Calculating ROI: An exact science

Companies are more critical of new software purchases than they have been for 10 years. Today, software projects have escalated in magnitude and importance - becoming big enough to make an impact on the "bottom line" and highlighted in the media when they go wrong.

Yet return on investment (ROI) analysis processes have not changed in the past decade. In fact, many have withered into something more appropriate for buying new vehicles or leasing new office space than for making complex decisions about technology.

ROI should be an exact science. It should be possible for companies to calculate the value of a new technology purchase in terms of its benefit in the immediate, near- and long-term.

But it`s not. Many companies simply don`t put measurements in place up front - and therefore can`t report the project ROI at the end of the day.

On the other hand, companies launch big software projects such as enterprise resource planning (ERP) and customer relationship management (CRM) - which can run into many millions of rand - with a completely false sense of how and when the projects will pay off.

For example, the generally expected ROI is cost reduction. Many company decision-makers expect a new technology purchase to benefit the company in terms of lower operating costs.

But careful analysis of the situation might reveal a need for more market share for the company`s products and services. How will the new purchase impact here?

What about returns such as more efficient and accurate sales and market trends forecasts? Surely these will be of immense benefit to any company in the long-term?

So too will be better plant maintenance scheduling to take advantage of the best down time opportunities, and increased availability of warehouse space through more diligent allocations. What role does ROI play in these scenarios?

These examples are joined by many more that are seldom selected when ROI is first mooted.

It is important to nominate an ROI champion or sponsor. It should be someone drawn from the executive ranks - preferably the CEO or CFO - who can take control of an investigation into the true ROI benefits of any new project from a holistic, company-wide, perspective.

Without clearly identifying the ROI custodian or "change agent", the issue of ROI can degenerate into a heated battle between groups of people - sales, production, administration - who will all propose technology purchases to suit their immediate goals and skew ROI figures to suit their vested interests.

The next step is to prioritise the needs and goals of the various departments and move towards a marriage or convergence of the technological and strategic requirements of the company.

Many software vendors, for example, interact with their customers at a technical level and not at a strategic level. Without this paradigm shift, any new project is in danger of delivering an ROI that, while it might look good on paper, is far from the actual needs and requirements of the organisation when viewed strategically.

The most important quest that the change agent should undertake is a search for the truth in terms of the position of the company relating to efficiencies in various departments.

To get a clear picture of ROI benefits - and keep costs for doing the research from escalating out of control - companies need to develop a methodology that they use consistently.

Many organisations - as high as 85% in a recent survey by Meta Group - claim they have a process for performing ROI analysis. But only 12% of those surveyed actually calculate ROI for all their software projects on a company-wide basis.

As one industry watcher put it: "There`s a lot of false precision created by doing lots of work and gathering lots of detail when the fundamental assumptions are flawed."

Setting ROI goals is very much like the long distance runner`s objective of "finding good roads on which to run - and knowing how to run well".

There needs to be collaboration between the vendor and customer at strategic, tactical and operational levels.

Major software packages, such as ERP and CRM, are intended to change the fabric of the company - the ways people work - to make the organisation more efficient and productive.

Many of these applications focus on the automation of processes - such as procurement.

To determine the true ROI of an automated procurement process, for example, many hours will have to be spent interviewing people about how they do their work, and what the implications of a new automated process would be.

To arrive at "real" ROI number might require some hard decisions, such as head count reductions, department reorganisations and personnel reassignments.

Productivity is the most important aspect in ROI analysis. In a recent international survey 75 CEOs from a broad cross-section of companies cited "productivity" as by far the most important factor in determining ROI.

Productivity issues are gaining in importance as corporate governance requirements - including net present value and other scoreboard metrics - come under the spotlight from regulatory bodies the world over, including SA.

One last rule: If the proposed productivity benefits do not materialise before the third year of the project, it`s probably not worth doing.

In order to achieve immediate productivity returns, the corporate change agent should not be averse to altering direction, moving goal posts and revising strategies as the project develops and the areas for more meaningful ROI are revealed.