The family tree of efficiency

Nábrádi, András

Keywords: effectiveness, productivity, efficiency, profitability

In our work our aim was to call the experts’ attention to the fact that there are many important differences in the interpretation of the economics definitions mentioned above. These definitions have to be clarified in order to ensure that experts and future experts use them in the same way.
In our review our basis was “successfulness” as the widest definition. In our opinion a company that is efficient, liquid and competitive can be successful.
Efficiency is defined as the quotient of any output and input combination. In former publications efficiency was often used as a synonym of economic efficiency (thriftiness). We do not want to delete this expression from the vernacular, but think it is more advantageous to use the efficiency term in order to interpret these definitions in the same way by everybody.
Depending on whether or not the indicator contains a monetary expression of the output or input category, we can speak of economic or natural efficiency. In scientific literature we can see that the different disciplines use different nomenclature. This is natural because their development followed an independent evolution. At the same time, different utilisations of the terms can be disturbing, when evaluating an economic case. The output categories in the nomenclature of business management can be: output, value of production, income. The input categories are: land, labour, capital goods, or production costs interpreted in money. Accountancy uses different terms. Output categories are: operating profit, profit on ordinary activities, and profit on ordinary activities before and after taxation. Inputs are costs other than the expenses. The category of expenditures in business management means the use of stocks in accountancy. The term value of production is not used in accountancy, and we could continue the list of differences in the nomenclature, which can cause misconceptions.
To solve this problem, we recommend the following: whatever scientific area the efficiency analysis is being conducted in, from the starting basis we should complete the special nomenclature with the characteristics given below. Let us differentiate four groups of indicators within two basic categories of efficiency (economic and natural). These are:
- Input-Supply Indicators, which are quotients of input-input categories;
- Input-Demand Indicators, which are quotients of input-output categories;
- Productivity Indicators, which are quotients of output-input categories;
- Profit-ratio Indicators, which are quotients of output-output categories.
Within the category of productivity, a definition of productivity can be found that is the quotient of profit and any input or output category. An activity can be considered as profit producing if its production value (its yield from an accountancy perspective) exceeds the production costs (inputs, expenses from an accountancy perspective). Profit is the result of a difference. Profitability, however, is a rate, where profit can be found in the numerator, while any input or category of output type can be found in the denominator; for example, profit related to revenue or profit related to cost. This last one is even used by international literature as Return on Sales (ROE).
The second criterion for reaching “successfulness” is the enterprise’s competitiveness, which means the ability of the enterprise to harmonise with external and internal factors (e.g. market ability, taking ecological factors into consideration, etc.).
The third factor is liquidity. Liquidity is the ability of an enterprise to pay its financial obligations in time.
In our opinion, a business enterprise is successful if it is efficient, competitive and liquid.