This brief article is the second in a series of three regarding TCO and ROI. This discussion is an overview of ROI and its place within TCO. In later discussions, we will look at ROI's applicability within an SAP environment.
Introduction
"An ROI is an ROI" – never was a phrase more inaccurate…
"ROI is in the eye of the beholder," is a more accurate phrase. For example, the ROI for investment banking may look like this: "A measure of a corporation's profitability, equal to a fiscal year's income divided by common stock and preferred stock equity plus long-term debt. ROI measures how effectively the firm uses its capital to generate profit; the higher the ROI, the better."
This view would differ radically from the ROI metrics used for ERP applications or an eBusiness. For example, financial analysts struggled for years coming to grips regarding how they should measure Amazon.com's ROI. Another example would be implementing an Intranet application, such as SharePoint, etc. How does one measure and set expectations regarding ROI for an Intra-net application?
In this article, we will look at what elements make up the concept of ROI (from an ERP perspective).
In the next (and final article in the series) we will examine how they relate to SAP.
Knowledge learned in this article can be put to use when:
Executives require an understanding of ROI within an ERP universe
Users require an understanding of the various methods used in establishing ROI
TCO and ROI - The Basic Differences - A Re-Cap
TCO and ROI have two elements in common; time and assumptions. Everything changes over time and assumptions are always being made. Typical assumptions include payments will occur, objects will be created, etc.
Remember: you must manage your TCO to achieve ROI.
ROI (within the ERP universe) is generally approached from less a pure financial angle - ROI is typically computed from a business case perspective (often pre-initiative start).
With this in mind, an ROI business case will define the various business benefits and costs. These measurements are employed to justify the capital expenditures - along with on-going project resource commitments (time, people and money).Remember: ROI is also different from cost amortization: ROI is concerned with improving a company's overall bottom line; not spreading costs over time and throughout a company's various divisions.
How is ROI Measured Within an ERP Universe?
ROI offers a comprehensive measure of the true (or actual) economic impact of an IT application and/or service. In contrast to TCO, ROI also broadens the overall value assessment by incorporating benefits as well as costs into the equation.
As mentioned earlier, ROI is approached from a business case perspective. Therefore, benefits and costs may be given a chance to offset one another. Below is an example how this can occur:
Who Owns the ROI Within an Organization?
The ownership of the ROI dollar-figures within an organization is commonly shared (usually equally) amongst the Sales, IT and Finance divisions. The result of shared ownership has many advantages -- realistic numbers (others tend to want validation of another department's metrics), improved delivery – plus, a shared-ownership tends to assist in change management as well.
The group sponsoring the initiative (or having the greatest financial input), typically carries the true ownership. Therefore, they are typically first out with their business case (including the benefits).
That being said, when the various departments bring their ROI viewpoints to the table, a clearer picture comes into view:
How Do You Use These Measurements?
After collating the various Business Cases, the Steering or Sponsorship Committee (could be any type of oversight group) will review various cases presented and attached comments.
One personal observation of many Business Case reviews: they tend to focus on the 'hard dollars' and tactical (or immediate) benefits - not the entire ROI proposition. That's because many items cannot be quantified – yet they can be qualified. These non-qualifiable items (typically benefits) are usually referred to as 'soft-dollars' – whereas 'hard-dollars' are money or currency.
Examples of well-known 'soft-dollar' benefits include the spin-offs from the Apollo program: Teflon, Velcro, remote monitoring, communication satellites, advanced telemetry/monitoring, etc.
Of course, warfare (including preparations for war) also brings many 'soft-dollar' benefits as well: plasma, paramedics, jet planes, mobile telephones (including cell phones) and one more benefit of some relevance; the Internet.
From a business view, here's a way of evaluating the Soft-Dollar and Strategic side of a particular proposition:
Soft-Dollar Benefits
Intangible or difficult to quantify (e.g., newer applications can support better user interfaces. i.e., SharePoint or EP6 - improving the quality and timelines of information available for decision support)
Newer applications will bring best practices into the organization
Strategic Benefits
Based upon the above Soft Dollar and Strategic Benefits; it is apparent the actual ROI on the capital outlay may far exceed the invested dollar costs - just as the benefit of commercial jet travel far exceeded the developments costs of the first military jet.
However, like a strategic plan, further steps are necessary to ensure success – and 'staging' an ROI for success is no different.
To enable ROI to achieve this:
You should enact (or 'stage') the appropriate Realization Path:
An ROI Realization Path
Make the case for realistic funding
Obtain 'buy-in' from key stakeholders and signing executives
Clearly define any process-reengineering decision points
Use benchmarking, breakpoints, etc
Define your technology requirements - today and tomorrow
View configuration decisions and potential trade-offs
Begin Change Management early on
Clearly define your obtainable efficiency and effectiveness targets
Negotiate the project plan with other ROI-holders
Plan-many / Execute-once
Conclusion
Achieving ROI has become something of a 'holy grail' - something keeping many beneficial initiatives on the shelf.
Remember: ROI is just one side of the TCO equation – it should not be the overriding factor.
Proper planning, realizing the benefits-side of the equation and having a long-range focus can make the difference from hoping to realizing ROI - and the realization you may have already achieved ROI!
So, if nothing else; this short piece should bring to the forefront the concept of "Eventual dollars returned are but one view of ROI."
Finally, another way to look at ROI is the reaction of two 18th century Frenchman. They were invited (as potential investors) to a viewing one of the first hot air balloons.
“What good is that?” one commented.
To which his compatriot replied, "Yes, but what good is a new-born baby?
Written by Geoffry Houze, Data Management Group SAP Practice Manager
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