Understanding First-Order Versus Second and Third-Order Metrics

theory practice

Long ago, one of my old bosses and mentors had a favorite saying: “What gets measured, gets managed.”

And he was right, as far as it goes. If you’ve got a metric and a system that reports on it, you pay attention to how you’re performing against that metric, and you make adjustments based on that reporting to get to the number you want to see.

That sounds great, in theory. But theory has its limits. Noted 20th century deep thinker, Yogi Berra, said it best: “In theory, there is no difference between theory and practice. In practice there is.”

Okay great, what gets measured gets managed. But that doesn’t answer the more important question: Are you measuring the right things?

The fact is that not all metrics are equal. A metric is a measurement of one thing. It’s a snapshot that, along with other metrics, makes up a mosaic that gives you a window into overall performance. One metric on its own only goes so far, and not all metrics are easily managed to deliver a change in results.

When setting out your metrics, you need to understand whether they’re first-order versus second or third-order.

Why does it matter? Because first-order metrics are the mission-critical ones, while second and third-order metrics, although illustrative of the overall condition of your business, aren’t do-or-die the way the first ones are.

There are two first-order metrics that everyone is familiar with that should make this clear: revenue and costs.

If your goal is to increase revenue, the input is simple: Sell more.

If your goal is to decrease costs, the input is to spend less.

A second-order metric that’s the outcome of decreasing costs is profit. The reason it’s a second-order metric is because profit is a measurement of what happens when you make changes to your costs. Costs go up, profit goes down, and vice versa.

Closing ratio is a metric that, while dear to my heart, is nonetheless second-order . Are you closing more deals? Great! Congratulations. But the ratio of clients you’ve spoken to vs. deals you’ve signed is just a reflection of that first-order metric of revenue. You’re selling more? Great, your revenue is going up.

Third-order metrics are where they get fuzzy. They’re a basket of made-up metrics of varying levels of validity, many of which can’t be directly influenced. And if they can be influenced, their impact on your first-order metrics are debatable.

Here’s a favorite of mine from my retail days: store traffic. We had little machines at the doors that counted everyone who entered and left every day, and we tracked our store traffic.

Store traffic is certainly a metric, but how can we influence it? If our marketing department does a good job with that week’s ads, maybe? Can we control the weather? No. Can we control economic sentiment or interest rates?

Definitely not.

There can be a temptation to over-manage and to drill down on secondary or tertiary metrics in a misguided attempt to pump up the tires. There’s actually a technical term for that: Worrying About All the Wrong Things.

The takeaway to remember when analyzing your trends is that while the primary metric is the direct measurable result, and a secondary metric only provides additional information that may help reach your objectives but is not directly tied to the result. While what gets measured gets managed, focus on what matters.