By Andy Burrows
[First published July 2018; updated July 2021]
In this article I want to introduce you to a very simple tool called the “value driver tree”.
Getting business strategy right is not easy.
The definition of strategy is simple enough: “a plan of action to achieve an aspiration or overcome a problem”. And the process of arriving at the plan sounds so easy: define the objective (vision, aspiration, problem), assess the current state and therefore the gaps, and decide how to get from where you are to where you want to go.
One of the things that makes it difficult is knowing where to start in assessing the current state. There are so many factors you could take into account. It’s sometimes difficult to see the wood for the trees.
And performance measurement has similar issues. I’ve written previously about the need to make sure you’re looking at the right performance measures – KPIs – rather than just any old data (just because you can get the data doesn’t mean you should report it!).
What we need in both cases is to be focused
And what we want to be focused on are the “performance drivers” or “value drivers”. Those are the most interesting and important factors that impact the performance of the business.
And I’m writing this for Finance professionals because Finance has a responsibility for performance management in the business. It’s essential that Finance professionals know what drives the performance of the business, and can focus management attention on it, both in performance reporting and in strategy development and review.
A value driver tree looks like the picture below:
A “value driver tree” is basically a flow diagram which plots all the things that lead to business value creation and how they relate to each other.
A “value driver tree” is a chain of consequences. This leads to that, which leads to something else, which leads to business performance and value. Each of the steps is a value driver because it leads eventually to increased business value.
You will notice in the caption on the picture that I normally call it a “performance driver tree”, rather than a value driver tree. That’s because my usual terminology is in terms of performance.
I tend to point out that “performance” is a word that does not have a definition that will exactly fit every organisation. Performance is defined by the vision and objectives of the owners of the business or organisation. Whereas “value” is a more specific term referring to monetary assets.
If your business owners are private shareholders, pension schemes and investment portfolios, or private equity investors, what they want most is a financial return on their investment in keeping with the risk profile of the business. They want value.
But if your business is owned privately, or by government or by charity, they may define performance more broadly.
That’s why I generalise and call it a “performance driver tree.”
Also, I’ve noticed that there are other ways that people use the term “value drivers”. So, I like to make clear that I’m thinking about value in terms of business performance.
But for this article, so long as you understand that this is what I’m talking about, I’ll use the more familiar term – value drivers.
It starts on the left-hand-side. Here we put whatever we’ve decided is the definition of ultimate performance for our business – the business vision. We could choose Return on Investment, or Total Shareholder Return, or Profit. Whichever way the vision of the business is stated, that’s how we define good performance – because that represents the aspirations and hopes of the business owners.
I freely admit that the core of this analysis almost always comes back to drivers of financial gain and profit. But it helps to set it up generically to start with, so that you can learn more about what desires and dreams – and whose desires and dreams - are driving your business.
For instance, there may be a private business owner who says, “I don’t care how much profit I make. I’d spend every last penny I have just to have the happiest customers.”
He’d want customer satisfaction to be in the left-hand box. That’s his definition of performance.
But then the CFO asks, “but after you’ve spent the last penny and gone out of business, will your customers be happy?” No! They’ll be sad that we’ve gone, because they liked the service we gave! We give better customer service in the long run by making a profit and staying in business.
You could do one of two things to cope with this, in terms of this performance driver analysis:
But essentially, my point is that the thought process will have taught you something. Using the methodology will have clarified the full spectrum of what you need to aim at as a business.
(And actually, that’s a principle worth bearing in mind – in much of this analysis there isn’t a clear right or wrong answer. It’s the thought process that bears fruit in directing you to the right questions and the highest priorities. So, try not to get too hung up on getting it perfectly right. And try different ways of looking at things and see how the driver tree turns out different.)
The next steps involve defining the value drivers.
So, to build a performance or value driver tree we plot the links through what drives performance.
A performance driver is something that the business can influence and that will have a material effect on the performance of the business.
The performance driver tree maps how each of these drivers contributes to performance.
And we can then pick out the critical performance drivers – the ones that have the most impact – and focus on them.
So, each box to the right of the definition of ultimate value represents something that the business can influence that will have a material effect on the next link in the chain. And the links/arrows between the boxes means one things “leads to” or “affects” the other.
So, the second level is almost like just a high-level profit and loss account – all the things that go together to make a profit. And then each subsequent level breaks it down further.
… Revenue is driven by revenue per customer and the number of customers.
… The number of customers is driven by the number of new customers acquired and the number of existing customers retained.
…. Customer acquisition is driven by selling effectiveness, which is driven by conversion rates (for your website and for your sales people) …
… And so on…
You can see that this would be best as a brown-paper-on-a-wall workshop exercise, because the drivers can get quite detailed and interlinked.
And at some stage you have to devolve the lower level detail into the various business functions. And that’s fine because each function should have its own strategy and performance measures (and yes, you can use this at functional level for Finance too).
The final step in developing the tree is to identify which of the drivers are critical performance drivers, i.e. which are the ones that have the biggest impact and are worthy of a lot of attention.
Now, I talked in more detail about coming up with the KPIs for the business in another article – Developing KPIs that More Than Count.
So, very briefly, the link is to go from critical performance drivers to critical success factors, recognising the concept of leading and lagging indicators, which I talk about in that article.
Once we’ve identified the critical performance drivers - the value drivers - the things that have the most impact on business performance, and that are controllable by the business - we turn those into Critical Success Factors (which you may see referred to as CSFs).
Critical Success Factors are the objectives relating to the critical value drivers. For example, a value driver may be the conversion rate of website visits to product clicks or actual sales. The Critical Success Factor would be the objective to maximize the conversion rate.
What you should then be able to do from your value driver tree is to plot a logical flow into your business definition of performance - the business vision.
You should be able to say for each branch, that “if we are successful in each of these critical success factors, we will achieve the higher level success factor”… and so on up the tree into the business goals and business vision.
For each objective (CSF) then you need to find a measure, because objectives should be SMART - remember that acronym - Specific, Measurable, Achievable, Relevant and Timebound. And I go into how to do that in that other article I mentioned.
Continuing the example above (website conversions), it’s fairly simple - good performance is a higher number of sales per website visit. The simplest way to measure that is with a ratio percentage sales volume over website views. The actions and behaviors to influence that will probably already be obvious from the performance driver tree - naturally we would try to optimise the website for conversions, by the website design, the product descriptions, brand image, and the ease of navigation and so on.
You should then be able to overlay these measures over the CSFs to check the way that they flow. This isn’t strictly necessary for developing the measures, but it does help when you come to develop reporting.
In that view, you should be able to see that each measure relates to something higher and lower in the logical flow. This means that the measure is a lagging measure at its own level, as well as a leading indicator for the performance at the next levels.
When it comes to strategy development, our factbase should be focused on what is important for the performance of the business. And through the process outlined above, we’ve identified critical success factors and measures for those. And so, not surprisingly, those CSFs are what gives us the focus for our factbase.
But just having the critical success factors mapped out isn’t the end of the story for the strategic factbase. Having identified where to focus, we then need, for each of the CSFs, to understand the context and everything that may affect them. So, whilst we narrowed down our focus onto the CSFs, we then need to talk about market economics, competitive positioning, risks, opportunities, SWOT analysis, and all that good stuff.
If you found this helpful, why not download my free mini-ebook: Discovering and Using Value Drivers – A short guide for Finance managers
The performance driver tree is just one example of a methodology that works within the business performance management framework that I teach. It’s called the BPM Wheel.
To learn more about the BPM Wheel, and the approach that we in the Finance function should take to using it in helping the business, register for my free short guide, How Finance Can Drive Business Performance.
And keep following me for more tips and tools to help you in your work and career in Finance.
Business Performance Management for Finance Professionals
Developing KPIs that More Than Count
Andy Burrows is a popular writer and speaker on a wide range of topics in Business Finance and Accounting. He provides online training and coaching.
He was named as one of the top voices on LinkedIn in 2019 in Finance, Accounting and FP&A.
Qualified as a chartered accountant, Andy has worked in many senior Finance roles over the last 20 years, including Finance Director at one stage, across many different sectors in a variety of companies.
Join our mailing list to receive the latest news and updates on new resources to help you make your Finance role add value in the business you work for
[Your information will not be shared with external parties for anything other than the provision of Supercharged Finance products and services.]
For regular emails containing tips and advice on working in Finance in business, as well as notification of new material from Supercharged Finance, just fill in your details and click the button below!