In today’s harsh economic climate, CFOs and CEOs are asking tough questions about the returns on investment from their e-business projects. They are confronting CIOs with the command that Cuba Gooding Jr. repeatedly says to his agent in the movie Jerry Maguire?”Show me the money!” Gone are the days when e-business projects would be approved based on faith, fear or greed. Nowadays, every such project has to be justified with a solid business case that includes an estimated ROI.
While the emphasis on accountability is laudable, companies may be making a mistake by jumping on the ROI bandwagon. Not only is the measurement of ROI for e-business projects an elusive goal, it may not even be the right way to think about measuring payoffs. By focusing solely on what is measurable and quantifiable in terms of dollars and cents, companies risk being precisely wrong instead of being approximately right.
It is easy to understand why ROI is popular. It is a simple concept that everyone can understand. ROI and its cousins (ROA, return on assets; ROIC, return on invested capital; IRR, internal rate of return; and NPV, net present value) are concepts that finance executives have traditionally used to measure performance. And, IT investments have conventionally been evaluated on ROI, measured in terms of cost savings attributable to investments in business process automation. So, ROI seems like a logical way to assess e-business payoffs.
The Pitfalls of ROI
While the simplicity of ROI is seductive, we would do well to heed the advice of Albert Einstein, who warned, “Everything should be made as simple as possible, but not simpler.” ROI is a simple tool, but it may be simplistic in the context of e-business projects. Here are some of the biases that can result.
Bottom-line bias. ROI emphasizes tangible payoffs that can be measured in financial terms. Often, the easiest to measure returns are bottom-line improvements arising out of cost reductions. Consequently, ROI tends to favor projects that result in cost avoidance, at the expense of projects that promise revenue growth. However, the only way to grow the bottom line on a sustainable basis is to grow the top line, which is easy to ignore if every project is measured on tangible ROI.
Inward bias. Investments in customer- and partner-facing initiatives result in more effective collaboration and translate into important productivity benefits for customers and partners. However, ROI measures only the returns that the company sees within its internal operations. By ignoring the value created for partners and customers, ROI may be missing the real point of e-business.
Unidimensionality bias. ROI requires that all benefits from a project be translated into financial terms. However, most e-business projects result in payoffs on multiple dimensions. For instance, a partner relationship management initiative may provide lower inventory costs (measured in dollars), faster order fulfillment (measured in time) and improved partner satisfaction (measured subjectively). Not all returns are financial returns in the short run, although they eventually may impact financial performance of the company.
Fixedness bias. E-business projects often follow the law of unintended consequences because they cross functional and enterprise boundaries, and may produce payoffs in ways that were hard to imagine at the outset. Cisco Systems’ Connection Online began as a customer-care initiative. However, the forums proved an excellent tool for the new product development group to gain customer insight. The payoffs may accrue to marketing, in addition to customer care. An ROI calculation at the outset would have missed that point.
Immediacy bias. Most e-business initiatives take time to get accepted and widely adopted. Declaring failure or success based on a three-month or a six-month ROI may be misleading, especially for projects that demand significant change management.
Getting Beyond ROI
The key to escaping the ROI trap is to think strategically about the outcomes and the payoffs from e-business. Here are some prescriptions.
Focus on value. The anchor for any e-business project should be the value created. The business case should be anchored in a quantifiable and precise value proposition for internal and external audiences, defined in terms of benefits and in a vocabulary that is relevant to the audience. For example, when Eastman Chemical began its e-channels initiatives, it declared: “We will be the easiest company to do business with in the chemical industry.” The proposition of “ease of doing business” needs to be translated into specific outcomes and measures, which then become the basis of measuring progress and performance. Focus on value created for customers as opposed to cost savings for the company.
Think broadly and softly. To avoid the unidimensionality bias, supplement hard financial outcomes and metrics with soft ones that may be more strategic in nature and may be important leading indicators of financial outcomes. Measures such as customer and partner satisfaction, customer loyalty, response time to competitive actions and improved responsiveness are examples of soft measures. And subjective measures can actually be quite objective if used consistently over time. For instance, customer satisfaction measured consistently on a five-point scale can be an objective basis for measuring the performance of customer-facing initiatives.
Pay your freight first. Think carefully about short-term wins that you can document to pay the freight for the initial investment in the project. For example, a telecom company found that it could justify its investment in data warehousing based solely on cost savings from data mart consolidation, even though the real payoffs from the project would come from lower churn and increased cross-selling opportunities.
Follow the unanticipated. Keep an open mind about where the payoff from e-business projects may come from, and follow opportunities that present themselves. Eli Lilly & Co. created a website called InnoCentive (www.innocentive.com) to attract scientists to solve problems in return for bounties. In the process, Lilly has established contact with 8,000 exceptional scientists. Now, the HR department has become very interested in this initiative as a talent pool. Sometimes, the detour becomes the main road. If you see one, take it.
In the heady days of yore, CIOs could get almost any e-business project approved because everyone else was doing it and nobody wanted to be left behind. Now the bean counters are back with a vengeance. However, by relying excessively on ROI as the tool for enforcing accountability, CFOs may be asking the wrong questions.