Project Management Primer #9 - Return on Investment

One important component of many formal business cases is a ‘Return on Investment’ or ROI calculation.

Simply put an ROI calculation compares the cost of a project with the benefits you expect to achieve.

Different projects can then be evaluated on a like-for-like basis and the best use for the money selected.

Obviously to compare costs to benefits they need to be stated in the same ‘units’ and not surprisingly these are usually “dollars”.

This is where the problems start.

The cost of a project is usually fairly easy to determine but the benefits can be much harder to quantify. Benefits are usually determined by asking the customer to estimate what benefits, in dollar terms, they hope to achieve through using the product.

This could range from freeing up someone from a manual process (saving money) to attracting more customers. These are fairly easy to put a dollar figure to but are based on future predictions which can be unreliable.

For example how many hours of someone’s day will you free up? How many more customers will this product attract?

Sponsors tend to inflate predicted returns in order to get 'their' project up and running. They will confidently stick a finger in the air and predict a 50% increase in customer numbers if the project is delivered correctly. While it is not primarily your problem, you might be lumbered with unrealistic expectations for your project.

You might also be lumbered with the blame for 'not implementing the project properly' when it fails to deliver the expected returns. Fortunately most companies are terrible at actually comparing expected results with actual results.

Notwithstanding this, if you can confidently estimate one of these values you can then compare your costs to your benefits.

Your return on investment is the ratio between the costs and the benefits with a positive ratio indicating profit, or a return on your investment. This is normally done over an extended period of time to determine when the product will reach its ‘payback’ point.

For example if I decide to make a terrific new product which would help me breed marmosets, I could work out the ROI like this:

1. I estimate that it will take me roughly six weeks to design, develop and debug my product.

I will also need a new PC costing about $2000 and some important marmoset measuring equipment costing about $500. I also pay myself about $500 a day, so the cost would therefore be : 30 working days x $500 + $2500 hardware = $17 500

2. By surveying my prospective market I determine that there are about 1000 marmoset breeders in my local area.

I estimate that I will reach about 10% of them the first year, then as my fame catches on I will sell to another 30% of them and then as competing products come on the market sales will decline back to a steady 10% per year.

More Tutorials:

• 10 Truths for Successful Project Management

• Scope Triangle

• Critical Path

• The Mythical Man Month

• Defining the Project Scope

• Scope, Visions and Goals

• Using Project Goals to Filter Requirements

• Difference between a Business Case and Project Proposal?

• Return on Investment

• Requirements Specifications

Project Management Templates

Here are some Project Management templates you can get on our partner's site.

	The Change Management Kit provides the documentation required to control changes to the scope, deliverables and resources within the project. The Change Request template allows staff to raise a change request within the project.
	The Project Planning Kit provides you with all of the project management templates, documents and forms required to plan a project by helping you to schedule time, cost and resources.
	The Quality Management Kit includes a suite of templates used to assure and control the quality of deliverables within a project.
	Project Initiation Kit Start a new project by documenting a business case, undertaking a feasibility study, defining the project scope, recruiting key staff and locating them within a project office.
	Project Execution Kit Manage time, cost, quality, change, risks and issues during the execution of your project, as well as supplier procurement and customer acceptance.
	Project Closure Kit Helps close your project by handing over deliverables and documentation to the customer, terminating supplier contracts and releasing resources back to the business.