introduction to Business Case Analysis and Online Product - - PowerPoint PPT Presentation

Software Economics introduction to Business Case Analysis and Online Product Management (9 Sessions) Session 1

Georg Singer georg.singer ät ut . ee

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Who am I?

• Austrian
• MSc ( theoretical physics), MBA (Business

administration)

• General management and business

development experience

• own Web projects

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Who are you ? – Introduce yourself-1 min per person

• Who of you is currently working?
• Who is not working?
• Who of you has budged responsibility?
• Who of you does not have budget responsibility?
• Who needed to write a proposal to get an

investment?

• Who is doing product management?
• Who thinks sales capabilities are important in getting

a project accepted?

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Course Objective

• Principles and methods of Business

Case Creation

• Role of measures like NPV, ROI, TCO

and the like for investment decisions

• Online product management
• Any wishes what to cover?

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Structure of the course

• 2 sessions covering:

– Principles of business case analysis

• 1 solving a case in class
• 1 pitching session

– You sell me your business case

• 1 Cloud computing economics and SaaS
• 3 sessions on online product management
• 1 OPM assignment presentations

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Grading

• Based on your two assignments:

– Assignment 2: Business Case Analysis (15 pts) – Assignment 3: Business Models & Product Management (15 pts)

• Grading criteria will be announced

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Readings and Resources

• Readings & resources listed in the course

pages:

– http://courses.cs.ut.ee/2012/se/ – D.J. Reifer, “Making the Software Business Case” – T. Pisello, “IT Value Chain Management- Maximizing the ROI from IT investments”

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What you have learned so far in the software economics course

• productivity and quality in development projects
• size and costs of software projects
• earned value analysis
• Measure Estimate Control
• Next 5 Sessions  Relating (potential) benefits with

costs (put them together in business cases)

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Outline of today’s session

• Economic Terms
• Setting and Motivation
• Definition of “Business Case”
• BBBBBRRREEAAAK
• Business Case Principles
• Business Case Tools

– Future Worth (FW) – Present Value (PV) – Net Present Value (NPV)

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After this course you will have learned

• Necessity of business cases
• Vehicle to sell change in organizations
• Metrics and measures for success and

failure

• Base your decisions on facts and data

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Economic/Business Terms

• Turnover/Revenue
• Profit/Earnings
• Profit Margin
• Tax
• Interest
• Compound interest
• If there are other UNCLEAR terms, please ask!

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The Setting: Business Environment today – Innovate or Die

• (Hyper)competition
• Innovation is key (products, processes)
• Improvement is everybody’s business, also YOURS
• Improvements often accompanied by software changes

(processes and products)

• Primary function of software is to accommodate change

(otherwise features would be put into hardware)

• Change and innovation is “done” by numbers
• Business cases are the medium to sell change

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The Reality – IT Executive

I.T. Staffs Lack Financial Chops For Project Analysis , 03/24/2003 , By Eric Chabrow, InformationWeek

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What is a Business Case?

• A business case:

– materials prepared for – decision makers to show that the

–idea considered is –a good one and that the

– numbers that surround – it make financial sense

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Business vs. Technical Cases

• Engineers and accountants speak “different

languages”

• You as engineers have to understand, how to

communicate the benefits of

– what are you trying to accomplish – in nontechnical language – so that that accountants, CIOs….understand it

• Sell change WITHIN and INTO organizations

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Some stereotypes about accountants

• So you better speak their language!

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Exercise – Create Business Cases

• 20 minutes, 5-6 groups
• SCENARIO: You are boss of a software development

company

• Due to the ongoing recession your company’s profits are

shrinking

• Create 5 business cases to boost the profits, please also

briefly describe your business

• Each group briefly presents the 2 best cases, explain why best
• Please summarize the cases in the following table:

What you will do What you will gain (EUR) What it will cost (EUR) Time frame (years) Risk of significant deviation (0-100%)

1 2 3

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BREAK 10 minutes

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Business Case Principles

• Decisions are made relative to alternatives

(opportunity costs) – Linux vs. Windows?

• Money common denominator
• Investment decisions and time value of money

(based on simple model)

• Quantitative (tangible) and qualitative (intangible)

factors

• The risks need to be quantified
• NOW WE DEVELOP THE TOOLSET TO MAKE BCs

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Session progress

• Setting and Motivation
• Definition of “Business Case”
• Business Case Principles
• Business Case Tools I – Time value of

money

–Future Worth (FW) –Present Value (PV) –Net Present Value (NPV)

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Future Worth (FW)

• How much a given sum of money is "worth"

at a specified point of time in the future

• PV=present Value
• n=number of years
• i=interest rate (rate of return, reflects risks

and uncertainty)

n

i) (1 PV FW   

Where does it come from?

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Formula for Compound interest - Too simple to show 

Year 0: V0 Year 1: V1 = V0 + x%= V0+V0*x/100= V0*(1+x/100) Year 2: V2= V1*(1+x/100)= V0*(1+x/100)*( 1+x/100)= =V0*( 1+x/100)2 Year n

Vn= V0*(1+x/100)n

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Example – Future Worth

• Your uncle in America passes away.
• You inherit $ 10.000.
• Due to bureaucratic hurdles getting

access to the money will take 6 years

• What is the future worth of the

money in 6 years given a rate of return of 5%?

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Solution

• FW= $ 10.000 * (1+0,05)6=
• = $ 10.000*(1,34)=
• = $ 13.400

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Session Progress

• Setting and Motivation
• Definition of “Business Case”
• Business Case Principles
• Business Case Tools

–Future Worth (FW) –Present Value (PV) –Net Present Value (NPV)

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And now the other way round....

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Time Value of Money

Excel Discount Factor Source: Investopedia.com

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Present Value (PV)

• Value of a future net cash flow (Cash in minus Cash
• ut) TODAY
• i= discount rate (risk free interest rate + risk

premium)

• n=number of years
• What are those risks?

n

i) (1 flow) (Cash FW

PV





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PV Formula – Deduction (again too simple to show 

• Inverted compound interest formula
• Start with future value formula
• FW= PV * (1+i) n
• Bring the discount factor to the right side
• PV= FW/(1+i)n

One more step to NPV

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Net Present Value (NPV)

• TOTAL Present Value of a series of net cash flows
• Net cash flow= Cash in – cash out
• i= discount rate
• N=total number of years
• NPV should be positive in order for a project to
• make economic sense



 



N n i) (1 Flow Cash Net

n n

NPV

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Example

• Introduction of new ERP Software
• Upfront costs (License, Training): € 100.000
• Other yearly costs: € 5.000 per year
• Benefits: € 30.000 per year (Cost savings)
• No Gains after 6 years
• Rate of Return: 10% (5% risk free interest + 5% risk

adjustment because. Software very new)

• Calculate the NPV

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Example Solution

Year Cashflow Present Value T=0

• 100.000/(1+0,10)0
• € 100,000

T=1 (30.000-5.000)/(1+0,10)1 € 22,727 T=2 (30.000-5.000)/(1+0,10)2 € 20,661 T=3 (30.000-5.000)/(1+0,10)3 € 18,783 T=4 (30.000-5.000)/(1+0,10)4 € 17,075 T=5 (30.000-5.000)/(1+0,10)5 € 15,523 T=6 (30.000-5.000)/(1+0,10)6 € 14,112 NPV € 8,881.52

Excel Simulation

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QUESTION

• Who thinks, Windows Vista was an excellent
• perating system?
• yes:
• No:
• Who thinks an upgrade from XP made financial sense

for a company?

• Yes:
• No:

Lets see!!!!

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Group Exercise (Slide 1/2) – 30 minutes Project: Upgrade from XP to Vista

• Please build 4-5 Groups
• One time Investment Costs(licenses, manpower, etc.):

– 2000 PCs, – License costs: € 150 per PC – Manpower (for installation): € 25 per PC (all in year 0)

• Yearly Maintenance Costs : € 50.000 (starting in year 1)
• Yearly Benefits € 150.000 (starting in year 1)
• Rate of Return: CIO wants 8% (4% risk free+ 4% risk adjustment)
• Years to the next upgrade: 4 (the next upgrade will be at the

beginning of year 5)

• What is the NPV?
• Is it a GOOD investment for the company  ?

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Exercise (Slide 2/2) - Interpretation of NPV

If... It means...(add, substract, not impact) Then...(accepted, rejected, yes/no) NPV > 0 the investment would ………value to the firm the project should ………. NPV < 0 the investment would ………value from the firm the project should ………… NPV = 0 the investment would …………value for the firm This project should ………..

After you have finished the first part, discuss and fill in the following table

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Solution

Year Cashflow Present Value T=0

• 350.000/(1+0,08)0
• € 350.000

T=1 (150.000-50.000)/(1+0,08)1 € 92.592 T=2 (150.000-50.000)/(1+0,08)2 € 85.733 T=3 (150.000-50.000)/(1+0,08)3 € 79.383 T=4 (150.000-50.000)/(1+0,08)4 € 73.502 Total € -18.787

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Solution - Interpretation of NPV

If... It means... Then... NPV > 0 the investment would add value to the firm the project may be accepted NPV < 0 the investment would subtract value from the firm the project should be rejected NPV = 0 the investment would neither gain nor lose value for the firm This project adds no monetary

• value. Decision should be

based on other criteria, e.g. strategic positioning or other factors not explicitly included in the calculation.

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Is it a realistic example?

• What is missing?

– Hard ware upgrades necessary to run Windows 7 properly – What does it cost to stick to Vista and skip 7?

• No hardware support
• Higher license fees for Windows X if Windows 7 was skipped

– Etc. – Etc.

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What we have done today

• Setting and Motivation
• Definition of “Business Case”
• Business Case Principles
• Business Case Tools

–Future Worth (FW) –Present Value (PV) –Net Present Value (NPV)

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Outline of next session

• More Business case tools

–Return on Investment (ROI) –Internal Rate of Return (IRR) –Payback Period/Break Even Analysis –Total Cost of Ownership (TCO) –…..

Thank you and see you next week!