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Just a Reminder June 13, 2010

Posted by Jason in Insider's View Relapses.
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How do you justify your capital expenditures or budget decisions? If yours is a typical firm, management should undertake at least an informal cost/benefit assessment, but there are undoubtedly also many intangible benefits that drive most capital decisions. Even so, as a business owner, wouldn’t you expect that even the warmest, fuzziest aspects would somehow flow through to a monetary benefit?

Just a few days ago I found a striking reminder that many business owners may be missing a crucial connection between their operations and their true business goals. Think for a moment about some of the common tools you use in your operation. They might be AutoCAD or Bentley, Microsoft or Linux, or any number of packages for accounting, time management, or project tracking. Think about how these tools benefit the firm. There are some clear monetary benefits such as reduced hours on particular tasks, but there are also subtle effects such as a “smoother” operation that can be difficult to quantify. Are these real benefits, or just fancy words?

This brings us to an insightful article in CRM Magazine, a trade publication covering Customer Relationship Management. If your firm is big enough to need such an application, you hopefully are familiar with this acronym. Even if not, you can always benefit from other industries’ insights — you never know what you might find. The piece in question discussed the value that firms place on their CRM software via annual customer surveys. Not surprisingly, many firms ranked benefits that sound an awful lot like those an engineering firm might expect from its own software purchases.

They included such things as:
• improved communication;
• improved forecasting;
• reduced administrative burden;
• improved accuracy; and
• improved win rates.

All noble goals to be sure, but do you see anything missing? Way down the list, in ninth place, was “increased revenues” (down from third in 2005). Did the hairs on the back of your neck stand up? Probably not.

We are so accustomed to hearing these sorts of benefits (features, really) that we forget the real reason that we should make any investment — to increase the business cash flow or profitability. Using the first item as an example, it seems obvious that we would want to improve communication throughout the business, but what are the underlying reasons? A common thread might be employee or client satisfaction. But though we might treat our staff like family and dote on our most loyal clients, the financial statements don’t care. Financial statements are only concerned with such things as recruiting and training costs, project revenues, or marketing.

Similarly, we might say that it is quite important to improve the accuracy of our designs and calculations. As engineers, accuracy for the sake of accuracy seems like a good enough reason, but again, it’s not a sufficient foundation for a business decision. What do those extra significant figures represent? Reduced liability? Repeat clients? A niche market? But even this is not enough. What is the value of that repeat client or market? What is the cost of a claim?

These are not easy questions, to be sure. Many managers simply categorize them as incalculable and move on. But this is surely a mistake. Though difficult, these questions should prompt a thoughtful discussion about the deeper financial costs and consequences of any business decision. Even if exact numbers are hard to come by, managers and executives need to have some level of understanding of the relative values of their alternatives.

As will always be the case, management should automatically question the value of any investment. But let me repeat, this does not imply a continuous cycle of ruthless, rigorous analysis or hard ROI targets. The difficulty in setting a specific value on a particular decision should not prevent management from simply knowing that such a connection exists. If you can’t at least demonstrate or explain it, it either isn’t real, or you need to spend some time with your staff to better understand it. Anything else is just guesswork.

— from Insider’s View, May 2010



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