In recent blog articles, I have been focusing on “Selling Technology Investments to the ‘C’ Suite.” As regular readers know, I often talk about the “Three Pillars of Technology Investment” as a model to think in business terms about how ROI is achieved. In this series, I drilled down to talk more about hard and soft costs and benefits and about the amorphous and oft-misunderstood concept of sunk or “non-differential” costs. Now I want to turn to some real world examples of technology investment in Wireless WAN (WWAN) technology using these concepts.
My fellow bloggers have provided a great deal of background on WWAN. In a nutshell, WWAN allows a company to connect to its enterprise WAN via a Sprint 3G or 4G wireless connection, eliminating redundant POTS lines or other landline alternatives. While there are a number of commonplace applications for such technology, I continue to be surprised by the number of never-before-seen innovative applications that companies and integrators come up with to use the technology.
Many of the most-obvious scenarios provide immediate hard-cost savings. Legacy technologies such as POTS, VSAT, frame relay, etc., not only can cost more to deploy, but to support as well. I think most readers are pretty familiar with how to show the ROI when investing in WWAN to replace such legacy technologies. But what about a scenario that doesn’t provide hard cost savings, but instead provides only soft benefits like “shortening time to market.” What’s that worth, really? Is there an ROI for shortening time to market?
Imagine you’re a retailer and you set up 1,000 kiosks in local malls all across the country each holiday season. You sell high-value merchandise, so 90 percent of your products are purchased by credit card. You won’t even open the kiosk if the connectivity isn't there. In an average year, as your selling season starts (on the so-called “Black Friday”, the day after Thanksgiving), 10 percent of all kiosks cannot open because your hard-wired connectivity (scheduled to be provided from a commercial property owner, or a LEC or CLEC, etc.) hasn’t been delivered on time. Also, let’s assume that the affected kiosks have to delay their opening for 10 days on average due to the connectivity issue. What’s the value of a WWAN solution that would eliminate the lost sales for these unopened kiosks?
Well, for starters, how much revenue are we losing here? Well, 100 unopened kiosks times 10 days would be 1,000 kiosk-days. If we know that the average daily revenue of a single kiosk is $1,500, that’s $1.5 million in lost sales each holiday season. Now, before we run to the CIO claiming WWAN solution will increase cash flow by $1.5 million, we have to take a look at the most difficult part of the ROI calculation.
To figure out the cash-flow impact of your solution you first need to deduct the “cost of merchandise sold.” If you think about a typical merchandising model, it’s pretty easy to understand that if I sold you a product for $100 that I purchased for $50, then my real incremental cash flow is typically no more than $50. The exception to this is when the inventory is perishable (or otherwise not able to be resold for myriad reasons if the kiosk doesn’t open). In those cases where “spoilage” is a factor, the “cost of merchandise sold” or a portion thereof can often be considered sunk—and you actually do get to count the full $100 value of the sale toward the “return” on your investment.
In those cases where the merchandise is not perishable, I might be able to claim the whole $50 gross margin as the economic value of my solution; but, in other cases, I may only be able to claim a portion of the $50 as a “return” on my investment in the solution. The thing that determines whether I get to claim the whole $50 or not is whether my overhead is a sunk cost.
A case where the overhead is sunk would be one where, regardless of whether my kiosk is operating or not, I have to pay the shopping mall rent for the kiosk space; I have to pay workers to set up the kiosk; I had to pay IT to get the kiosk ready for connectivity; and I had to pay the kiosk employees (assume the contract with the employees guarantees them a full day’s pay whenever the kiosk is unopened due to no fault of their own.) When all of the overhead cost is sunk, I get to count the gross margin on every sale toward the return on my investment.
On the other hand, a case where the overhead is not sunk might be one where my contract with the mall doesn’t require me to pay them rent if I don’t have connectivity (because the commercial property owner was providing it as part of the rent); I don’t pay employees for any days that the kiosk is not open; and I can resell every item of merchandise at the unopened kiosks simply by shipping it to another kiosk during the unopened period (assuming customers are so motivated that they will drive to the other mall to get my highly desirable product) . While it is rare to have a “lost sales” situation where no costs are sunk, in this hypothetical situation, I would only get to count the net profit toward the return on my investment. If my overhead is typically 35 percent of sales, I would get to count 15 percent of revenue as being created by my solution. So in this example, that would be $225,000.
In reality, the true value of a solution will rest somewhere between the two extremes described above. The lesson here is to turn over every rock looking for sunk costs when trying to prove a return on investment when saving or increasing sales. Now, keep in mind, the value we’re referring to in any of the aforementioned cases still needs to be offset by the cost of the solution to determine the “return” on the technology investment.
There is nothing “soft” about this kind of math. Any executive who owns the number for top line revenue will agree with your logic and support your solution, perhaps even if it costs $224,999 to implement. Now, you might be asking why anyone would invest in a solution that returned only $1—especially if you have been taught that your company has a hurdle rate of 10 percent ROI to have a project funded. The answer to that question is in Part 6.
Read the whole series:
Selling Technology Investments to the “C” Suite
Selling Executives on the Hard Costs and Benefits of Technology Investments
The Soft Costs of Tech Investments
Sunk Costs and Technology Investment
A Funny Thing Happened on the Way to Part 5