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Tenet #2 - Ten Tenets of Portfolio Management - Demand alternatives

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by Larry Pendergrass, Principal

In last week’s blog I stated that every good PPM process must start with a clear understanding of strategy. While the PPM process will influence to some degree both the strategy and the execution of projects in an iterative way, the PPM process must start with a solid baseline expectation of strategy, including corporate, business unit, product line, technology and process strategy. In this second blog in the series, I will discuss the critical nature of requiring alternatives when presented with an opportunity in which to invest.

Through discussions with key thought leaders and from my own experience in high technology industries, I have developed the following Ten Tenets of Project Portfolio Management. These Tenets are the essential elements that I try to keep foremost in my mind when cultivating a new portfolio management process, improving or improving an existing process. These tenets are:

  1. Align strategy first.
  2. Demand alternatives.
  3. Create common valuation.
  4. Apply uncertainty.
  5. Balance goals.
  6. Use visual analysis.
  7. Design tiered portfolios.
  8. Improve flow.
  9. Monitor rigorously.
  10. Institutionalize learning.

Tenet #2: Demand alternatives.

Often in your management career you will be presented with opportunities, and asked to make decisions whether or not to fund those opportunities. Thumbs up or Thumbs down. This binary decision making is the most common way new projects are started. To make the decision easier, most firms use financial benchmarks or hurdles, like the Net Present Value of cash flows (NPV), the Internal Rate of Return (IRR) and the Break Even Time (BET). In the absence of restricted investment capital, the decision-maker need only compare the project financials with the hurdle rates. What could more simple? For example, in a rule-based system a project with NPV > 0 may get approved. And anytime we can reduce to a mere binary decision-making process based on previously established rules, we save time and favor consistency. Right?

“Everything should be made as simple as possible, but not simpler.”[1] Albert Einstein

Unfortunately for us, creating a decision-making process as a simple binary, rule based algorithm for Project Portfolio Management (PPM) misses the mark significantly. It’s more complicated than this. There are at least 4 problems with the hurdle-driven, binary decision:

  • Firms have limited capital.
  • The binary decision process tends to create “victims” as opposed to involved managers.
  • The data input for the decision has inherent uncertainties and risks.
  • There are many possible modifications to the proposed opportunity that could make it better.

Limited capital: Firms have limited funds to spend on new opportunities. Any new opportunity needs to be weighed not only on its own merits, but against all other opportunities regardless of their stage in the development process[2]. While including risk and uncertainty, the question is “which projects have the best chance of achieving the firm’s goals?” Replacement decisions may receive an easy “no” when weighed against late-stage projects (where the project is closer to completion and lower risk), but decisions should be harder when the comparison is made to early stage projects. All too often however, managers are reluctant to make it a part of standard practice to examine new proposals in light of current projects in the active funnel. This evaluation is a perfect role for PPM processes, assuming you have staffed the team with the right people. It requires a clear understanding of strategy and current status of execution of all projects in the portfolio.

Becoming a Victim: The simpler and more confined the choices are available to us, the more we feel like victims, perhaps stuck between the proverbial “rock and a hard place”. It’s my observation that the more a leader demands and sorts through choices rather giving a simple “yes” or “no” to a single opportunity, the more they are personally involved, and the more they own the successful outcome of the project. In a binary decision world, if yes or no are your only choices and neither choice feels great, it’s easy to feel painted into a corner  and the victim of circumstance.

Inherent uncertainties: Our ability to predict the future is limited, even by the most experienced of our business soothsayers. We will talk more in Tenet #4 about this, but opportunities should be presented including an estimate of uncertainties and risks in the data, ruining the chances for a simple binary decision.

Maybe it could be better: The project advocates don’t have all of the information for potential trade-offs that are known to top leaders. If the baseline proposal requires a certain level of investment in expense and capital money, what would the project look like with 20% less? What if we modified the proposal to a project where the resulting product or service covered a larger market? What if the project was allocated the firm’s all-star engineering staff, but the schedule was reduced by 30%? Essentially every variable in the project can be challenged. Train your management staff to present you with choices that

Focus on changes in the most important variables, rather than accepting a simple proposal that demands only a binary decision. Developing a management staff so that this practice is standard will take time and the delivery of a consistent message. When your staff presents a single opportunity without choices, no matter how compelling or how you may feel about the project, you need to turn these managers away and ask them to deliver choices. Only in this way, with an unfailing resolve, will you be able to instill in others an understanding of your expectations. And only through this process will you maximize the firm’s chances of meeting or exceeding its goals.

Do not be satisfied with the presentation of a single option with a binary outcome. Demand alternatives from your staff. Weigh these alternatives against each other and against all current active projects before making your decisions to accept or reject a proposal.

 


[1]This quote is attributed to Einstein, though it is probably a paraphrase of “It can scarcely be denied that the supreme goal of all theory is to make the irreducible basic elements as simple and as few as possible without having to surrender the adequate representation of a single datum of experience.” I like the simpler statement, an Einstein quote or not.

[2]Some firms attempt to make rule-based decisions account for limited capital using hurdles like the Profit Index (PI) or NPV Efficiency (NPVe). NPVe is the NPV of cash flows divided by the project investment. These are usually better measures in the face of limited capital, and will at least scale the long-term value to the company by the amount of limited capital used. However, PI or NPVe should still not be used as a binary decision tool, in replacement of a good PPM process.

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