Yunnans Lucky Airs Balanced Scorecard - Case Study Example

Yunnan's Lucky Air's Balanced Scorecard Introduction The present business environment is becoming increasingly globalised thus reducing the boundaries within which organisations can do business. The eradication of barriers to trade is increasing competition in virtually every market. In addition to globalisation, customer needs and preferences are continually changing, creating the need for companies to adopt strategies that are flexible and dynamic enough to respond to these changes. Furthermore technology is also changing the manner in which businesses operate. For example, technological developments have led to the development of e-commerce which enables companies to sell products through online channels using internet communication. Organisations must also respond to the needs of multiple stakeholders such as environmental protection agencies that require companies to reduce the amount of CO2 emissions. While shareholder value maximisation remains the main objective of every company, companies must first satisfy the needs of other stakeholders to be able to properly maximise shareholder value. To determine whether it is performing well, that is meeting the needs of its different stakeholders, a company must use a set of performance measures to gauge its performance against pre-determined targets and against the performance of its competitors. Until recently, the main focus of many companies had been on the use of financial performance measures. These measures focused only on the financial performance of the company. While financial performance measures remain an integral part of performance measurement, they are not the only measures of organisational success. Recent developments suggest that non-financial performance measures also have an important role to play in determining organisational success or failure. One of the most commonly used performance measurement tools that incorporate both financial and non-financial performance measures is the balanced scorecard. There are a number of reasons why an organisation should adopt a balanced scorecard. These are detailed in the letter to the Chief Executive Officer of Lucky Air Below. From: The Chief Financial Offer To: The Chief Executive Officer of Lucky Air Re: Adoption of the Balanced Scorecard by Yunnan Lucky Air Dear Sir, I am writing to express concerns to the current performance measures employed by Lucky Air. I believe that these measures are not in line with today's globalised, technologically driven, and customer focused business environment. Lucky Air continues to measure performance from the shareholder performance whereas there a are a host of interested groups of stakeholders that require information on how their needs are being met by Lucky Air. Given these issues, I will like Lucky Air to implement the balanced scorecard. The balanced scorecard is a performance report that is based on a broad set of financial and non-financial performance measures. The balanced scorecard is made up of four main perspectives (Kaplan and Northon, 1996, 2000; Malina and Selto, 2001; Blocher et al., 2005). These include Financial, Customer, internal business processes, and the learning and growth perspectives (Malina and Selto, 2001). I believe that adopting the balanced scorecard will enable Lucky Air to improve the manner in which it performs its services to multiple stakeholders as this will enable Lucky Air to set realisable targets and work towards achieving those targets. For example, the internal business perspectives will enable Lucky Air to improve on quality of service, productivity and safety (Libby et al., 2002). From the foregoing, I believe that adopting the Balanced scorecard will tremendously improve the way Lucky Air is measuring performance and thus determine how Lucky Air is performing compared to the industry as a whole. Best Regards, Chief Financial Officer. 2. Gap Analysis of Lucky Air Within four years of its incorporation, Yunnan Lucky Air's revenues had grown to a US$104.3 million which corroborates that it has satisfied its customers by serving them more efficiently. This is substantiated by the fact that it had attracted more than 1.2 million Yunnan-province travellers in 2007 alone, which is more than 200% increase as compared to 2006 figures. Lucky Air follows the foot steps of Southwest Airlines, which is a low cost air-line but operating with high efficiency strategy. However, knowing the high profit in the sector, many competitors want to enter this low cost airline sector and hence Lucky Air has to search for additional competitive advantage to retain its market share and to enhance its profitability. The Civil Aviation Administration had forecasted an average annual growth rate of fifteen percent for air traffic up to the year 2020. In 2007, air passengers in China increased to 387 million, which represented about 17% annual increase. Out of this about 349 million air passengers travelled on domestic flights, which represented a 17% annual increase and the balance 38 million air passengers travelled on international flights, which represented about 18% annual increase. Hence, it has become essential on the part of Lucky Air to decide what was apt to their company , market and customers and if any wrong decision is made like missed the mark with e-commerce or the wrong expansion strategy , then Lucky Air may not be lucky enough in the future. From the exhibit 1, it is clearly understood that large share of Lucky Air passengers travelled for leisure and vacations and paid the airfare themselves. Hence, Lucky Air should target these categories of air travellers to improve its profitability and market share. Based on trip length, route popularity and identical elements, analysts have projected that 780 routes were proper for low-cost flights and by 2013; about one-fourth of its passengers would be flown by low-cost airlines with an estimated growth rate of twenty percent per annum. Thus, Lucky Air should expand its operation strategy other than Yunnan province by bundling up with travel services and hotels, it can offer low air fare by around 35% lesser than other low cost airlines as practiced by spring's growth strategy. Major Strengths of Lucky Air It is acting like a monopolist in Yunnan province and this is a major factor for its profit making. It has added flights to other destinations also other than Yunnan province and these extra-provincial routes accounted for 87 of its 150 weekly flights. Like Southwest airlines of USA, Lucky Air is operating only Boeing 737-700 airplanes and this has resulted in to help it to minimise its cost on training, maintenance and learning. Lucky Air offers only one seat class and simple one way pricing. Majority of its routes was short-haul and point-to-point to augment on-time departure and arrival. It operates in secondary cities, mainly to shun. Major Problems faced by Lucky Air Due to government -imposed constraints, Lucky Air's cost structure was only just five percent lower than the industry average. Lucky Air is not allowed to hedge oil price risk through financial instruments due to governmental restrictions. Due to safety concerns, route optimisation which can minimise the fuel expense was also prohibited in China. Landing fees charged by the Chinese administration is too high. Restriction on aircraft leasing hinders the expansion programs by low-cost airlines like Lucky Air. Lucky Air also subject to fees imposed by travel agents and strict pricing regulations and China's ticket distribution system. This has restricted its capacity to enhance revenue and enhance Southwest-level margins. 3. The Balanced Scorecard of Lucky Air Table 1: Balanced Scorecard for Lucky Air Measure Objective Target Financial: Revenue Growth To measure how the company generates sales 10% profit margin To measure how much profit the company generates per unit of revenue 40% return on Assets To measure the amount of income generated per unit of asset invested 20% Return on Equity To measure the amount of profit generated per unit of equity investment 15% Customer related: Captured Customers Measures the number of customers retained during the year 20% Repeat Sales To determine the percentage of customers who fly with Lucky Air more than one time during the year 28% Referrals To determine the proportion of customers that can recommend Lucky Air to others 51% Customer Satisfaction Rating Measure the proportion of customers who are satisfied with the services offered by Lucky Air 84% Internal Business Processes: Number of Flights per year To determine the total number of flights per year. 95% Number of cancelled flights To determine how many flights the company cancels in a given year 2% Number of accidents To determine the amount of accidents that occur during the year 0% Learning and Growth: Number of Flight Engineers Determine the number of engineers Lucky Air has 50% Highly trained Pilots Determine the number of highly qualified pilots 90% Hours of Employee Training Measure how many hours of training the company has for its employees including pilots and flight attendants 80% Table one above shows the Balanced Scorecard for Lucky Air. It can be observed that the Balanced Scorecard is subdivided into the four perspectives of the balanced scorecard as proposed by Kaplan and Norton (1996). 4. Arguments for and Against the Balanced Scorecard A number of studies have examined the implementation of the balanced scorecard in organisations. Malina and Selto (2001) for example suggest that the balanced scorecard is an effective tool for controlling corporate strategy. Despite this effectiveness Anand et al. (2005) notes some shortcomings in its application. Anand et al. (2005) analysed the performance management systems with a focus on the balanced scorecard in India. Despite the advantages suggested for implementing the balanced scorecard, Anand et al (2005) note that there are difficulties with its implementation which come as a result of the difficulty in assigning weights to the different perspectives as well as the difficulty in establishing cause and effect relationships. However, the study suggests that Indian firms recognise the cost reduction opportunities that accrue with the implementation of the balanced scorecard. (Anand et al., 2005). In like manner Ittner et al. (2009) casts doubts on the weighting system used in the balanced scorecard. In a study investigating a number of performance measures in a subjective balanced scorecard bonus plan implemented by a large financial institution, Ittner et al. (2009) observes that "psychologically-based explanations" are either equally or more prominent than "economic-based explanations" in determining the financial institution's measurement policies. Despite the arguments raised against the use of the Balanced Scorecard, its benefits outweigh the cost. Consequently, this paper recommends the implementation of the Balanced Scorecard by Lucky Air. This will enable the Airline to determine how it is performing both at the financial and non-financial point of view. It should be noted that while the company is out to maximise shareholder value, it must satisfy other stakeholders first. For example, if customers are not satisfied, they will not fly with Lucky Air and as such revenue will not be generated. Revenue growth will drop; return on assets will decline, net profit margin will fall as well as return on assets. Likewise, if employees are not satisfied, they will not serve customers properly. This will lead to a decline in revenues, which will subsequently translate into a drop in profitability ratios. Thus, to fully measure a company's performance, it is important to incorporate financial and non-financial performance measures in a balanced scorecard. The financial measures depend on the non-financial measures. Thus, if the company is not doing well from the non-financial perspective, it is unlikely that it will do well from the financial perspective. The Balanced Scorecard is thus capable of pointing out exactly why the company is not making enough profit, why customers are not satisfied and why employees are not productive. Bibliography Anand, Manoj , Sahay, B. S. and Saha, Subhashish, (2005). Balanced Scorecard in Indian Companies. Vikalpa, Vol. 30, No. 2, pp. 11-25, Available at SSRN: http://ssrn.com/abstract=629249 Atkinson, A, Kaplan R. S, Matsumura, E M, Young, M, S (2007) 5th Edition, Prentice Hall Publishers, Kaplan, R; Norton, D. (2000). Using the balance scorecard as a strategic management system Blocher E., Chen K., Cokins G., Lin T. (2005). Cost Management A strategic Emphasis. 3rd Edition McGraw Hill. Ittner, C. D., Larcker, D. F. Meyer, M W. (2009). Subjectivity and the Weighting of Performance Measures: Evidence from a Balanced Scorecard. Available at SSRN: http://ssrn.com/abstract=395241 or DOI: 10.2139/ssrn.395241 Kaplan, R; Norton, D (1996) Why does business need a balanced scorecard Kaplan, R; Norton, D. (2000). Using the balance scorecard as a strategic management system Libby, Theresa, Salterio, Steven E. and Webb, Alan (2002). "The Balanced Scorecard: The Effects of Assurance and Process Accountability on Managerial Judgment" Available at SSRN: http://ssrn.com/abstract=317486 or DOI:'10.2139/ssrn.317486 Malina, Mary A. and Selto, Frank H. (2001). "Communicating and Controlling Strategy: An Empirical Study of the Effectiveness of the Balanced Scorecard" Available at SSRN: http://ssrn.com/abstract=278939 or DOI:'10.2139/ssrn.278939 Rappaport A. (1986). Linking Competitive Strategy and Shareholder Value Analysis. The Journal of Business Strategy. Pp. 58-67. Read More