The importance of ROI
What is it and how to do it
Figuring out the value of projects and investments has always been a challenge, especially when it comes to IT. Many businesses classify IT as a support unit, and some of them even treat IT like a pure cost center. How do you go about demonstrating that you are of any value at all when you are only looked upon as something that drains money from the cash flow? The answer is easy: by leveraging your metrics. Metrics are the numbers in our business. You change your metrics when you invest, when you produce revenue, when you hire, when you … do anything at all.
One of those important metrics is the ROI, or Return on Investment. It’s a key calculation in answering the underlying question, should I do it or not. The ROI calculation shows you the value of the project, and it allows you to compare your projects to other business endeavors. Let’s say you can invest in a new data center, and it will pay for itself in 2 years while you can invest in a new truck and it will pay for itself in 10 years, you have a better ROI for the datacenter.
The formula for determining ROI is very simple. The benefits is what you gain from what you want to do and the Cost is what you need to invest to realize the gains. Figuring out the benefits is the tricky part. There are two types of benefits, financial gains and non-financial. You can put a price on the financial benefits, but not the non-financial ones and often the benefits are mixed together. You might need to deconstruct the benefits to be able to quantify them.
The trick for figuring out the is that they need to be quantifiable and realizable. That’s no easy task in larger corporations, since you’ll get questions like: what needs to be quantified, how does it relate to business objectives, can you quantify it, what are the assumptions. These questions have different answers to different people.
Another thing to consider is the difference between non-financial and financial benefits. Let’s say you are thinking about buying new monitors for your developers, the developers say that with the new larger monitors they’ll be 30% more productive. To support their case, they provide articles and research that support their case. You decide to run with it. Now, for the gain to be financial, you need to be able to measure developer productivity, how do you go about measuring that in a way people agree upon? What we have here is a non-financial benefit in the form of happier developers. However you might be missing the financial benefit of saving electricity with newer monitors, leasing instead of buying, etc.
Weaknesses and strengths
The benefits of using ROI calculations is that if done properly makes it easier to compare investment opportunities and prioritise projects from a business perspective. It can also increase visibility of important projects spearheaded by units futher away from the C-suite and the PMO.
The main weakness of ROI calculations is that it is often used as a predictive metric. It’s a popular tool when answering questions like “should I do A or B” but as we know many things can change when you embark on a project, scope changes, teams are re-staffed, external delays raise costs, and change management can be ineffective. If you build the greatest thing in the world, and nobody uses it, you can’t realize any benefits at all. We recommend that you include ROI calculations in your retrospect’s when closing a project so that the organization can learn how to realize value, what assumptions are simply wrong and last but not least, to celebrate the good work they are doing and all of the realized value that the project delivered.
Making a proper ROI calculation despite the simple formula is just as much an art as much as it is science, and the outcome is heavily influenced by culture, beliefs and those involved.