Introduction: Measuring Success
As we work to build a fashion business, every once in a while, a question can arise in the form of “How Can I Measure My Success?”.
This is in reality a profound question, which does not only relate to business but more broadly to our expectations and ambitions.
If we want to try to provide a philosophical answer, then what we define as success, is entirely personal, as this concept relates to our own individual experience of life.
If we are to pursue a more objective approach, however, we would see that there are at least 2 entire areas of business that have been developed in order to quantify success in much more tangible terms.
Traditional Measures of Success: Ratios
You guessed it! I’m referring to accounting and finance.
Accounting is a discipline focused on recording and analyzing the business transactions that take place every day in a business as it provides its services or sells its goods in the market.
At the end of each accounting cycle, by looking at the three financial statements (the income statement, the balance sheet, and the cash flow statement) analysts can understand whether or not the business is successfully fulfilling its mission, mostly by looking at whether it is able to turn a profit.
Simple enough? Well, here we can find the first issue with an accounting perspective on success. It can easily measure profits, but what about everything else? Simply put it can’t.
Yes, traditionally, a business is a vehicle designed to pursue profits but in our contemporary business landscape firms can’t only focus on their business goals, they need to account for other areas of impact, in the context of social and environmental causes, for instance. A business cannot be considered successful nowadays unless it takes into consideration the broader challenges that define the decade, as well as the safekeeping of the environment.
What about finance then? Can finance help?
Finance builds upon the body of knowledge of accounting, but instead of being focused on the past, it tries to use the information collected by accountants to make forecasts and predictions about the future.
But here, another problem arises. Each company is unique, and again, to understand how each firm is fulfilling its mission, we should analyze each by interpreting data in the context of its geographical region, industry, and size.
This is very difficult to do, extremely time-consuming, and not very useful anyway.
Financial analysis is conducted to help investors understand which company is the most successful and therefore the most likely to provide a high return, regardless of any of these individual characteristics.
In order to make this analysis more straightforward financial analysts decided to move past an approach that considered each organization in “absolute” terms and to do so, they created a definition of success that revolves around ratios.
Ratios are estimates of company performance that focus on profitability, leverage (the use of debt vs. equity), liquidity, and efficiency.
By comparing and contrasting specific quotients between various accounting figures, companies with the most diverse characteristics could be compared so that finally we could provide an objective, quantitative answer to the question: which one is the most successful?
The simple answer to the question would therefore be the one with the highest profitability ratios.
Intrigued? Read on to continue our journey in measuring success.
Why Is Rona and Why It Matters in a Manufacturing Business
Even if, technically, an answer to the quest of measuring success seems to be found through the use of ratios, there are two issues that remain unsolved.
First, the focus of this definition of success is entirely based on monetary value. This is why the concept of Social Return on Investment has been developed. We will address this approach in the next section of our post.
Second, as success is measured through the ratio, it does not matter how I get my ratios up, as long as they look good. What this means is that the goal of my company – according to this financial perspective – could simply be to present high profitability ratios, regardless of how I manage and operate my business.
Moreover, one of the most relevant ratios is strongly conflicting with the management strategies of a manufacturing business, such as the one that a fashion designer would set up.
The ratio I’m referring to is RONA or Return on Net Assets. This ratio can be expressed as Net Profit minus Net Assets. To read up about the mathematical derivation and application of this ratio, please use this resource from Investopedia.
What this ratio tells investors is how profitable is your organization, by looking at the amount of profits your business is able to generate in relation to the assets it holds.
We can immediately see that as a result of using these ratios, organizations that have lower amounts of assets (for instance tech startups) have an unfair advantage when it comes to attracting investment, as they get to create a high amount of profits through mostly digital, or intangible assets.
On the other hand, a manufacturing fashion business, which relies – more traditionally – on plants, lands, and machinery, will have a much harder time finding a way to get their RONA ratio up and make the business attractive to investors.
This is an essential insight into business management because it provides a simple, but extremely clear indication of the reason why manufacturing businesses in order to get their RONA up have essentially two options.
- Option 1. They can try to get a higher ratio by increasing net profits. There is nothing wrong with this, except it is really difficult to do.
- Option 2. To get a higher RONA value they could – more simply – reduce assets. In order to reduce assets, businesses can resort to outsourcing the more asset-heavy activities by looking for efficiencies connected to international markets.
In this latter case, the measure of success we have chosen will actually conflict with the goals that a modern business should pursue. In order to be more attractive to investors a business has made decisions that can sacrifice the environment or human labor.
This right here is the real problem, one that needs to be addressed by fundamentally altering our definition of success by creating a different way to measure it.
Don’t worry, there is more to discuss in order to solve this problem. A model that can help us find a new approach on measuring success is the concept of Social Return on Investment. This is what we are going to discuss next.
SROI or Social Return on Investment
As we’ve seen, if a business manager is too focused on traditional measures of success, environmental and social causes can eventually be jeopardized and compromised to seek profitability and efficiency.
Even if a profit-driven approach was more widespread until the early 2000s, more and more businesses are now realizing that private organizations can be an essential force of change and can be accountable for much more than profit generation.
Social return on investment is an approach to measuring investment opportunities that does not derive from an analysis of financial statements, but from an attempt to analyze investment in terms of its social and environmental impact.
What this means in simpler terms, is that by analyzing Social Return On Investment, organizations can measure their success in terms of how their business is able to impact a much broader set of stakeholders, by creating shared value.
Shared value, in turn, is the somewhat ‘revolutionary’ concept that suggest that social and environmental issues can be addressed and solved by private companies, in a profitable manner.
SROI, as a result, allows us to change the paradigms of ways we do business by taking a completely different angle on the matter.
Do we want to be successful? Then we should start by defining what success means. If we pick the right measurements and metrics, then we’re likely to set out on the right path to get there. If our metrics respond to the change we want to bring, and to the impact we want to make, the entire management strategy of our organisations will change radically.
It’s now time to draw a few conclusive remarks.
There you have it! There were quite a few things to go through, but in this post, we wanted to chart a clear and simple map when it comes to setting measures of success.
As we’ve discussed, measuring success only on the grounds of profitability can be a big mistake, as organizations are now being judged much more holistically by consumers, who expect businesses to take into account social and environmental needs as a core part of their business strategy.
If you’d like to progress in this analysis, it’s important to notice that not all organizations approach the decision to seek sustainable impact quite in the same way.
In a post, entitled: Five Business Models To Pursue Social and Environmental Causes, we provide an in-depth analysis of the 5 dominant strategies that businesses can choose from as they set out to achieve social and environmental impact in the way they do business.
If you are interested in sustainability, don’t hesitate to explore our blog, where you can find a lot of free resources to navigate the fascinating world of fashion sustainability. Enjoy!