Challenge 2017 ROI Analysis and Understanding Value

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1 Challenge 2017 ROI Analysis and Understanding Value The final quarter of the challenge programme is designed to help you review and analyse before setting your new standard and creating a new plan. By applying the learning from this year you will be able to create clearer problem statements with an improved roadmap for change. Here we introduce some key concepts to ROI analysis and understanding value which we believe will help you to identify key characteristics of a good challenge to support your future projects. Taken from HBR Tools: Return on Investment, four methods of calculating ROI, here are the 4 basic steps for ROI analysis: Initial Outlay Typically, the easy bit, add up all the costs involved and time spent. It s rare to just buy a piece of technology and expect to turn it on and see the difference. You will need to consider all project implementation time. This could include: equipment/technology costs, installation costs and time spent either attending of delivering training/workshops. It can be tempting to reduce the initial outlay by not investing in stakeholder management, training and effective communication. Our experience from over 10 years of innovation awards is that greater return is experienced with greater engagement of people. Forecast the progress of the investment This next step is possibly the hardest, as you will need to forecast the difference your project will make to your organisation, colleagues and customers. This is often where your stakeholders and finance department will ask the toughest questions and scrutinize your estimates and assumptions. You will need to estimate the impact of your project over a period of time, from initial implementation and subsequent months/years. Determine the minimum return (the hurdle rate) Often determined by your finance department, the hurdle rate is often based on cost of capital and project risk. Hurdle Rate: In capital budgeting, hurdle rate is the minimum rate that a company expects to earn when investing in a project. Hence the hurdle rate is also referred to as the company's required rate of return or target rate. In order for a project to be accepted, its internal rate of return must equal or exceed the hurdle rate. Following on from the forecast, you should be able to predict the point in time where the investment has been made back and improvements are now being realised. Evaluate the investment The final step is to evaluate if the project is worthwhile. Ideally, use more than one ROI calculation and gain different perspective to understand the intangible benefits above costs. If completed prior to undertaking the project, this will help you understand the value of invested and if compared to other projects which one could generate the greatest return. If completed after the project this will help you with continuous improvement, applying what went well into future projects, whilst learning from mistakes. Other useful terms to understand: The difference between CapEx and OPEX Capital Expenditure (CapEx) Capital expenditure, or CapEx, are funds used by a company to acquire or upgrade physical assets such as property, industrial buildings or equipment. It is often used to undertake new projects or investments by the firm. This type of outlay is also made by companies to maintain or increase the scope of their operations. These expenditures can include everything from repairing a roof to building, to purchasing a piece of equipment, or building a brand new factory. Read more: Capital Expenditure (CAPEX) Definition Investopedia Operational Expenditure (OPEX) An operating expense is an expense a business incurs through its normal business operations. Often abbreviated as OPEX, operating expenses include rent, equipment, inventory costs, marketing, payroll, insurance and funds allocated toward research and development. One of the typical responsibilities that management must contend with is determining how low operating expenses can be reduced without significantly affecting a firm's ability to compete with its competitors Read more: Operating Expense Definition Investopedia

2 Understanding Value Tangible Vs Intangible Evidence In principle it is relatively easy to estimate future cash flows based on an initial investment, in practice this is not always the case. It can be very difficult to estimate to VALUE or ROI of an investment which didn t directly generate revenue. Your challenge project may not have a direct tangible return in revenue however, investments like this usually have plenty of soft evidence. Understanding the interconnection between your successful project implementation and customer satisfaction, employee engagement, attrition, reduce sickness, improved quality/compliance. You should then put monetary values next to this, for instance using the pre-work spreadsheet will help you and your finance team to understand the value. Completing the exercise on the next page will help you to understand: n What will not happen if I don t n What will not happen if I do n What will happen if I don t n What will happen if I do The Successful and Un-Successful Criteria Taken from our PSYCO effective action planning the Quick Target Check helps you to gain a more rounded understanding of the difference your challenge project will make.

3 Organisation: What will not happen if I don t What will happen if I don t What will happen if I do What will not happen if I do What will not happen if I do What will happen if I do What will not happen if I don t What will happen if I don t

4 Challenge 2017 Key Characteristics of a good Challenge: Exercise to complete During the 12-month continuous improvement cycle of the challenge we have introduced you to different methods to help you plan, act, review and analyse. This cycle enables you to learn by helping you to apply your learning into the next plan. New standards will be set following each cycle moving you towards continuous improvement. How has your Problem Statement evolved, or changed during the year? How often have you discussed your challenge progress with your key sponsor? What, or who has given you the most support, or assistance this year and why? What has prevented, slowed or stopped your progress this year and why? What are you doing differently, that you weren t doing at the start of the year? What advice, or Top Tip would you give someone to help them achieve their Challenge project?

5 Challenge Challenge Completion Statement This whole document should be approximately two sides of an A4 document. The issue This is your original problem statement. This should be a short paragraph. Actions Taken and Reasons n Is the issue you originally documented still the issue, or was something else causing the problem? Did the focus of the business change so that your challenge changed during the year?. n From tracking the impact of your project, what do you feel is the biggest achievement/best result? n How have people reacted to your project? n How difficult was it to gain the buy-in and support you needed? n What did you do that produced this level of support? Results n Please attach the ROI calculator as an appendix. n Also add a paragraph or two to explain why you used the figures you did. Is there any other results that cannot be put into figures, e.g. improved relationships. n What was or was not achieved? It is still a challenge project if your findings took you down a different path from your initial problem statement. Learning n Reflection on what you learned from the challenge. n What did your colleagues or wider business learn? n What would you do differently or repeat in next year s challenge? 2017 Challenge What are you planning to work on for the 2017 Challenge?

6 Recommended further reading Best Practice Week on Engagement Register for the best practice week and watch webinars and read the best practice material on Stakeholder & Operations Engagement. Understand the 4 components of influence Nick Morgan, Harvard Business Review HOW to Influence colleagues with practical tips Jo Hale, HBR Tools: Return on Investment, four methods of calculating ROI Payback The payback method is probably the most commonly used method in ROI calculations. It shows the time required to earn back your initial investment. Initial investment divided by cash flow/year = Payback period Net Present Value (NPV) The net present value (NPV) method compares future cash flows with the initial cash outlay, but it takes into account the time value of money by discounting the future cash to what it would be worth today. The discount rate used i8s simply the company s hurdle rate. Discounting converts all the cash flows to the same time period so that they can be fairly compared. Internal Rate of Return (IRR) Internal rate of return (IRR) is a useful method for analyzing proposed investments. It s commonly used by financial analysts in conjunction with NPV. The simplest definition of IRR is this: It is the hurdle rate where NPV equals zero. In other words, you find out what the hurdle or discount rate would have to be for the project to exactly break even. Profitability Index (PI) The profitability index (PI) is a great tool for comparing one project with another. It s less common, but it can be very helpful if you have limited funds to invest and are considering many different projects with varying initial investments. This tool ranks projects according to the different values they bring back to the business. Investipedia Investopedia is the world s leading source of financial content on the web, with more than 20 million unique visitors and 60 million page views each month.