Making Uncertainty Your Ally: How BI Plus Strategic Portfolio Management Increases ROI
A simple, classic visual tool can have surprising power.
- By David Matheson
- July 18, 2017
One thing executives in all industries can agree on is that it's impossible to predict the future. From forecasting competitors' innovations to getting advance warning of political realignments, there's just no way to have certainty when it comes to planning. One of the biggest areas of uncertainty is management of innovation project portfolios, specifically when it comes to deciding where to allocate resources to achieve the best possible results while eliminating investments in projects that won't succeed.
What if there actually were a crystal ball that would let you know when to double (or triple) down on your investment and when to walk away before you throw good money after bad? In fact, there is. It's an application of decision science to business intelligence, and it's called strategic portfolio management.
Beating the Numbers Game
Companies spend billions of dollars on products (from drug therapies to new cars) that will never see the light of day. The ability to predict the future would be handy as executives weigh which projects have the most potential. In fact, forward-thinking organizations are doing just that.
Many businesses use a binary process to evaluate innovation projects, identifying which should go from laboratory to market and which to rethink or scrap outright. However, this approach can only judge projects individually and for a neutral market. It is woefully inadequate for comparing and contrasting how products will fare in an uncertain environment. Two projects with the same net present value could have very different upsides and downsides that would not be evident unless executives compared their internal metrics side by side.
Putting Theory into Practice
Business intelligence isn't just about data gathering; applying that data to strategic business decisions is just as important. Portfolio management can take many forms. One of the best approaches is to sort projects on a chart or graph according to difficulty and potential reward. Getting excited about a chart might seem counterintuitive, but when you realize how powerful a tool a simple chart can be for a company's bottom line, you might just break out the graph paper.
We recently implemented and software-enabled a solution for a manufacturing company (Rogers Corporation) that broke out its portfolio into four categories:
- White Elephants: Difficult and non-impactful projects that are usually not worth pursuing
- Bread and Butter: Easy-to-produce projects with low but reliable impact
- Oysters: Lots of effort to produce a potentially impressive reward
- Pearls: Home-run projects that are both easy to develop and highly rewarding
"We realigned our portfolio to reduce White Elephants by looking for ones with upside potential to become Bread-and-Butter or Oyster projects and eliminating ones that didn't [have that potential]," says Shawn Williams, Rogers' VP of research and development.
To find the projects with upside potential, Williams used a tornado chart to see the "levers" that control a project's value. This invaluable business intelligence tool shows the overall range of a project's potential based on the uncertainties of various factors and compares those factors one to each other. Those factors with the longest bars have the greatest range, signifying a greater impact on the project's overall value. The further a bar stretches to the right, the higher the upside; the further to the left, the greater the downside risk.
How did this approach work in the real world? After all, people can be suspicious of "The Next Big Thing." The answer is, it worked well. Williams told us, "We ran a comparison of our portfolio valuation in January 2016 and again in September 2016 after reconfiguring our innovation portfolio. The portfolio reconfiguration increased the projected return on our innovation investment by 30 percent, and the average value of each project rose almost fivefold."
In our work with Rogers Corporation, we realized that the power of a portfolio of projects to drive growth was proportional to the composition of the portfolio. A portfolio weighed down with White Elephants is not able to generate as much growth as one rich in Oysters and Pearls. Rogers and SmartOrg together created a calculator that evaluates a given portfolio's composition and estimates its Portfolio Power. A Portfolio Power of five means the portfolio on average performs at the Bread-and-Butter level; lower than five is in White Elephant territory and higher than ten is in the Oyster to Pearl region.
The calculator also estimates the chance that the portfolio will meet a given growth goal. Surprisingly, nearly half the portfolios we've studied have lower than a 15 percent chance of meeting their goal, but one-fifth had a greater than 90 percent chance. Enterprises with a low chance of meeting their growth goals should seek out upside opportunities, and those with a high chance should probably set their goals higher. (The calculator is available at https://smartorg.com/portfolio-power/.)
A Final Word
Businesses today face serious challenges in the pursuit of growth. They must balance the need to maintain current profits against the increasingly difficult search for new market share, and thus they pit the limited value of incremental improvement against the risks of breakthrough innovation.
Because the risks of bringing new products to market are many, long-term strategic perspective may take a back seat to a short-term focus on tactical execution. However, a limited-growth strategy carries its own risks, including stagnation, diminishing ambitions, and a loss of existing market share and industry leadership position.
Strategic portfolio management mitigates these risks by giving enterprises the tools they need to allocate their resources -- where to hunt for Pearls and cut White Elephants loose. By leveraging business intelligence, firms can better focus their R&D dollars, creating safer and more profitable innovation portfolios, turning uncertainty into an ally.
About the Author
A cofounder of SmartOrg, Dr. David Matheson has helped the senior management teams at some of the largest product manufacturing corporations in the world to improve their results through portfolio management, product development, innovation, R&D, capital investment, and strategy. David is coauthor of the bestselling book, The Smart Organization: Creating Value through Strategic R&D (Harvard Business School Press) and is a fellow with the Society of Decision Professionals. His Ph.D. is from Stanford University where he teaches Strategic Portfolio Management at the Stanford Center for Professional Development. SmartOrg’s strategic portfolio evaluation platform and associated services align innovation and finance to overcome conflict and drive breakthrough growth.