision-relevant information is a prerequisite for the efficient management of any company. Visionary strategies need to be translated into concrete and transparent performance goals in order to devise practicable action plans. Apart from strategic and operative planning, continuous controlling is indispensable to identify where goals have or have not been met, so that necessary adjustments can be made instantly. As a result, a company's strategy can be managed in a more efficient way. Here too, the balanced scorecard is a powerful tool.
Depending on the context in which the balanced scorecard method is applied, whether across companies, company-wide or within a single department, the continuity of processes may be more or less limited. This will depend to a large degree on whether the operations concerned are organised in a centralised or decentralised (as, for example, in decentralised underwriting) manner. The use of diverse IT systems within one company will considerably complicate the harmonisation of data flows, especially in internationally decentralised networks.
Therefore, the development of requirements for reinsurance processes requires certain fundamental considerations and strategic decisions.
The continuity of business processes is a prerequisite for the optimisation of internal processes. At the same time, streamlining inter-company processes is a prime strategic challenge4 that promises new opportunities to reduce costs, improve quality standards, and accelerate business processes.
A number of balanced scorecard service providers have established themselves on the international market.5 Depending on a project's objective and its size, certain variations of a tool may be more appropriate than others for reinsurance companies. The choice of the best tool will depend on various criteria, such as the company's specific needs, practical adequacy, integration with processes and existing IT systems, or legal constraints (like, in Germany, the KonTraG6, the law for transparency and control in business).
The use of a balanced scorecard tool will only lead to success when the company has first clearly defined its strategy and derived concrete goals. Since standard tools naturally come in rather general set-ups, they need to be adapted to the specifics of the company concerned, according to the company's vision, mission and strategy. The standard tools only offer basic technical functionality; they will be given flesh and blood only after the specific requirements of the reinsurance market have been formulated.
Reinsurance companies often lack an institutionalised and methodically established interface between, on the one hand, the strategic goals of top management and, on the other hand, the operative concepts of individual departments and local offices. Here the balanced scorecard can fill the void. In practice, the implementation of a balanced scorecard will go through five stages:
1. clarification of the strategy;
2. establishment and connection of strategic goals;
3. determination of indicators;
4. definition of, or agreement on, target values; and
5. selection of concrete measures (plan of action).
Based on the corporate strategy (whose existence is assumed here), the strategic goals of the department concerned are derived. From these goals follow the corresponding indicators and target values and, finally, the appropriate measures.
It is important that in the beginning the strategic vision is reduced to a concise minimum. Even though this process might consume considerable time and resources, the intensive communication it brings about is indispensable. Only this way all participants will be sharing a common strategic vision.
As a basic rule, the strategic definition needs to be completed before the balanced scorecard-aided implementation can start. Strategic goals need to be derived for various perspectives, namely for the financial, customer, internal and learning perspectives. During this process, a limited number of priority goals have to be distilled from a larger set of potential goals. A limit of 15 to 25 goals has proved practical. Some lower-priority strategic tasks will have to be factored out.
Based on these strategic goals, the specific cause-and-effect relationships will be identified and visualised in the next step. The aim is to represent the causal relationships between the individual strategic goals.
It is only after the cause-and-effect relationships have been correctly identified that a collection of multiple strategic goals will turn into a useful corporate concept that not only determines the desired changes but also points out the strategic direction. The subsequent selection of indicators serves to ensure that the activities of the employees concerned further the strategic goals. The indicators need to be selected in such a way that they provide clear information on the degree to which goals have been attained.7
Experience has shown that agreement on target values is best reached in a kind of counter current process. This means that the top management first determines rather general target values. These are then passed on to the next hierarchical level where they are intensively discussed with the employees concerned (leading to a set of target value agreements), preferably following the `Management by Objectives' method (MbO). The target values defined in the process shall be ambitious, motivating and, at the same time and most importantly, realistic.
The definition of a plan of action finalises the implementation of a balanced scorecard strategy. This plan defines concrete and adequate measures for each individual strategic goal. It is this final stage that closes the circle between strategy and implementation. Important prerequisites for the successful implementation of the envisioned actions are effective project management and project controlling mechanisms.
Why do so many reinsurers have troubles introducing strategies? A frequent source of discussion is that the strategic tools do not keep pace with changes of the strategies themselves.8 The overriding importance of intangible assets in today's economy asks for tools that equally describe intellectual assets and value-creating strategies. The absence of such instruments confronts managers with the paradox of having to steer something they can neither describe nor measure.
Successful companies introduce a process that supports strategic management: the so-called `double-loop process' that integrates into a continuous process both the operative management (budgets and monthly reviews) as well as strategic management.9 In the first stage, the strategy is linked to the budgeting procedure. The balanced scorecard provides the guideline to assess potential investments and plans of action. To be relevant, investment projects should have a strategic perspective, and the scorecard's indicators should be linked to a plan of action. Two kinds of budgets are required: a strategic one and an operative one. The budgeting process must be designed in such a way as to avoid undue pressure on action programmes to deliver short-term financial results.
As a second step, a management meeting has to be held to discuss the strategy. A strategy learning and adaptation process will follow. After the implementation of the scorecard and the establishment of information feedback systems, strategic hypotheses can be verified. The scorecard can then immediately be updated with newly emerging priorities.
Even after the implementation of the balanced scorecard methodology, goals have to be closely monitored in order to allow swift reaction when strategic goals change. Such a learning curve is a prerequisite for the success of any balanced scorecard methodology, guaranteeing that a particular strategy is established as a continuous process. For goals and strategies may change, requiring adjustments of the balanced scorecard.
Adjustments that result from a continuous strategic process will positively influence the balanced scorecard indicators, the budget, and organisational processes. In the absence of such adjustments, even the best balanced scorecard concept will not perform adequately. The available resources will not be put to effective use, leading to inconsistencies that may jeopardise the entire undertaking's success.
A case study
The balanced scorecard has to be truly embedded into the company as a whole. This implies, besides the need to identify a strategic vision and to derive indicators and key figures, the integration into the existing organisation and its processes. Roles and responsibilities will have to be assigned accordingly.
The `interfaces' in figure 4 indicate the components that are required for the implementation of a balanced scorecard. The following figure takes e-business as an example for a balanced scorecard implementation project.
The development and implementation of a balanced scorecard is not a once-and-for-all affair. Besides uncompromised commitment, a crucial prerequisite for the realisation of the full potential of the balanced scorecard method is the complete integration into steering and controlling systems. These include not only operative planning tools, but also benchmarking mechanisms and target agreement control, compensation schemes, reporting tools, existing processes and the pre-existing IT infrastructure. This integration may change roles and responsibilities, and hence impact on the organisational structure.
Since the strategic vision and the technological characteristics of the balanced scorecard are an integral part of the resulting operative management, it is important that these are adequately communicated to all employees in order to create a common attitude and effective knowledge sharing. This requires differentiated training and communication activities. It is before this background that the vision and mission of the reinsurer form the basis of the ensuing processes.
In the implementation of a balanced scorecard, a business-oriented vision should take precedence over an economy-oriented one. While, in the context of reinsurance, the latter vision consists in contributing to the stabilisation of stochastic events through risk transfer and risk transformation processes, the former vision is of more relevance to a balanced scorecard process and is specific to a particular company. It may consist of a price leadership vision, a quality or service leadership vision, or a vision to solidify the firm's profitability and autonomy.
It should be realised that the statement of a company vision alone does not by itself lead to strategic leadership. Rather, the strategic and operative goals derived from that vision and their interrelation, the definition of indicators, the agreement on target values, and the selection of appropriate measure will be decisive. The balanced scorecard keeps this complex process structured and manageable. The experience of international reinsurers with the balanced scorecard has confirmed this so far.
The same is true for the implementation of the company mission which may consist of the enlargement of counselling and service activities for insurance clients, the strengthening of long-term relationships with target clients, or the focusing on `insurable' risks.
The four principal perspectives of the balanced scorecard have already been discussed above. In applying this management and controlling instrument, the definition of indicators for each perspective as well as the agreement on corresponding target values with all parties concerned are crucial success factors.
In appreciation of their central role, a few exemplary indicators taken from international reinsurance companies will be presented here.
Learning and growth perspective:
This list of indicators clearly shows that the balanced scorecard approach does not exclusively rely on quantitative measures. Rather, qualitative factors such as client satisfaction, usually established by means of surveys, also play an important role. From the practitioner's point of view, this is a decisive advantage over conventional sets of indicators.
When implementing a strategy, a common corporate language is an essential precondition. In this context, the balanced scorecard functions as a communication medium between central divisions and decentralised managers as well as between controllers and product managers. A common attitude and engagement of all employees can only be realised through an effective communication of the strategy and its connection with particular goals.10 This is true in particular for decentralised reinsurers with a network of international offices which strive to impart a common strategy on all employees.
Three methods in particular have proved effective for this task:
1. communication and training programmes;
2. `target forming programs'; and
3. support by adequate compensation schemes.
In the last phase of the balanced scorecard implementation process, the measures for each strategic goal must be defined in order to achieve the goals agreed upon. Practically, this will mean the definition of an action programme. The roll-out will lead to a sustained, qualitative improvement of the reinsurance company's strategic steering in all organisational entities involved. More specific goals and activities will systematically be derived for the individual divisions and strategic business fields as well as for lower-tier (local) entities and external offices.11
Apart from a structured and well-organised implementation12, the success of a balanced scorecard process in an international reinsurance company will decisively depend on the following factors:
Practical experience has shown that communication is a particularly critical determinant of success or failure. In this context, the timely involvement of all potentially affected parties (both proponents and opponents) and the overcoming of fears should be concerns of first priority.
One thing is for sure, "controllers have to change - or they will be changed (and the latter is less agreeable)".14 The controller can take one of two roles in the balanced scorecard process, consultant or accountant.
As a consultant, the controller actively participates in the conceptualisation and the ongoing co-ordination of strategy development, strategy realisation and strategy control. The controller displays an interest in performance and acts as the management's partner. Beyond standard tasks, the controller will have to bring competencies in moderation and negotiation. The modern controller can therefore also be described as an architect, critically questioning `political' or `soft' indicators and inter-relationships and helping break up fixed ideas. Furthermore, the controller's responsibilities include the structuring and moderation of the strategic discourse.15
As an accountant, the controller (in the traditional role) takes responsibility for the acquisition of information and the support in interpreting the relevant data. In the context of international reinsurance, the controller should ideally be a little of both: a competent counsel with strategic expertise who actively participates in the balanced scorecard development and implementation, while at the same time acquiring and compiling the required data.
The concept of the balanced scorecard has proved an effective strategic steering and controlling tool in international reinsurance, particularly when it comes to specifying and implementing corporate and divisional strategies. "Nevertheless it is still not yet accomplished, neither in theory nor in practice."16
The introduction and implementation of a balanced scorecard may require fundamental organisational and therefore also cultural changes. In so far as the strategic, organisational and technological preconditions are not met, however, the chances for the success of an indicator-driven controlling will remain limited.
"Indicators and planning manuals do not replace strategic thinking by management. It would be fatal if the development and maintenance of a scorecard degenerated to a boardroom exercise for the entertainment of top managers and controllers!"17
It will require some more time and pioneering practitioners until a final evaluation of the balanced scorecard can be made.
"This is not the end. It is not even the beginning of the end. But it is perhaps the end of the beginning." 18
1 Vollmuth, HJ (2001): Führungsinstrument Controlling, Planegg 2001.
2 Kaplan, RS, and Norton, DP (1997): Balanced Scorecard - Strategien erfolgreich umsetzen, Stuttgart 1997. Horváth, P, and Gaiser, B (2000): "Implementierungserfahrungen mit der Balanced Scorecard im deutschen Sprachraum - Anstöße zur konezptionellen Weiterentwicklung", in: Betriebswirtschaftliche Forschung und Praxis (BfuP) 1, pp. 17-35.
3 Vollmuth, HJ (2001): Führungsinstrument Controlling, Planegg 2001.
4 Hammer, Michael: "Der Weg zum supereffizienten Unternehmen", Harvard Business manager 2/2002, pp. 40-52.
5 Cf. http://www.balanced-scorecard.de/Software.htm.
6 Kontrolle und Transparenz im Unternehmensbereich.
7 Cf. Mayer, Reinhold, and Ahr, Helmut: Translating Strategy into action - Strategieimplementierung mit der Balanced Scorecard in Versicherungsunternehmen, ZversWiss, 04/2000, pp. 682.
8 Kaplan, RS, and Norton, DP (2001): Die strategiefokussierte Organisation. Führen mit der Balanced Scorecard, Stuttgart 2001.
10 Cf. Weber, Jürgen, and Schäffer, Utz: Balanced Scorecard, Vallendar 1998, p. 21.
11 Cf. Mayer, Reinhold, and Ahr, Helmut: Translating Strategy into action - Strategieimplementierung mit der Balanced Scorecard in Versicherungsunternehmen, ZversWiss, 04/2000, pp. 684.
12 For the implementation suggestions developed by Kaplan and Norton cf. Weber, Jürgen, and Schäffer, Utz: Balanced Scorecard & Controlling, 2nd ed., Wiesbaden 2000, p. 68.
13 Ibid., p. 71.
14 Ibid., p. 146.
15 Cf. Weber, Jürgen, and Schäffer, Utz: Balanced Scorecard, Vallendar 1998, p. 39.
16 Mayer, Reinhold, and Ahr, Helmut: Translating Strategy into action - Strategieimplementierung mit der Balanced Scorecard in Versicherungsunternehmen, ZversWiss, 04/2000, p. 687.
17 Weber, Jürgen, and Schäffer, Utz: Balanced Scorecard, Vallendar 1998, p. 39.
18 Winston Churchill.
By Professor Dr Andreas Daum, Isabella Hess, Cordula Heuer and Jürgen Petzold
Professor Dr Andreas Daum is professor for controlling and insurance at the department of economics and business administration of the University of applied sciences of Hanover, Germany. Isabella Hess is managing consultant with IBM Business Consulting Services in financial services in Hamburg, Germany. Cordula Heuer is Consultant with IBM Unternehmensberatung GmbH in financial services in Hamburg, Germany. Jürgen Petzold is Senior Underwriter and Head of the `Centre of Competence e-business - Facultative Reinsurance' of Hannover Re in Hanover, Germany.