Measuring Management Performance
This weekend, I read an excellent article, “The Expectations Treadmill”, in the current issue of the McKinsey Quarterly. This publication is obviously not geared towards small business owners, which is why I appreciate its insights – I like to learn about best practices from leading corporations that I can apply to my own business. And occasionally, it lifts my spirits to be reminded that whatever challenges we face in the small business community – such as the inability to diversify risk and the lack of access to capital – the alternative of large corporate employment remains unattractive for a number of reasons. McKinsey’s article sheds light on one of them: the difficulties of measuring management performance. I appreciated the counter-intuitive insight that the share price measure complicates fair compensation for managers of public companies. We tend to think it is harder to value privately-held concerns, that the public companies have an indisputable report card in the form of share price at the close of each business day. Many believe that total return to shareholders, meaning share price appreciation plus dividends, is the cleanest measure of performance. McKinsey’s analysis highlights one of the deficiencies of this measure: share price embeds market expectations about future performance. As a consequence, measuring performance by total shareholder return distorts incentives, leads to bad decisions and alienates capable managers. One aspect of private company ownership/entrepreneurship that I truly appreciate is that I am not hostage to the expectations of the stock market or a focus on short-term returns. At a time when we are all gloomy about access to capital and other hardships we face as small business owners, it is good to be reminded of our advantages.