What are the parameters of non-financial performance?


This article first appeared on Market Mogul on April 1.

I am currently working on a response to the European Commission’s consultation on ‘Non-binding guidelines for reporting of non-financial information by companies’.  The regulation is in place and now the Commission seeks guidance for enabling compliance by the estimated 6,000 listed companies across the EU (employing more than 500 people), many of whom have not confronted obligatory ‘stakeholder’ expectations before.  And, on top of which, sundry national governments are also scrambling to make sense of the EU regulation, flavoured by their own particular regulatory bent.

My starting point is the firm conviction – a conviction that has hardened over the past 10 years – that there are a small number of core non-financial drivers most closely aligned with financial performance which tell you much of what you need to know about a wider range of non-financial performance factors where the financial relationship is not so obvious.

For this, I draw on the learning of the Laboratory on Valuing Non-Financial Performance which I co-lead and, in particular, the outputs of a parallel research project   led by three leading European business schools but which had a cast of thousands.

Those core drivers are:

  • Human capital
  • Customer relations
  • Society & supply chain partnerships
  • Environment management
  • Innovation
  • Corporate governance

I believe these drivers help define the parameters of non-financial performance.

The Laboratory identified related metrics but this is still a work in progress.  To me, some are obvious:  employee engagement; customer satisfaction or net promoter score; public opinion or brand perception; R&D investment; and environmental emissions.  Others are also obvious but need better definition or metricising:  supply chain management; product/market development; process improvement; and ethical integrity (and its practical manifestation).

The sub-strata of influencing factors tend to be more industry, function and company specific and, hence, more numerous.  For example, the most seminal analysis of employee engagement identifies around 140 determining influences for that driver alone.  The Laboratory posited 40 or so factors across the six core drivers.   Project Delphi, the investor-led initiative in which I am currently involved, where the Laboratory model was a starting point, has developed a framework of around 90 ‘most material’ metrics attached to 11 value drivers across the 10 standard industries.

The common denominator is materiality; materiality in economic not ‘stakeholder’ terms.   Connecting a wide range of non-financial factors through the prism of a small number of core drivers makes sense in the absence of definitive and generalised evidence of financial impacts for each of those factors.

The more granular factors are easier to metricise but less comparable between companies and sectors.  If comparability is a goal.  But, if the purpose is measuring and, perhaps, predicting the value creating (or destroying) properties of non-financial performance, then this ‘bundling’ approach seems to me to be an obvious one.

However, if it is possible to derive definitive and generalised evidence of financial impacts of more of those factors, that would mean less reliance on what some might see as composite metrics, proxy variables or heuristics. It would enable the plugging-in of more granular metrics to individual and, perhaps, more nuanced (quantitative) business or investment cases.

Deriving (or collating) that definitive and generalised evidence for a whole range of factors is a mission of the Valuing Non-Financial Performance network – a community of practice for corporate, investor, analyst and academic thought leaders – and others are welcome to the enterprise where they have experience or insight to contribute.

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