July 30, 2016
Nobody ever lost money taking a profit. – Bernard Baruch
ROI. ROCE. ROIT. ROTC. While a plethora of financial calculations exist that allow companies to measure the effectiveness of spend, a key mantra holds true across all: recognizing and ensuring that any investment made should result in increased profitability, both overall and relative to other opportunities that exist.
According to Constellation Research, more than half of the companies in the Fortune 500 (as of 2000), have gone bankrupt, been acquired or ceased to exist. As markets continue to change and competition continues to increase, the environment for companies to accelerate growth and remain profitable has become increasingly difficult. This is particularly prevalent in the FinTech industry.
The FinTech industry is currently in an arms race where companies are required to develop not only the best products and services but faster and more reliably than their competitors. Failure to win or even keep up in this arms race comes with drastic, negative consequences. That kind of pressure can lead to corporate distraction, as companies chase ‘the next big thing’ or ‘the new shiny object.’ Often times, this chase takes precedence over sound discipline and maximization of ROI and results in undertaken projects that haven’t been quantified, well vetted or compared to other available opportunities that may have more certain, higher returns. Imagine the disappointment of launching a project based on competitive pressure and intuition, without the necessary analysis, only to experience time delays, cost overruns and lackluster returns. Internal disappointment most likely will be eclipsed sooner or later by an even more significant economic disappointment.
Navigating these waters requires a consistent discipline to all projects, one that maximizes profit from investment dollar one, both in the short and long-term.
No surprise – it starts from the top. To maximize sustainable profit growth, each leader at the C-level within a company needs to identify and agree upon those investment activities that drive value, increase competitiveness and – last but not least – will generate incremental profitability. Data is key here. While many companies focus on the opportunity (top-line results), efficiency (bottom-line results) also needs to be modeled into the equation. Outside of whether an investment will generate incremental sales to offset the investment, incorporating gains from automation, reduced headcount allocation and removal of other non-value added costs will further help stack rank the available opportunities. This comprehensive approach to ROI decisioning ensures that a well-vetted approach to ROI has been undertaken and ensures greater success of capturing ROI through the evolution of the project. Key specific items to answer when undertaking a review of opportunities and their respective ROIs:
The questions above can be complicated and, at times, difficult to answer. It takes data, analyzing people hours spent on previous, similar projects or building a simple capacity model that takes into account development output today. For example, if your engineering team averages 5,000 lines of code per week and you have a development effort that requires 25,000 lines of new code, you’ve tied up one engineer for a week. This quantifying of people time should be incorporated into each roadmap and BRD/TRD process, as it helps provide visibility into what opportunities can be undertaken at what times. Obvious but often overlooked, not all projects can be done all of the time.
In addition to data, it takes effective navigation of proper diligence to answer the key questions above. Doesn’t need to be an exhaustive, months-long process, but identification of supporting needs for your opportunity helps in further modeling the economics and potential ROI. Does your new project require ancillary software to run more efficiently? Can your new project scale with increases in traffic or volume (and if not, can you purchase or add scalability effectively)? What prices can we charge and more importantly, what prices do we think the market can bear over the longer term? While the answers to proper diligence may not always be numerical, cross-departmental collaboration is always effective in flushing out unforeseen circumstances or obstacles.
With the proper data and diligence in hand, adding in the opportunity + efficiencies gained and dividing by the investments made for discrete time periods will give you an effective ROI (or OEI, if you are so inclined) that can be compared to opportunities and help with prioritization.
Obviously, an issue presents itself if one focuses on significant increases in profitability in the short-term at the expense of future growth (i.e., aggressive cost-cutting measures) or vice versa (ignoring near-term tactical strategies to chase riskier, long-term opportunities). It’s interesting to notice in looking at FactSet research, for the 1Q16, that 25% of the S&P500 missed their earnings number. Whether that’s because of ROI imbalance (short-term vs. long-term) is uncertain, but we do see that focusing C-level executives on the long-term becomes a challenge because the short-term appears more certain. Consequently, the propensity to focus on short-term goals and to meet/beat periodic number targets (as 75% of the S&P 500 did in the first quarter) results in decisioning that could become growth-averse or, even worse, discounting of highly ranked future ROI projects to drive some profit today.
As with all things, the answer is 'balance.' If inputs are well-vetted and ROI measures are stack ranked based on their value, choosing balance can become the optimal point on the efficient frontier due to the following:
Our focus on accelerated growth with improved profitability requires candid discussions amongst our team and a reliance on data and discipline. It’s a bit more work initially, but once our projects are ranked and layered, we can ensure that with the proper balance, our customers, shareholders, and employees will enjoy the fruits of labor (and profit) for years to come.