  
|
|
|
|---|
|
Return on Technology Investment - A Matter of Priorities By: Michael Atherton The Challenge - Ignoring the allure of Moore's Law Technology is often sold based on its ability to achieve dramatic improvements in speed and productivity. After all, doesn't Moore's law state that computing speed and capacity itself doubles every 12 to 18 months? A system can only achieve throughput equal to that of its bottleneck. Applying faster technology to a system that has slow, ill-conceived, or non-adaptive processes will not achieve desired returns. Technology is rarely a bottleneck, and more and faster technology, by itself, is rarely a solution. Recently I was reminising with a
friend regarding the development and implications of electronic communication.
My friend recounted a story from when his employer had just implemented email
company wide. My friend worked in the executive offices and recalled that every
morning, secretaries would open each executive's email account, print all
incoming emails and deliver the hardcopies to their bosses. The executives would
spend part of the day marking the hardcopies and then give them back to their
secretaries who would type and send the responses. The Opportunity - improve processes surrounding the technology investment The successful implementation of any technology clearly assesses and identifies the processes that it augments, replaces, and with which it interacts. When assessing the return on a technology investment, managers frequently miss this primary source of return. Consider Workflow Automation technology. The overlay of a Workflow Automation tool on top of existing processes is likely to fall significantly short of the dramatic gains that are possible when this technology is implemented in conjunction with a process improvement effort. Take for example, the shoe company that implemented a Warehouse Management System to increase inventory accuracy and throughput. The project was, from the beginning, focused on software features and functions. Little attention was given to current and future operating practices on the warehouse floor, how they could improve and must change. In the end, the implementation resulted in a 1.2 million square foot facility that was very adept at quickly losing product. If process improvements are identified early, as part of the ROI analysis effort, they are much more likely to be carried through to implementation. The Trap - Focusing only on the numbers What is the first thing that pops into your mind when someone mentions ROI analysis? For many managers, faced with the task of preparing an Return On Investment analysis, the focus is on the numerical aspects of the exercise. They dust off old textbooks and review concepts like Internal Rate of Return, Payback Period, Net Present Value and Cash Flow analysis. These accounting principles are certainly important to a comprehensive ROI analysis, but there are other steps of greater importance that are often neglected. In order of priority, these steps are:
When an investment involves the acquisition of information technology, especially application systems, there a temptation to assess the technology based primarily on its technical merits alone. The email system implemented in my friend's company had the capability of enabling near real-time delivery of written communication, assuming that the culture, processes, and training implemented with it supported this objective. Clearly they did not and the realized gain was significantly less than it might have been. The First Step - Strategic fit Earlier we identified four steps for developing a technology ROI analysis. Let's explore each of these further. Strategic issues from the top down must be considered in defining the motivation for an investment. Start by defining the objectives that are to be achieved by the project at the corporate, divisional, and functional levels. It is amazing how often projects are undertaken for truly arbitrary reasons - like implementing more technology. Senior management is constantly bombarded with proposals that have a significant numerical ROI. Good management teams only consider proposals that fit the strategy they have developed for achieving their vision for the organization.
It is important to keep in mind that a numerical ROI model does not answer the question why. If you do not know why you are initiating an effort, numerical ROI analysis is of no value. David Cahn, Chief Executive of Y2G Associates, points out the importance of determining strategic fit. "All of our service offerings to software companies are geared around driving operational efficiencies, accelerating growth, and maximizing utilization of capital. Technology decisions should be considered in the same way. 'Best-of-breed' technology does not necessarily mean 'Best ROI' or lowest Total Cost of Ownership (TCO)." The Second Step - Identifying process deficiencies The implementation of most technologies involves a change in the way work is done and workers interact. Indeed, the underlying technology is frequently ancillary to the real source of potential gains. After ensuring that an initiative is a strategic fit, identify the functional areas that will be affected and assess the potential for gains from improving the way work is done. Successful technology projects often start with the premise: "we could be doing this better with or without implementing the underlying technology." Frequently, technology is the "glue" that links together processes that have been significantly streamlined. Investments are not made in a vacuum. Managers often focus only on the relationship of a project's functional benefits as they relate to users, customers and costs. They concentrate on what they are trying to achieve without giving enough consideration to how the objectives will be achieved and how they relate to the parts of the organization that may be required to support it. By examining the status and direction of related functions, a manager can focus on investment alternatives that are compatible with the expertise and direction of support and related functions. The Third Step - Assessing the technology A technology must fit the organization, strategically, functionally, and in relation to its current and planned infrastructure. Today we are bombarded with claims of open systems, open architectures, and protocols that promise to link them all together. Assess a particular technology based on how it fits your long-term infrastructure plan rather than how it adopts a vendor's plan for the future. In the end, you must live with what you implement, not the vendor. The Last Step - Crunching the numbers and those pesky assumptions Over the years, numerous managers have asked me about how to construct an ROI model. I always emphasize the importance of initially ignoring the technology and focusing on strategic fit, functional objectives, and the opportunity or necessity for making process improvements. Invariably though, a numerical model must be created and the most difficult part of this step is identifying assumptions regarding cost savings and revenue generation. There is no hard and fast technique for defining these assumptions. However, a comprehensive model that stresses strategic, functional and technical fit, and seeks to identify opportunities for process improvements, is more likely to result in top management support because it is based on their direction for the organization, not merely the merits of the technology! A typical model identifies how an initiative will improve cash flow over a specified time horizon and applies one or more of the following techniques to make a comparison. Net Present Value (NPV) The net present value returns a
nominal amount. It is the amount in today's dollars (present value) by which the
projected income of an investment exceeds its cost. The calculation is based on
the company's cost of capital used for assessing proposal alternatives. Given two investment alternatives and assuming that both fit the strategic objectives of the organization, the investment with the higher net present value should be selected. Most spreadsheets provide a Net Present Value (NPV) function to make this calculation. Internal Rate of Return (IRR) The internal rate of return is the interest rate that equates the present value of an income stream with the cost of the investment. There is no specific formula that can be used to calculate the IRR. It must be found by interpolation. However, most spreadsheets provide an IRR function and will do it for you. The advantage to IRR analysis is that it enables the comparison of rates of return on alternative investment options. Given two investment alternatives and assuming that both fit the strategic objectives of the organization, the investment with the higher internal rate of return should be selected. Conceptually it is the easiest method to understand. Payback Period The payback period is the amount of time it takes for the cumulative cash flows to equal the initial investment. An investment will have paid for itself in the year, or month, where the cumulative cash flow is positive. The Payoff The next time you are faced with the task of incorporating an ROI into a proposal for the acquisition of technology or you are the one assessing competing alternatives, keep the following priorities in mind:
Moore's law indicates that a technology is usually obsolete by the time it is implemented. This assumes that the technology is assessed on it own merits alone. Enduring value, when implementing any technology, is derived from how it supports the long-term mission of the organization. __________________ |
