Wednesday, February 13, 2008

Business Value and Money: Killing Low Priority Projects

This topic is leading somewhere. It may take a few posts to fully get there.

First, let me say that in my personal opinion (and Peter Drucker's and many others'), business is not mainly about money. Money is a measure, but it is not why we run the race. Business is about delivery satisfaction to your customers. You do that, then you meet the very real constraints of making money (for employees, for shareholders, for suppliers, etc). is a very clear indicator. And some people get very fuzzy when they start to describe "why are we doing this project". So I am, with some hesitancy, going to suggest that we ask 'em: "Ok, we are spending very real money to develop this new product. I need to know how important it is." Perhaps "I" is one of the developers, who gets much more motivated when the project is important.

So, let's take a simple case (so the math is easy for me). These details:
Project length: 1 year
Project Team people costs (all in): $800,000
Other project costs: $200,000
Total project costs: $1,000,000

So, we are investing $1 million. What do we get back?

I will suggest that the first release of any project should always bring a high multiple over the costs. In fact, one way of picking projects is only to do those that bring the highest multiple over their costs.

When I was in MBA school, we learned about the CAPM (Capital Asset Pricing Model). I don't think it has changed much, at least for purposes of this discussion. The basic idea is Net Present Value (or Internal Rate of Return) of cash flows. To make this example simpler, let's say that the lowest multiple for active projects for this company is 5. Thus, we want the NPV of the project to be $5 million.

Side note: If you feel you must get into all the heady stuff around the CAPM, start here: My suggestion is that most business decisions can (and must) be made with much less precision. Bond trading might be an exception.

So, the Product Owner says: "I can't put money on the benefits this new project will give." You say: "Fine. Understand that it is difficult to be precise. But let's do a sniff test to see if we're wasting our time on a low priority item. If you think about all the benefits, do you feel comfortable telling everyone, including our managers, that the implicit benefits of this project, taken together, are worth at least $5 million in NPV?"

This is an order of magnitude swag, but I hope it knocks down a few projects that are being done "for other reasons than business value" I'll say diplomatically.

Does this help a little? Your comments are welcome. You might want to tweak some of my assumptions (cost of project team, return multiple, etc). Easy to do in a spreadsheet.

No comments: